Accounting adjustment of prior period errors and omissions

Finally Indian Companies are converting their books of account into IFRS with equivalent Standards i.e. Ind AS, as per the roadmap for implementation of Ind AS notified by MCA. While converting into Ind AS, the Companies are facing couple of practical issues in dealing with the requirements of Ind AS. There are lots of questions are still unanswered on practical aspects. Among the most common questions, one question is that – HOW TO ACCOUNT PRIOR PERIOD ERRORS?

1. Ind AS 8 – “Accounting Policies, Changes in Accounting Estimates” requires retrospective adjustment of prior period errors and omissions by restating the comparative amounts for prior period presented or, where the errors relates to the period(s) before the earliest prior period presented, restating the opening balance of assets, liabilities and equity for that period.

2. Prior to Ind AS 8, prior period error and omission were accounted in accordance with the Accounting Standard 5 – “Net Profit or Loss for the Period, Prior Period Items and Changes in Accounting Policies”. Accounting standard 5, provides prospective correction of prior period error and omissions in the current year’s profit and loss account and requires disclosures of nature and amount of prior period item in such a manner that the impact on profit and loss could be perceived.

3. We can see, Ind AS 8 gives completely different accounting treatment for period items as compared to AS 5. Before understanding the new accounting treatment under the Ind AS 8, let’s analyze the basic differences between Ind AS 8 and AS 5 in the table below:

Basis	Ind AS 8	AS 5
Period of adjustment	Ind AS 8 requires rectification of prior period errors with retrospective effect subject to limited exceptions	AS 5 requires the rectification of prior period items with prospective effect
Definition	Errors or omissions arising from a failure to use or misuse of reliable information that was available when the financial statements of the prior periods were approved for issuance and could reasonably be expected to have been obtained and taken into account in the preparation and presentation of those financial statements.	Prior period items are incomes or expenses which arise in the current period as a result of errors or omissions in the preparation of financial statements of one or more prior periods.
Use of separate head for prior period items	Not Allowed	Requires as per disclosure requirement
Restatement of Financial of previous period	Required to present the adjustment in prior periods	Not required

4. Analysis of Ind AS 8 on Prior period Items.

A. What is prior period error?

Prior period errors are omissions from, and misstatements in, the entity’s financial statements for one or more prior periods arising from a failure to use, or misuse of, reliable information that:

– Was available when financial statements for those periods were authorized for issue

– Could reasonably be expected to have been obtained and taken into account in the preparation and presentation of those financial statements.

B. What may cause errors?

Errors discovered during a current period which relate to a prior period may arise through:

(a) Mathematical mistakes

(b) Mistakes in the application of accounting policies

(c) Misinterpretation of facts

(d) Oversights

(e) Fraud

C. What is the accounting treatment given in Ind AS 8 for correction of prior period errors?

Prior period errors: correct retrospectively. There is no longer any allowed alternative treatment.

This involves:

(a) Either restating the comparative amounts for the prior period(s) in which the error occurred, or

(b) When the error occurred before the earliest prior period(s) presented, restating the opening balances of assets, liabilities and equity for that period, so that the financial statements are presented as if the error had never occurred.

Only where it is impracticable to determine the cumulative effect of an error on prior periods can an entity correct an error prospectively.

Immaterial prior period error can be corrected in the financial statement of the period in which it is discovered.

Practical case study

During 2017 Sunrise limited discovered that certain items had been included in inventory at 31 Mar 2016, valued at 42000, which had in fact been sold before the year end. The following figures for 2015-16 (as reported) and 2016-17 (draft) are available.

Year	2015-16	2016-17 (draft)
Sales	47,400	67,200
Cost of goods sold	(34,570)	(55,800)
Profit before taxation	12,830	11,400
Income taxes	(3,880)	(3,400)
Profit for the period	8,950	8,000

Retained earnings at 1 Apr 2015 were 13000. The cost of goods sold for 2016-17 includes the 42000 error in opening inventory. The income tax rate was 30% for 2015-16 and 2016-17. No dividends have been declared or paid.

Required

Show the statement of profit or loss for 2016-17, with the 2015-16 comparative, and retained earnings.

Statement of Profit or Loss

Particulars	2015-16	2016-17
Sales	47,400	67,200
Cost of sales (Working 1)	(38,770)	51,600)
Profit before tax	8,630	15,600
Income tax (Working 2)	2,620	4,660
Profit for the year	6,010	10,940
Retain Earnings
Opening retain earnings (before adjustment) ( 2016-17 – 13000+8950)	13,000	21,950
Correction of prior period (4,200- 1,260)	–	(2,940)
As restated	13,000	19,010
Profit for the year	6,010	10,940
Closing retain earning balance	19,010	29,950

Workings 1

Cost of goods sold

	2015-16	2016-17
As stated in question	34,570	55,800
Inventory adjustment	4,200	(4,200)
	38,770	51,600

Workings 2

Income tax

	2015-16	2016-17
As stated in question	3,880	3,400
Inventory adjustment (4,200 × 30%)	(1,260)	1,260
	2,620	4,660

D. What are the disclosures required on prior period adjustment?

(a) Nature of the prior period error

(b) For each prior period, to the extent practicable, the amount of the correction:

(i) For each financial statement line item affected

(ii) If Ind AS 33 applies, for basic and diluted earnings per share

(c) The amount of the correction at the beginning of the earliest prior period presented

(d) If retrospective restatement is impracticable for a particular prior period, the circumstances that led to the existence of that condition and a description of how and from when the error has been corrected.

Subsequent periods need not repeat these disclosures.