ACCOUNTING FOR CORRECTION OF ERRORS

Problem 1
The first audit of the books of Z Company was made for the year ended December 31, 2016. In
examining the books, the auditor found that certain items had been overlooked or incorrectly handled
in the last 3 years. These items are:

a. At the beginning of 2014, the company purchased a machine for P1,020,000 (salvage value of
P102,000) that had a useful life of 6 years. The bookkeeper used straight-line depreciation, but
failed to deduct the salvage value in computing the depreciation base for the 3 years.

b. At the end of 2015, the company failed to accrue sales salaries of P90,000.

c. A tax lawsuit that involved the year 2014 was settled late in 2016. It was determined that the
company owed an additional P170,000 in taxes related to 2014. The company did not record a
liability in 2014 or 2015 because the possibility of loss was considered remote, and charged the
P170,000 to a loss account in 2016.

d. Z Company purchased another company early in 2014 and recorded goodwill of P900,000. Z had
not amortized goodwill because its value had not diminished. The estimated economic life of the
goodwill is 20 years.

e. In 2016, the company wrote off P174,000 of inventory considered to be obsolete; this loss was
charged directly to Retained Earnings.

f. Year-end wages payable of P6,800 were not recorded because the bookkeeper though that “they
were immaterial.”

g. Insurance for a 12-month period purchased on November 1 of this year was charged to insurance
expense in the amount of P5,280 because “the amount of the check is about the same every
year.

Questions:
1. The entry to record the adjustment of item “a” is:
2. The entry to record the adjustment of item “c”:
3. Net income of 2015 is overstated by:
4. Net income of 2016 is overstated by:

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Problem 2
A CPA is engaged by the Z Corporation in 2016 to examine the books and records and to make
whatever corrections are necessary. An examination of the accounts discloses the following:

a. Dividends had been declared on December 15 in 2014 and 2015 but had not been entered in the
books until paid.

b. Improvements in building and equipment of P9,600 had been debited to expense at the end of
April 2013. Improvements are estimated to have an 8-year life. The company uses the straight-
line method in recording depreciation and computes depreciation to the nearest month.

c. The physical inventory of merchandise had been understated by P3,000 at the end of 2014 and by
P4,300 at the end of 2015.

d. The merchandise inventories at the end of 2015 and 2016 did not include merchandise that was
then in transit and to which the company had title. This shipments of P3,800 and P5,500 were
recorded as purchases in January of 2016 and 2017, respectively.

e. The company had failed to record sales commissions payable of P2,100 and P1,700 at the end of
2015 and 2016, respectively.

f. The company had failed to recognized supplies on hand of P1,200 and P2,500 at the end of 2015
and 2016, respectively.

The Retained Earnings account showed the following postings:

Date Item Debit Credit

2014 Jan 1 Balance 81,000
Dec 31 Net income for year 18,000
2015 Jan 10 Dividends paid 15,000
Mar 6 Stock sold – excess
over par 32,000
Dec31 Net loss for year 11,200
2016 Jan 10 Dividend paid 15,000
Dec 31 Net loss for year 12,400

Questions:
1. Corrected net income of 2014
2. Corrected net loss of 2015
3. Corrected net loss of 2016
4. Adjusted retained earnings at December 31, 2014
5. Adjusted retained earnings at December 31, 2015
6. Adjusted retained earnings at December 31, 2016

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Problem 3
A partial trial balance of Z Corporation is as follows on December 31, 2016:
Dr.____ ____Cr.____
Supplies on hand P 13,500
Accrued salaries and wages P 7,500
Interest receivable on investments 25,500
Prepaid insurance 450,000
Unearned rent -0-
Accrued interest payable 75,000

Additional adjusting data:

a. A physical count of supplies on hand on December 31, 2016, totaled P5,500.

b. Through oversight, the Accrued Salaries and Wages account was not changed during 2016.
Accrued salaries and wages on 12/31/16 amounted to P22,000.

c. The interest receivable on investments account was also left unchanged during 2016. Accrued
interest on investments amounts to P21,750 on 12/31/16.

d. The unexpired portions of the insurance policies totaled P325,000 as of December 31, 2016.

e. P140,000 was received on January 1, 2015, for the rent of a building for both 2015 and 2016.
The entire amount was credited to rental income.

f. Depreciation for the year was erroneously recorded as P25,000 rather than the correct figure
of P250,000.

g. A further review of depreciation calculations of prior year revealed that depreciation of

P36,000 was not recorded. It was decided that this oversight should be corrected by a prior period
adjustment.

