ae “A correcting entry is a journal entry books of accounts or after the trial balance has been prepared. Chapter 9: CORRECTING ENTRIES Chapter Outline saa Perpetual vs. Discovery of Errors and Balancing Errors __ their Appropriate _ Nature of Correcting Entries The accounting errors committed in recording economic transactions will certainly result in the inaccuracy of financial records. Usually, the error is rectified in the books of accounts not by erasing the erroneous entry but by effecting another entry called “correcting entry.” desi roneous ent! “Correct practice is perc, fo remove “an a ledger. The indispensable in gradually made in the journal and the ‘ledger. nesepeceabte In recent accounting errors might have been detected ‘stones of knowledge.” after journalizing several transactions in the Dean Gabino Garoy Classification of Accounting Errors as to Nature or Form The following are the common errors. committed in recording economic transactions: 1. Transposition. This error is committed when the figures’ positions are interchanged. This error may cither overstate or understate the amount of the related transactions.386 BASIC ACCOUNTING Hlustration On September 3, 200x, Mr. Dimakatama, the bookkeeper of Fishbat Enterprises, recorded sales on account for P254,000, instead of P245,000 as follows: Erroneous entry made: GENERAL JOURNAL ‘The error overstates both accounts receivable and sales by P9,000, computed as follows: . Accounts Receivable Sales Correct amount that should have been made P 245,000 _ P 245,000 Erroneous amount entered in the books (254,000) (254,000) Overstatement of related accounts {P_-9,000) °° {P_ 9,000) If ‘such erroneous entry is not corrected when the final accounting reports are prepared, the asset portion of the Statement of Financial Position and the net income of the Statement of Comprehensive Income are both overstated by P9,000 resulting to an overstated owner’s equity by P9,000. To correct the entry, accountants generally determine the “should be entry” first, or the correct entry that should have been recorded if the erroneous entry was not committed. Should be entry: GENERAL JOURNAL Descriptions The “should be entry” is never recorded in the boo! , i boo! counts. Such entry is only necessary to analyze the additional vary ected t0 correct the erroneous entry made. The “should be any pesded 2 compared with the erroneous entry and the difference j de in the correcting entry. is madechapter 9: Correcting Entries 387 Correcting entry: __GENERAL JOURNAL _ To correct overstatement o ‘on account. Notes: a, To check the ‘accuracy of the correcting entry, the use of the T-account would be helpful as follows: Accounts Recelvable b., The accounts receivable and sales are reversed by P9,000 to reduce their overstatement. 2, Transplacement. This error refers to the inaccuracy in the placement of decimal points. Like a transposition error, transplacement would either overstate or understate economic transactions recorded. Illustration The bookkeeper of Reyna Grocery recorded a P2,000 collection of accounts receivable instead of P20,000. Erroneous entry made: ‘Accounts receivable Collections from customers,388 BASIC ACCOUNTING The transplacement error understates recorded cash arid overstate, accounts receivable by P18,000, computed as follows: Accounts ——Cash receivable. Correct amount that should have been made P 20,000 P 20,009 Erroneous amount entered in the books { 2,000) {___2,000) Understatement (Overstatement) of accounts P_18,000 — (P_18,000) If the above error is not corrected, it has no effect on the Statement of Comprehensive Income because the accounts involved are real accounts. In the Statement of Financial Position, however, even if there is an understatement of cash by P18,000, such is being offset by the P18,000 overstatement of accounts receivable. In ‘the final analysis, there is no effect on the total amount of current assets. Thus, Understatement of cash . P 18,000 Overstatement of accounts receivable (18,000) Effect on current assets == Even if the above illustrated error has no effect in total, it is still necessary to make correction in order to achieve accuracy of the amount per individual account title in the Statement of Financial Position. The correcting entry would be: Correcting entry: . GENERAL JOURNAL : Descriptions Cash ‘Accounts receivable, To correct understatement ef accounts collected. Note: As a result, the amounts of cash and accounts are accuracy of the correcting entry, the T-account would corrected. To