Hello and welcome everyone. Today, I am going to focus on an example for error correction before we get into the example, I want to recall. I want to refresh your memory that errors are treated retrospectively like change in accounting principle. Retrospectively means that I need to correct the entry now. Just the numbers for any of the accounts that are miss-stated, whether it's overstated or understated. So that's why I call it miss stated that has a value different than what it should show, and then I actually go and revise. Actually, in a comparative financial statements revised the number numbers of the figures of the accounts that were affected by that error. I actually also have a disclosure note to account for that error, so an actually there is only, okay? Also an additional point that in the error there is a prior period adjustment for their team learnings. If the error and most of them will affect income statement accounts because all the income statement accounts are accumulated in the retained earnings. So for the year that you discovered the error you will have a prior period adjustment for the beginning balance of the retained earnings to reflect the cumulative effect of the error on all previous income accounts. Let's get started, and look at this example. Universal company discovered that at three-year insurance premium payment of 240,000, one year ago was doubled to insurance expense, okay? So a year ago I paid 240,000, that covers three-year. It's a three-year insurance and I actually recorded that as an insurance expense. So the starting point is to compare what has been done versus what should have been the case. What should I have recorded it? So the incorrect and versus the correct, and then from the incorrect and the incorrect I will let record or infer the correcting entry. So I have incorrect entry, I have correct. Then, I can infer the correcting, which is the bridge to link both of them to get to the correct numbers that should be state. Here we go. The incorrect entry is actually insurance expense, 240,000, credit to cash, and that's what they did, mistaken? The correct should have been a prepaid insurance for the 240,000, and then an adjusting entry last year because it happened last year. To adjust the prepaid insurance by recording an insurance expense for the 80,000, and the prepaid insurance as a credit to decrease it by 80,000. As a result, the insurance expense for last year should have been 80,000, and by the end of last year I should have in the prepaid insurance 160,000, which reflect the insurance for the next two years. Very good, but now I have actually nothing in the prepaid insurance and I have insurance expense last year which is reflected in their team earnings. Because I cannot go and access the insurance expense last year, it's a temporary account that was closed, so the only access to the insurance expense of the last year has to be in the retained earnings. And that is why because of I cannot access the insurance expense and because the retained earnings was understated by 160,000, because I debited the insurance expense for 240,000. When I should have only debited insurance plans for 80,000, that is why I'm crediting here the retained earnings 460,000, while the prepaid insurance ended up with no balance whatsoever. That is why I am actually correcting this and in bringing back 160,000, in the prepaid insurance which will be actually allocated over the next, years this year and the next year, by adjusting entries at the end of each year. After we correct for this journal entry, that brings now back the prepaid insurance into its correct level and correcting the retained earnings, there will be a restatement of the financial statements. Here you go, in addition to the entry, last year's financial statements that were incorrect as a result of the error would be retrospectively restated to report the prepaid insurance acquired. And reflect the correct amount of the insurance expense when those statements are reported again for comparative purposes in the current annual report. A net that's what I was referring to as a prior period adjustment and net of tax prior period adjustment to retained earnings would be reported. Since retained earnings is one of the accounts that was incorrect as a result of that error and a disclosure. Note, we should describe the nature of the error and the impact of its correction on each year's net income or income from continuing operations or earnings per share. So that's the full treatment of an error correction, correcting entry, that you have a comparative financial statements, you have a prior period adjustment. And then, you have a disclosure, note four steps that you go through. Now, there is one last question here that I wanted to ask, because there is a specific feature about the errors. Most of those errors by time as we go over as we roll over in time in the future, they correct themselves. Let me explain the idea with respect to our error here. Let's assume that I discovered this error at the end or after or during the fourth year after the three years have expired and were used up. At that point in the fourth year, I should not have any prepaid insurance and at that point, whether you allocated the expense on the first year or allocated that 240,000, on the first year. Or allocated 80,000, each, they have the equivalent amount on the ending balance of the retained earnings at year three. That's why I'm saying, there is no errors here, that you need to prepare a correcting entry because they error corrected itself. But you still need to actually do the restatement for comparative purposes of the financial savings. And that's where I'm assuming, if the error in the previous question is not discovered until insurance coverage has expired, no correcting entry at all would be needed. By then the sum of the omitted insurance expense amounts, which is the 80000 times 3 would equal the expense incorrectly recorded when the error occurred. So they retained earnings balance would be the same as if the error never had occurred. Also, the asset the prepaid insurance would have expired, so it also would not need to be recorded. Any statements of prior years that were affected and are reported again in comparative statement still would be restated. And a disclosure note would describe the error and explaining what we did to the comparative financial things. So most of those errors, as I said by time they correct themselves, so there is no correcting entry, it's just that it corrected itself. Hopefully, this example enhance your understanding of how to treat error correction and what are the requirements and the steps that we go through to treat or account for such errors. Thank you.
