CONCEPTUAL FRAMEWORK AND ACCOUNTING STANDARDS (AE

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LEARNING MATERIAL

UNIT NUMBER/ HEADING: MODULE 3/ PAS 8: ACCOUNTING POLICIES

ESTIMATES AND ERRORS
LEARNING OUTCOMES:
At the end of the unit, the students will be able to:
a. Recognize and describe the effect of change in accounting policy
and accounting estimate
b. Apply the concept in change of accounting policy and accounting
estimate
c. Recognize and describe the effect of accounting errors
d. Apply the concept in prior period accounting errors

INTRODUCTION:
Accounting policies are essential for proper understanding of the
information contained in the financial statements. Accounting estimates on the
other hand are the circumstances on which the estimate was based or as a result
of new information, more experience or subsequent or subsequent development.
Prior period errors are omissions and misstatement in the financial statements
for one or more period arising from a failure to use or misuse of reliable
information.

In this unit, you will learn the reason why we need to change accounting
policies and accounting estimates. You will also gain knowledge and
comprehension oh how accounting policies, estimates and prior period errors are
recognized, and reported, including their effects on financial statements.

Topic 1: CHANGE IN ACCOUNTING POLICY,

ACCOUNTING ESTIMATE AND PRIOR PERIOD ERRORS

Learning Objectives:
At the end of the topic, the students will be able to:
a. Recognize and describe the effect of change in accounting policy
and accounting estimate
b. Apply the concept in change of accounting policy and accounting
estimate
c. Recognize and describe the effect of accounting errors
d. Apply the concept in prior period accounting errors

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 Activating Prior Learning

Give 3 transactions or events that describe each of the following:

Change in Change in
Prior Period error
Accounting Policy Accounting Estimate

1. 1. 1.
2. 2. 2.
3. 3. 3.

Presentation of Content

CHANGE IN ACCOUNTING POLICIES

Accounting policies are the specific, principles, bases, conventions, rules
and practices. The entity shall select and apply the same accounting policies
each period in order to achieve comparability of financial statements or to
identify trends in the financial statements

It is very important to note that an accounting policy has been selected; it

must be applied consistently for similar transactions and events. However a
change in accounting policy shall be allowed for change when the following
justifications arise:
a. Required by an accounting standard
b. The change will result in more relevant and faithfully represented
information about the financial statements

Examples of changes in accounting policy are:

a. Change in the method of inventory pricing (e.g. FIFO to Weighted average
method)
b. Change in the accounting recognition for long term construction contract
(e.g. cost recovery method to percentage of completion method)
c. Change from cost model to fair value model in measuring investment
property
d. The initial adoption of policy to carry over assets at revalued amount is
change in accounting policy to be dealt with as revaluation
e. Change to new reporting policy resulting from the requirement of a new
PFRS

How to report a change in accounting policy?

A change in accounting policy required by a standard or an interpretation shall

be applied in accordance with the transitional provision.

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If the standard or interpretation contains no transitional provisions or an
accounting policy is changed voluntarily, the change shall be applied
retrospectively or retroactively

Retrospective application

The comparative financial statements of all prior years presented shall be

restated as if the new policy had always been applied. The cumulative effect of
change in accounting policy, net of applicable income tax, shall be treated as an
adjustment to the beginning balance of retained earnings in the earliest prior
period presented.

Limitation of Retrospective application

Retrospective application of the change in accounting policy need not be made,

if it is IMPRACTICABLE to do so. A procedure is considered impracticable if:
1. The effects of the retrospective application are not determinable;
2. The retrospective application requires assumptions about what
management’s intentions would have been at the time;
3. The retrospective application requires significant estimates of amounts,
and it is impossible to distinguish objectively, from other information,
information about those estimates that provides evidence of
circumstances that existed at that time and would have been available at
that time
When it is impracticable to make retrospective application, the entity applies the
change to the earliest period to which it is possible to apply the change, which
normally is the beginning of the current period

If comparative information is presented, the financial statements of the prior

period presented shall be restated to conform with the new accounting policy

Illustration:
An entity has used weighted average method in valuation of its inventory since
2019.
The entity decided to change the weighted average method to FIFO method for
determining inventory cost at the beginning of 2020
Weighted FIFO
Average
December 31, 2019 1,000,000 750,000
December 31, 2020 1,500,000
1,200,000

Inventory January 1, 2020

Weighted average inventory 1,000,000
FIFO 750,000

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Increase/Decrease 250,000

Adjustment of the decrease in beginning inventory

Retained earnings 250,000
Inventory 250,000

The computation of the cost of goods sold for 2020 would then show beginning
inventory at P750,000 and ending inventory at P1,200,000 to confirm with the
FIFO method.