check the show the following: Error of Account. Titles. This accounting error j inappropriate account title is recorded in liey of the committed when an title that describes the economic transaction, € appropriate accountchapter 9: Correcting Entries 389 Illustration ‘ The bookkeeper of Central Mall recorded sales on account amounting to P300,000 as follows: Erroneous entry made: The amounts recorded are correct but the account title’ cash is not an appropriate description of the value réceived because the sales are on account. Such error would overstate cash by P300,000 and understate accounts receivable of the same amount. Should be entry: GENERAL JO riptions _ 10/2__| Accounts receivable Sales J Collections from customers, 200% | Descriptions 7 11/30 | Accounts réceivable Notes: a. As a result, the entire amount of P300,000 increases accounts receivable and the same amount decreases cash. There is no correcting entry for sales account because the original entry made is correct in terms of the account title and figures. b. It could be inferred, therefore, that oily those account titles with errors are considered in the correcting entry. The correction is made by reversing them and by replacing thém with the “should be” account titles,390 BASIC ACCOUNTING ling the econop; 4. Error of Omission: This error is done by not record ie ing he transactions. It may have been committed | intentionally unintentionally. This error generally understates Sunts except when payments of liabilities are involved. Illustration The bookkeeper “of Prince Enterprises was unable to record P100,009 cash sales. : The error committed here is’ an unrecorded transaction. Hence, both cash and sales accounts are understated by P100,000, respectively, To correct the error of omission, the “should be entry” is to be reflected in the books of accounts as follows: Correcting entry: _ __ GENERAL JOURNAL a riptions ___| pr 12/31 | Cash __ hens Ba if Sales = __ [To record unrecorded cash sales, Discovery of Errors and their Appropriate Corrections The’ commission/omission of errors in recording violates the principle of reliability: The accountant’s responsibility is to effect corrections upon the discovery 'of an accounting error. The nature of correction, however, will depend on what stage the error was discovered. Aside from the correcting entries, the following journal entries are usually made representing the several stages of accounting work: 1. The. regular journal entries for the underlying normal business transactions. y 2. The regular year-end adjusting entries to update mixed accounts. 3. The closing entries that reduce the nominal and temporary accounts to zero-balance and transfer their net effect to the owner’s capital account. 4. The reversing entries are done at the start of the new accounting period "to facilitate the usual recording of the accounts adjusted in the previous period.Chapter 9: Correcting Entries 391 The accounting error may be discovered at any point of the stages stated above and their corresponding corrections would-be dependent on the stage when such error was discovered. To illustrate, assume the error made in recording the amount of the invoice below: BENGUET OFFICE SUPPLIES 288 Session Road, Baguio City Tel. No. 300 - 4998 Sold to: Prince Enterprises Terms: Cash Dat 11/2/200x E Particular Amount Office supplies 7,200 [00 fl Invoice No: 0210 Buyer's Signature The accountant of Prince Enterprises committed a transposition error in recording the invoice as follows: GENERAL JOURNAL Error Discovered at the Time of Journal Entry As a rule, erasing is never allowed, but if the error was, discovered immediately and no succeeding entries were made, then the error could be corrected by simply drawing a straight line over the erroneous entry and replacing it with the correct entry with the signature of the Person makin, the correction. : &392 BASIC ACCOUNTING GENERAL JOURNAL __Descriptions, 2__} Supplies expense _ Error Discovered after Posting After posting of the accounts, errors must be corrected with journal entries called correcting entries. the correction as shown above is no longer advisable ting made based on the al entry should be made. Under this ‘stage, because there might have been some repo uncorrected entry. To be safe, a correcting journ: Thus, GENERAL JOURNAL Error Discovered After Adjusting Entries Suppose that the error was discovered after several transactions and the adjusting entries have been recorded. Assuming that the unused supplies Giseoveredd at the end of