AUDITING PROBLEMS

CORRECTION OF ERRORS 2 TYPES OF ERRORS

1 Accounting Error - improper classification of real

Balance
accounts such as assets, liabilities
- misstatements in the FS, not intentional
sheet
or stockholders' equity accounts.
errors
They have no effect on net
Arises from: income
Income - affects only the presentation of
 Omissions - forgetting to record transaction nominal accounts in the Income
statement
Statement.
 Transposition - flipping numbers (recording errors
- It involves the improper
79 as 97) classification of revenues and
expenses accounts, hence, only
 Incorrect application of principles - misusing
the details of the Income
accounting rules
Statement are misstated.
- A reclassifying entry is necessary
 Misclassification of accounts - putting
only if the error is discovered in
amounts in the wrong account
the same year it is committed. It
 Duplicate Recording - Recording the same has no effect on the Balance
transaction more than once sheet and in the Income
Statement.
- If the error is discovered in a
ERRORS
subsequent year, no classification
entry is necessary
- may affect one of the FS or the complete set
of FS (pervasive errors). Combined - affects both the balance Sheet
and the Income Statement
- can also be Counter balancing or non- Balance
because they result in the
counter balancing. Sheet and
misstatement of net income
Income
Adjustment of Accounting errors Statemen
t errors
- may affect the Net Income or Retained
Earnings depending on the year it was
incurred. 3 Classifications of Combined Balance
Sheet and Income Statement Errors

Counter Balancing Non - Counter

Balancing
- if not detected are - do not self-correct in
automatically offset subsequent period

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AUDITING PROBLEMS
or corrected over two - gives a continuing the beginning
periods impact on the FS until balance of the
- may affect FS in one corrected Retained earnings
period but - persist and can affect and correct the
- automatically the accuracy of the FS current period.
corrected in - mislead the users - Books are closed
subsequent periods, indefinitely 1. If the error is
without any - take longer than two already
intentional periods to correct counterbalanced,
corrections being themselves. no entry is
made - carried over to the necessary.
- Restatement is subsequent 2. If the error is not
necessary even if a accounting period until yet
correcting journal corrected or until the counterbalanced,
entry is not required balance sheet item an entry is
- Example: involved is removed necessary to
1. Inventory including from the accounts by adjust the present
purchases & sales sales, retirement or balance of the
2. Prepaid expenses other means of Retained earnings.
3. Accrued expenses disposal
4.Deferred income / - Example:
4 Effects on Financial Reports
unearned income 1. Misstatement of
5.Accrued income depreciation Net Income
expense
Guidelines Nature Effect RS
- Books are open 1. What accounts are Understatement of sale Under Direct
1. If the error is already affected? Understatement of COS Over Inverse
counterbalanced 2. How were these Understatement of Over Inverse
and the company is accounts affected? Expenses
in the second year, Was there an
an entry is understatement or an Cost of Sale
necessary to overstatement?
correct the current 3. What was the
Nature Effect RS
period and to adjust erroneous entry made
Understatement of BI Under Direct
the beginning or what was the entry
Understatement of Net Under Direct
balance of the omitted?
Purchases
Retained earnings. 4. What is the correct
Understatement of EI Over Inverse
2. If the error is not yet entry?
counterbalanced, 5. What is the necessary
an entry is adjusting or
Working Capital
necessary to adjust correcting entry?

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AUDITING PROBLEMS

Nature Effect RS
Overstatement of Current Over Direct
Asset
Overstatement of Current Under Inverse
Liability

Current Period Errors (both CB and NCB): Always

considered because they impact the current
financial period.
Prior Year Counterbalancing Errors: Only
immediate prior year's errors are considered since
they may still impact the current period.
Prior Year Non-Counterbalancing Errors: Ignored
as their effect remains in prior periods.

Retained Earnings

Current Period Errors (CB and NCB): Always

considered as they flow into retained earnings at
year-end.
Prior Year Counterbalancing Errors: Ignored as
they’ve already been resolved.
Prior Year Non-Counterbalancing Errors:
Considered, as they impact the cumulative
retained earnings.

