Hello, welcome everyone to our lesson today. Today we are going to switch gears. Instead of accounting changes, we're going to talk about something very similarly treated especially when we use the retrospective approach, accounting errors. Today we are going to focus on error corrections. These errors could be the result of the accountant forgetting to record the transaction or actually mistakenly recording it in the incorrect account or even, he or she recorded it correctly but actually there is in posting the transaction to the proper accounts in the ledger. The correction of an error is another adjustment sometimes made to financial statements that is not actually an accounting change but is accounted for similarly. If an accounting error is made and discovered in the same accounting period, the original incorrect entry should simply be reversed and the appropriate entry simply record. Please notice that it's significantly more complicated to deal with an error that affected net income in the reporting period in which it occurred and it is not discovered until later period. In these more complicated errors, we need to do the following: Number 1, identifying the accounts that are affected by the particular error which resulted in them being misstated. Two, determine the result of the error on each account being over or understated. Finally, apply the debit/credit rule to correct for the misstatement in each of the accounts affected by the error. I want to explain over or under stated. Over stated means that showing at a value higher than what it should, while understated means that it showing it a value lower than it should. If an error did not affect net income in the year it occurred, it's relatively easy to correct. However, most of the errors actually affect the net income in some way or another. When they do, they affect the balance sheet as well as the income statements, both statements must be retrospectively restated. Sometimes the cash flow is affected and actually also has to be restated. As with any error, all incorrect account balances must be corrected because these errors affect income, one of the balances that will require correction is retained earnings. Complicating the matter, actually for error correction, income taxes can impose a challenge because income taxes often are affected by any income errors. In those cases, amended tax returns are prepared either to pay additional taxes or to claim a refund from the tax authorities because of the taxes that were overpaid. More specifically, when errors are discovered, they should be corrected and accounted for retrospectively. Retrospective approach requires the following; one, journal entry is made to correct any account balances that are incorrect as a result of the error. Two, previous years' financial statements that were incorrect as a result of the error are retrospectively restated to reflect the correction for all the years reported on the comparative purposes. Three, if retained earnings is one of the accounts that is incorrect as a result of the error, the correction is reported as a prior period adjustment to the beginning balance in a statement of stockholders equity or the statement of retained earnings if that is presented instead. Finally, number 4, a disclosure note should describe the nature of the error and the impact of its correction on net income. In summary, correcting for errors is accounted for retrospectively and very similar to the change in accounting principle treatment. If the error affected any income statement accounts of previous years, the correction will be made in the retained earnings where those income statement accounts of all earlier years are actually closed. Hopefully that gives you an idea about the treatment for correcting errors, whether it is discovered in the same period or in a later period affecting income statement accounts or affecting balance sheet accounts. Thank you very much.