the period amounted to P200, the adjusting entry would be: GENERAL JOURNAL Date mi aie 200K fs Descriptions 12/31 | Prepaid supplies __ meee he ‘Supplies expense ce To record the unused supplies,chapter 9: Correcting Entries : 393 The correct amount of supplies actually used is P1,000, computed as follows: Total correct purchase of supplies P 1,200 Less: Unused portion at the end of the year 200 ‘Actual supplies expense Sa oO The appropriate correcting entry if error was discovered after the above adjustment would be: Using the two-money column ledger, the office supplies account would appear as follows: Error Discovered After Closing Nominal Accounts Suppose that the error was discovered after the adjusting entry and after closing the nominal ‘accounts to the income summary account but before closing the income summary account to the capital account, the appropriate entries would be: The adjusting entry: GENERAL JOURNAL DescriptionsSe4 BASIC ACCOUNTING The erroneous closing entry: __ GENERA summary a¢ ipplies expense To close the used supp! Observe that since the supplies expense account was already closed to the income summary account, then the income summary account should be corrected. Error Discovered After Closing the Income Summary Suppose that the error was only discovered:at a later stage, wherein the income summary account was already closed to the owner’s capital account, as follows: GENERAL JOURNAL Ifthe errors were discovered after the closing of the nominal account to the capital account, the correcting entry would be: Owner's Capital To correct. ‘owner's capital,chapter 9: Correcting Entries 395 Note that at this stage the supplies expense account was already closed to income summary account which was subsequently closed to capital account. In this case, what remains erroneous is the owner's capital account; thus the above correcting entry: summary of Correcting Entries In summary, the correcting entry as to the stage when the error was discovered could simply be classified as follows: 1, Nominal Accounts Still Open is a correcting entry for error discovered when nominal accounts are still open. 2. Nominal Accounts Temporarily Closed is a correcting entry for error discovered when nominal accounts are already closed to the income summary account but not yet closed to the owner’s capital account. 3, Prior Period Correction is a correcting entry for error discovered when the income summary account is already closed to the capital account (books of accounts already closed). This correcting entry is called “prior period correcting entry” or “prior period adjustments.” To further illustrate, assume that a business purchased office equipment for P30,000 on account was erroneously recorded as: he entry above was erroneous because the debit entry Take note that 1] fs quipment account. This should have been should have been an office ¢ recorded as: As an effe maintenanc ot of the erroneous entry made by debitin, . © expense instead of office equipment ac coune tga and 7 % ‘pensewy DAIL REEUE account is overstated by P30,000, while the asset account is understated p, P30,000. i Accountants can effect corrections to the above erroneous entry based on the following assumptions: 1. Nominal accounts are still open. 2. Nominal accounts are closed to income summary but not to the capita) account yet. 3. All temporary accounts have been closed to the capital accounts. (Prior Period Correction) ’ Nominal Accounts Still Open If the error was discovered while the nominal accounts are still open, then the correcting entry would be: -GENERAL JOURNAL Page Number 116 Descriptions PR Office equipment Repair and maintenance To correct erroneous entry of the ‘equipment purchased. Nominal Accounts Temporarily Closed If the error was discovered when the nominal accounts were already closed to the income summary account and the summary account was not yet closed to capital accounit, then the correcting entry would be: GENERAL JOURNAL Date Page Number 200% . Descriptions PR 12/31 | Office equipment Income summary account To correct erroneous entry of the {- ‘equipment purchased. the income summary account. It is because only nominal accounts are closed to Observe that only the repair and maintenance account was replaced by the income summary account. The office equipment account, being 4 i o account, is not affected by the closing entry and, as such, will beChapter 9: Correcting Entries 397 account to be adjusted whether the error was discovered when the nominal accounts are still open or