Test yourself 3 - Accounting for changes in a/c policies.

[Acid]

Hi,

In the F7 GTG Studytext , Test yourself 3 on page A2.15 , It says that the valuation of building have increased by $100,000 at 31 DEC 20X5 and an increase of $40,000 as at 31 DEC 20X4.

That makes a total increase of $140,000. So why only $60,000 increase has been Dr in Investment properties of 31 Dec 20X5 rather then of $100,000 ?

Thank you,

Acid

[Snehal P]

Hi Acid,

I hope you enjoy studying for F7 from your GTG study text!

Here's the answer to your question:

The term ‘applying the changes retrospectively’ means that the entity

1) adjusts the opening balance of each affected component of equity for the earliest prior period presented;
2) discloses other comparative amounts for each prior period presented; and
3) treats the information as if the new accounting policy had always been applied.

In TY 3 on page A2.15, the earliest prior period which is affected because of change in accounting policy is 20X4.

Hence we first make an entry for the comparative figures of 20X4. The entry taken is
Dr Investment properties 40,000
Cr Retained earnings 40,000
Being the retrospective effect (increase in value) of change in accounting policy from historical cost to fair value.

The previous year (i.e.20X4) figures in the accounts for 20X5 will reflect the non-current asset at the revalued amount of $790,000 (750,000 + 40,000) and the profit for the year is $590,000 (550,000 + 40,000).

Subsequently in the accounts for 2005, we take the entry
Dr Investment properties 60,000
Cr Retained earnings 60,000
Being increase in the value of investment properties.

What we have effectively done is we have changed the accounts for 20X4 i.e. applied the changes retrospectively.

If we debit the entire $100,000 in 2005 then we are not making a retrospective change in the account; rather we are accounting for the entire revaluation in the current year only. This would be incorrect as the standard tells us to apply the changes retrospectively.

Sorry, there is a small error in the 'extracts from the income statements' part of the answer.

Given in book:

20X5 20X5 20X4 20X4
Revised Original Revised Original
Profit for the year
(showing 100,000 & 40,000 increase) 610,000 550,000 590,000 550,000

The correct presentation is (showing 60,000 & 40,000 increase).The original and revised numbers of profit are correct.

The increase in profits of 20X4 by $40,000, will be reflected in the brought forward reserves for 20X5.

Hope this helps!

F7 Author

[Acid]

I see , Because of the error in the extract of income statement , I was confused that why $100,000 is taken there while only $60,000 is Db in the investment a/c.

Thank you very much for the help!

Acid

[Sao]

I've also came across this ERROR in the F7 Studytext .