Questions:
1. The accrued salaries and wages at year-end is:
2. How much is the adjusted salaries and wages at year-end assuming that the balance of this
account in the book is P350,000?
3. Prepaid insurance at year-end is:
4. Supplies on hand at year-end is:
5. Depreciation expense at year-end is understated/overstated by:

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Problem 4
You have been assigned to examine the financial statements of Z Company for the year ended
December 31, 2016. Below is the Balance Sheet of the company.

Current assets 700,000 Current liabilities 250,000

Non-current assets 2,000,000 Non-current liabilities 900,000
_________ Stockholders’ Equity 1,550,000
Total Assets 2,700,000 Total liabilities/SHE 2,700,000

In the course of your audit, you discover the following situations:

1. Depreciation of P16,000 for 2016 on delivery vehicles was not recorded.

2. The physical inventory count on December 31, 2015, improperly excluded merchandise costing
P95,000 that had been temporarily stored in a public warehouse. Z uses periodic inventory
system.

3. The physical inventory count on December 31, 2016, improperly included merchandise with a
cost of P42,500 that had been recorded as a sale on December 27, 2016.

4. A collection of P28,000 on account from a customer received on December 31, 2016 was not
recorded until January 2, 2017.

5. In 2016, the company sold for P18,500 fully depreciated equipment that originally cost P110,000.
The company credited the proceeds from the sale to the Equipment account.

6. During November 2016, a competitor company filed a patent-infringement suit against Z claiming
damages of P1,100,000. The company’s legal counsel has indicated that an unfavorable verdict is
probable and a reasonable estimate of the court’s award to the competitor is P625,000. The
company has not reflected or disclosed this situation in the financial statements.

7. Z has a portfolio of trading securities. No entry has been made to adjust to market. Information
on cost and market value is as follows:

COST MARKET
December 31, 2015 P 190,000 P 190,000
December 31, 2016 168,000 164,000

8. At December 31, 2016, an analysis of payroll information shows accrued salaries of P36,600. The
Accrued Salaries payable account had a balance of P48,000 at December 31, 2016, which was
unchanged from its balance at December 31, 2015.

9. A large piece of equipment was purchased on January 3, 2016, for P1,600,000 and was charged to
Repairs Expense. The equipment is estimated to have a service life of 8 years and no residual
value. Z normally uses the straight – line depreciation method for this type of equipment.

10. A P75,000 insurance premium paid on July 1, 2015, for a policy that expires on June 30, 2018,
was charged to insurance expense.

11. A trademark was acquired at the beginning of 2015 for P250,000. No amortization has been
recorded since its acquisition. Trademark has an economic life of 5 years.

Questions:
1. Current assets at year-end is:
2. Non-current assets at year-end is:
3. Current liabilities at year-end is:
4. Non-current liabilities at year-end is:
5. The net income of 2016 is understated by:
6. Total Stockholders’ Equity at year-end is:
7. The correcting entry of item “3” assuming the company’s books were already closed is:

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Problem 5
Z Corporation requires audited financial statements for credit purposes. After making normal adjusting
entries, but before closing the accounting records for the year ended December 31, 2016. Z’s
controller prepared the following financial statements for 2016:

Z Corporation
STATEMENT OF FINANCIAL POSITION
December 31, 2016
Assets
Cash 1,225,000
Financial Assets at Fair Value 125,000
Accounts Receivable 460,000
Allowance for doubtful accounts ( 55,000)
Inventories 530,000
Property and equipment 620,000
Accumulated Depreciation ( 280,000)
Total Assets 2,625,000

Liabilities and Stockholders’ Equity

Accounts payable and accrued liabilities 1,685,000
Income tax payable 110,000
Common stock, P20 par 300,000
Additional paid-in capital 75,000
Retained earnings 455,000
Total liabilities and stockholders’ equity 2,625,000

Z Corporation
STATEMENT OF INCOME
For the Year Ended December 31, 2016
Net Sales 1,700,000
Cost of sales 570,000
Gross Profit 1,130,000
Operating Expenses
Selling and administrative 448,000
Depreciation 42,000
Income before income tax 640,000
Income tax expense 192,000
Net Income 448,000

Z’s tax rate for all items was 30% for all affected years, and it made estimated tax payments when
due. Z has been profitable in the past and expects results in the future to be similar to 2016. During
the course of the audit, the following additional information (not considered when the above
statements were prepared) was obtained:

1. The investment portfolio consists of short-term investment, classified as financial assets at fair
value through profit or loss, for which total market value equaled cost at December 31, 2015. On
February 2, 2016, Z sold one investment with a carrying value of P100,000 for P130,000. The
total of the sale proceeds was credited to the investment account.

2. At December 31, 2016, the market value of the remaining securities in the portfolio was P142,000.

3. The P530,000 inventory total, which was based on a physical count at December 31, 2016, was
priced at cost. Subsequently, it was determined that the inventory cost was overstated by
P66,000. At December 31, 2016, the inventory’s market value approximated the adjusted cost.