already closed to the income summary account. Prior Period Corrections If the error was discovered as a prior year error, then the correcting entry would be: GENERAL JOURNAL OY Date 200% = __Descriptions _ [pr 12/31 | Office equipment Owner's capital _ —_ To correct prior period erroneous “entry of the equipment purchased. Since the nominal and temporary accounts are not carried in the succeeding year, they are finally closed to the capital account. The capital account that remains erroneous should be corrected. Summary of Accounting Errors as to Account Affected Accounting errors may be summarized as follows: 1, Statement of Financial Position Errors. The affected accounts are real accounts. Regardless of when the error was discovered, the same accounts are to be adjusted. (Perpetual Accounting Errors) 2. Statement of Comprehensive Income Errors. The affected accounts ere tsoth nominal‘accounts. There is no need for correction if discovered hen nominal accounts are already closed. (Counter-Balancing Errors) Mixed Accounts Errors. The affected accounts are real accounts and nominal accounts. The erroneous nominal account is corrected through the income summary or the capital account if discovered after the closing entries. Perpetual vs. Counter Balancing Errors accounting errors can be divided into tw. ting errors, and (2) counter-balancing ¢ main cate; errors, The nature of ual accoun Bories: (1)398 BASIC ACCOUNTING Perpetual Accounting Errors Perpetual accounting errors, also called as “non-counter balancing errors,” are errors which, if not corrected, will continuously affect the current accounting period. In other words, these errors, if not corrected, will continue to exist in the subsequent accounting period. ‘An example of a perpetual accounting error is an unrecorded economic transaction. Counter-Balancing Errors Counter-balancing errors, also called “self-correcting errors,” are accounting errors which, if not corrected for at least two succeeding accounting periods, would have no effect in the next period because their effect in the first year was counter-balanced in the second year. These errors are generally experienced in inventories, prepaid expenses, accrued expenses, deferred income, and accrued income. Analysis of Counter Balancing Error Illustration 1 Assume a journal entry error by debiting repair and maintenance expense instead of supplies expense for purchases of office supplies on cash basis amounting to P2,000. The effect of this error.could be analyzed as: Erroneous Entry Should Be Entry vieber cal Sices rie ve pe easing cage iti Scout cee he oir cata cet ae Income summary, involved is @ mer mt Take note that if the error involves both nominal accounts (expense and revenue accounts); there is no need for correcting entry if the error was discovered between the closing entry and the next accounting period.chapter Correcting Entries : 399 Mustration 2 Assume that the error was a non-recording error of accrued salary expense amounting to P5,000. ‘The effect of this error could be analyzed as: Effect of Erroneous Entry Should Be Entry Error to Owner's uit} Year i ‘Adjusting entry: ~ No entry. Salary expense _ 5,000 | Year t Zi “| Accrued salary payable $0001) eeoraing of Closing entry: ee accrued salary ~ : expense No entry a income summary :| overstates the salary expense _ || capital account jf by 5,000, Owner's Capital - Year 2 _| - ‘Reversing entry: a No entry. " salar t Salary expense ] 2: | Payment of, ——]} The error Salary expense understates Cash 15,000] Cash 15,000} the owners “eae zs capital account Closing entries: + Closing entries: - by P5,000, Income summary | 15,000 Income summary } 10,000 | Salary expense 15,000 | Salary expense 10,000 Owner's capital {75000 Ouner's capital | es Income summary | _ 75,000 J Incom! . 7 recting entry is necessary because the overstatement Illustration 3 Assume an understatement of ending inventory in year 1 as follows: same Ending inventory reported visas : Correct ending inventory inventory Pas. 000 Understatement of ending /00 - BASIC ACCOUNTING The effect of understatement could be analyzed as follows: Effect of Error to Owner's The ertor of understating the ending inventory by 9,000 understates, ccpital account by 9,000. Year 2: The error of overstating the beginning inventory by P9,000 overstates capital acedunt by 9,000, The ending inventory of year 1 becomes the begi inventory of year 2. ‘Year 3: Discovery of error - No correcting entry is necessary because the understatement of capital in year 1is offset by the overstatement of capital in year 2. Chapter 9 - REVIEW QUESTIONS Chapter Discussions: 1. Discuss the nature of correcting entries.. What are the four major classifications of accounting errors as to form? 2 3. Why are “should be entries” not recorded in the books of accounts? 