5 IMPACTS

Counterbalancing Errors
Error Net Income Net Income
Type (Year of (Subsequent
Incurrence) Year)
Asset Errors Direct Indirect
Liability Indirect Direct
Errors

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AUDITING PROBLEMS
Non-Counterbalancing Errors
Error Net Income Net Income
Type (Year of (Subsequent
Incurrence) Year)
Asset Direct No Effect
Errors
Liability Direct No Effect
Errors

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AUDITING PROBLEMS
Various Activity for Accounting Errors: e. The physical inventory of merchandise had
been understated by P3,000 at the end of
2021, and by P4,300 at the end of 2022.
1 The Audited Income statement of Luffy
f. The merchandise in transit and to which the
shows a net income of P175,000 for the
company had title at December 31, 2022 and
year ended December 31, 2023.
2023 was not included in the year-end
Adjustments were made for the following
inventories. These shipments of P3,800 and
errors:
P5,500 were recorded as purchases in
January 2023 and 2024, respectively.
1. December 31, 2022, inventory overstated by
P22,500 The company reported a net loss of P12,400 for the
2. December 31 2023, Inventory Understated year ended December 31, 2023.
by P37,500
3. A P10,000 customer’s deposit received in Furthermore, retained earnings account of Usop is
December 2023, was credited to sales in reproduced below:
2023. The goods were actually shipped in
January 2024.
Date Particulars Debit Credit
What is the unadjusted net income for the year 2021
ended December 31, 2023? Jan 1 Balance 81,000.00
Dec 31 Net Income 18,000.00
2 The audit of the December 31, 2023, for the year
financial statements of Usop Company 2022
reveals the following: Jan 10 Dividends 15,000.00
paid
a. Dividends declared on December 10, 2021 and Mar 6 Stock sold - 32,000.00
2022 had not been recorded in the books until excess over
paid. par
b. Improvements in buildings and equipment of Dec 31 Net loss for 11,200.00
P9,600 had been charged to expense at the the year
end of April 2020. Improvements are 2023
estimated to have an 8-year life. The Jan 9 Dividends 15,000.00
company computes depreciation to the paid
nearest month and uses the straight-line Dec 31 Balance 89,800
method of depreciation.
Total 131,000.00 131,000.00
c. The company failed to recognized supplies
on hand of P1,200 and P2,500 at the end of Requirement:
2022 and 2023, respectively
d. The company had failed to record sales 1. Prepare the necessary adjusting journal
commissions payable of P2,100 and P1,700 at entries at December 31, 2023.
the end of 2022 and 2023 respectively. 2. What is the corrected net income/(loss) of
Usop for the year ended December 31, 2023?

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AUDITING PROBLEMS
3 Counter balancing error 2021, no entry was made to take up the
unearned portion of the amount
collected
Case The company paid one-year insurance Case Sale of merchandise on account on
1: premium of P12,000 effective April 1, 2021. 4: December 29, 2021 amounting to
The entire amount was debited to P20,000 was not recorded until it was
expense account and no adjustment collected on January 2022. The
was made at the end of 2021. merchandise was properly excluded in
Case Accrued salaries expense of P4,000 was the ending inventory in 2021.
2: not recorded at the end of 2021 Case On December 31, 2021, the ending
Case The company leased a portion of its 5: inventory was overstated by P5,000
3: building for P12,000. The term of the
What is the effect in the following CY 2021 and
lease is one year ending April 30, 2022.
2022 balances (Indicate in the space provided
The collection of rent was credited to
whether Overstated (O), Understated (U) or No
rent revenue account. At the end of
Effect (NE):

Particulars Case 1 Case 2 Case 3 Case 4 Case 5

2021 2022 2021 2022 2021 2022 2021 2022 2021 2022
Asset
Liability
Revenue
COS / Expense
Net Income
Retained Earnings

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