4. Pollution control devices costing P48,000, which is high in relation to the cost of the original
equipment, were installed on December 29, 2015, and were charged to repairs in 2015.

5. The original equipment referred to in Item 4, which had a remaining useful life of six years on
December 20, 2015, is being depreciated by the straight-line method for both financial and tax
reporting.

6. A lawsuit was filed against Z Corporation in October 2016 claiming damages of P250,000.
Company’s legal counsel believes that an unfavorable outcome is probable, and a reasonable
estimate of the court’s award to the plaintiff is P60,000, which will be paid in 2017 if the case is
settled.

Questions:
1. Financial Assets at Fair Value at year-end is:
2. Unrealized loss of marketable equity security at year-end is:
3. Inventory at year-end is:
4. Cost of sales at year-end is:
5. Net income of the company is:

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Problem 6
Z established a retail business in 2014. Early in 2017, Z entered into negotiations with Y with the
intent to form a partnership. You have been asked by Z and Y to check Z’s books for the past three
years to help Y evaluate the earnings potential of the business.

The net incomes reported on statements submitted to you were as follows:

Year ending 12/31

2014 2015 2016
Income, pretax P63,000 P 70,763 P 61,880

During the examination of the accounts, you found the data given below:

For year ended Dec. 31

2014 2015 2016
Omission from the books

a. Accrued expenses at end of year P 15,120 P 14,658 P 32,368

b. Earned (uncollected) revenue at end of year 1,400
c. Prepaid expenses at end of year 6,314 8,470 9,842
d. Unearned revenue (collected in advance)
at end of year 4,270

Goods in transit at end of year omitted from

inventory

e. Purchase for which the entry had been made

(ownership passed) 18,270 21,640
f. Purchase for which the entry had not been made
(ownership not passed) 11,970 13,710

Other points requiring considerations:

g. On January 1, 2016, sold operational equipment for P31,500 that originally cost P35,000 on
January 1, 2014. Cash was debited for P31,500 and equipment was credited for P31,500. The
asset sold was depreciated in 2014 and 2015 but not on the 2016 on the basis of a 10-year life
and no residual value.

h. No allowance for bad debts has been set up. An analysis of accounts receivable as of December
31, 2016, indicates that the allowance account should have a balance of P14,000, of which P3,500
relates to 2014, P4,900 to 2015, and P5,600 to 2016.

Questions:
1. Adjusted net income of 2014 is:
2. Adjusted net income of 2015 is:
3. Adjusted net income of 2016 is:
4. Inventory at year-end is understated by:
5. Accrued expenses at year-end is overstated/understated by:

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Problem 7
Z Corporation prepared its own income statement for the years 2015 and 2016. The President was not
satisfied and decided to engage the services of a CPA. The following errors were discovered by the
CPA:
___2015__ ___2016___
Net income after income tax P 123,250 P 156,250
Inventory understatement at year-end P - P 12,500
Prepaid expenses not taken up 5,000 15,000
Merchandise purchased on account not
Recorded as liability but included in
inventory 25,000
Unearned rent received taken into income 9,000
Accrued taxes unrecorded 20,000 15,000

Questions:
1. Net income of 2015 is:
2. Net income of 2016 is:

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Problem 8
Z Storage underwent a restructuring in 2016. The company conducted a thorough internal audit,
during which the following facts were discovered. The audit occurred during 2016 before any
adjusting entries or closing entries are prepared.

a. Additional printers were acquired at the beginning of 2014 and added to the company’s office
network. The P9,000 cost of the printers was inadvertently recorded as maintenance expense.
The printers have five-year useful lives and no material salvage value. This class of equipment is
depreciated by the straight-line method.

b. Three weeks prior to the audit, the company paid P51,000 for storage boxes and recorded the
expenditure as office supplies on hand. The error was discovered a week later.

c. On December 31, 2015, inventory was understated by P112,000 due to a mistake in the physical
inventory count. The company uses the periodic inventory system.

d. Three years earlier, the company recorded a 3% stock dividend (4,000 common shares, P1) as
follows:

Retained earnings 4,000

Common stock 4,000

The shares had a market price at the time of P10 per share.

e. At the end of 2015, the company failed to accrue interest expense that accrued during the last
four months of 2015 on bonds payable. The bonds which were issued at face value mature in
2020. The following entry was recorded on March 1, 2016, when the semi-annual interest was
paid:

Interest expense 180,000

Cash 180,000

f. A three-year liability insurance policy was purchased at the beginning of 2015 for P216,000. The
full premium was debited to insurance expense at the time.

Questions:
1. Net income of 2014 is:
2. Net income of 2015 is
3. Net income of 2016 is
4. Accrued interest on Bonds Payable is