4. Discuss the correcting entries when: a. nominal accounts are still open. b. nominal accounts are temporarily closed to account. ¢. corrections are prior period transactions. income summary 5. Distinguish “perpetual accounting errors” from Bt “counter. balancing errors.Erroneous and Correcting Entries The following are Atong Trading’s selected transactions during a period: 1. Purchased merchandise on account: list price, P50,000, trade discount, 20%, 2/15, n/30. Paid the payable beyond the discount period. Paid insurance for three years, P12,000. Sales: on account, P150,000; cash 125,000. Collected accounts receivable, P120,000, less 5% discount. Advances from customers, P30,000. . Received notes receivable, P5,000 in payment of account receivable. Collected notes receivable plus interest, P500. . Purchased office equipment on account, P45,000 (useful life is 5 years) 10. Recorded the annual insurance expense. 11, Recorded annual depreciation of office equipment. 12, Atong withdrew cash for personal use, P89,000. PeErauaer The following journal entries were made and posted to the general for the above Notes receivable Required: Prepare the necessary correcting entries of the above transactions assuming that the nomiinal accounts are already closed to the capital account,Effects of Errors to Nominal and Real Accounts Put a check mark (v) on the column which reflects the net effect of error. Nominal Accounts Rexel Over- | Under- state | state 1. Cash purchase of furniture was not | recorded. ss 2. Collection of accounts receivable |_.wasnot recorded, 3, Issuance of a promissory note of P12,000 as payment of accounts payable was erroneously recorded _28.P21,000. 4. Actual expense of P25,000 cash was erroneously recorded as . The cost of equipment on accounts was recorded as P32,000, when the actual amount per invoice is 6. Accru 7. Cash sales were recorded as credit sales. _ 8. Personal withdrawals from the iness were not recorded 9. Accrued revenue was not re 10.Cash recorded as cash on hand was deposited in the bank. The | deposit. transaction was not} recorded.Analyzing Correcting Entries Instruction: Write the correcting entry of the following cases assuming that nominal accounts are still open. Case Case 3: Erroneous Entry _ Should Be Entry [ Accounts payable | A, Drawings 500 | “Merchandise. Case 4: Erroneous Entry Should Be Entry Allowance for bad debts Should Be Entry _ 5,000 _| nt expense _ =| 5,000 Cash _problem 8 — 3 Multiple Choice jastruction: Encircle the letter that corresponds to the best answer. 1. All of the following do not come first in the accounting process, except a, the preparation of an unadjusted trial balance. pb. the worksheet preparation. Q the journalizing external transactions. the preparation of an adjusted trial balance. 2, All of the following statements are correct concerning the worksheet, except one. : . A worksheet is essentially a working tool of the accountant. b/ A worksheet is distributed to management and other interested parties. c. A worksheet cannot be used as a basis for posting to ledger accounts. d. Financial statements can be prepared directly from the worksheet before the adjusting entries are journalized and posted. Qnly nominal and temporary accounts are closed with closing entries. b. Owner’s drawing is the only real account that is being closed with closing entries. c. Closing entries will also reduce the contra asset account to zero. d. The income summary account is a real account with the same nature as capital. 3. Gren of the following describe the correct effect of closing entries? 4. A series of recurring accounting activities from the beginning to the end ofa given accounting period is called é/ Accounting Cycle. " Accounting Period. ¢. Accounting Time Line. d. Accounting Entries. 5. Which of the following is incorrect? : a. It is during the accounting period that the accounting cycle takes place. : : \b, An accounting period is the duration of time the transactions are recorded, and at the end of which the financial statements are prepared. : (@ The accounting period is always a one-year period. d, The accounting cycle is the group of steps and procedures followed in recording the transactions and preparing the _ financial statements.