The statement of changes in in equity for the year ended December 31, 2020
would show the effect of the change of P250,000 net of tax as a deduction from
beginning balance of retained earnings.

Absence of accounting Standard

PAS 8, paragraph 10, provides that in the absence of an accounting
standard that specifically applies to a transaction or event, management shall
use judgment in selecting and applying accounting policy that results in
information that is relevant to the economic decision making needs of users and
faithfully represented.

In the absence of accounting standards, the following hierarchy of

guidance may use by management when selecting accounting policies.
1. Requirements of current standards dealing with similar matters
2. Definition, recognition criteria and measurement concepts for assets,
liabilities, income and expenses in the conceptual framework for
financial reporting
3. Most recent pronouncement of other standard-setting bodies that use a
similar Conceptual Framework, other accounting literature and
accepted industry practices

CHANGE IN ACCOUNTING ESTIMATE

A change in accounting estimate is a normal recurring correction or

adjustment of an asset or liability which is the natural result of the use of an
estimate.

An estimate may need revision if changes occur regarding the

circumstances on which the estimate was based or as a result of new
information, more experience or subsequent or subsequent development. The
revision of the estimate does not relate to prior period error and is not a
correction of an error

If it is difficult to distinguish a change in accounting estimate and

accounting policy, the change is treated as a change in accounting estimate and
is supported by appropriate disclosure.

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Examples of accounting estimates

As a result of the uncertainties in business activities, many items in financial

statements cannot be measured with precision but can only be estimated.
Estimates also involved judgment based on the latest available and reliable
information. Estimates may be required for the following:
1. Doubtful accounts
2. Inventory obsolescence
3. Useful life, residual value and expected pattern of depreciation of
depreciable asset
4. Provisions liability
5. Fair value of assets and liability

How to report change in accounting estimate?

The effect of a change in accounting estimate shall be recognized currently and
prospectively by including it in profit or loss of:
a. The period of change if the change affects that period only
b. The period of change and future periods if the change affects both

A change in accounting estimate shall not be accounted for restating amounts

reported in financial statements of prior period. Changes in accounting estimates
are treated currently and prospectively, if necessary. Prospective recognition of
the effect of change in accounting estimates means that the change is applies to
transactions or other events and condition from the date of change in estimate.

To illustrate, let us take this as an example:

A depreciable asset costing P800,000 is estimated to have a life of 5 years. At
the beginning of the third year, the original life is changed to 8 years. Thus, the
asset has a remaining life of 6 years. In this case, the procedure is not to correct
past transaction but to allocate the remaining carrying amount of the asset to its
remaining useful life.
Carrying amount (P800,000 -320,000) 480,000
Divide: New remaining useful life 6________
Subsequent annual depreciation 80,000

The entry to record the annual depreciation, starting in the third year is:
Depreciation 50,000
Accumulated Depreciation 50,000

CORRECTING PRIOR ERRORS

Prior period errors are omissions and misstatement in the financial

statements for one or more period arising from a failure to use or misuse of
reliable information. Errors make arise as a result of mathematical mistakes,
mistakes in applying accounting policies, misinterpretation of facts, fraud or
oversight

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How to treat prior period error?
An entity shall correct material prior period errors respectively in the first
set of financial statements authorised for issue after their discovery by:
(a) Restating the comparative amounts for prior period(s) in which error
occurred, or
(b) If the error occurred before that date – restating the opening balance of
assets, liabilities and equity for earliest prior period presented.

If comparative statements are presented, the financial statements of the

prior period error shall be restated, so as to reflect the retroactive application of
the prior period error as a retroactive restatement

Application

These activities are assessment if you understand that discussions we

had. Though this will not be recorded, it will still form part of your class
standing so make sure to accomplish the tasks given to you. 

Your tasks:

1. When is change in accounting policy allowed?

2. Differentiate Change in accounting policy and change in accounting
estimates. How these changes recognized and reported?

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 Feedback

Multiple Choice

1. A change in measurement basis is most likely a

A) Change in accounting policy
B) Change in accounting estimate
C) Error
D) Any of these
2. A correction of prior error is accounted for by
A) Retrospective application
B) Retrospective restatement
C) Prospective application
D) Impracticable application
3. Which of the following is a change in accounting estimate?
A) Change from the cost model to the fair value model of measuring
investment property
B) Change in business model for classifying financial assets resulting to
the reclassification of financial assets from being measured at
amortized cost to fair value
C) Change in the method of recognizing revenue from long-term
construction contract
D) Change in the depreciation method, useful life or residual value of an
item of property, plant and equipment
4. These result from new information or new development
A) Change in accounting estimates
B) Change in accounting policies
C) Correction of errors
D) All of these
5. The effect of which of the following is presented in the profit or loss in the
current period ( or current or future periods if both are affected) rather
than as an adjustment to the opening balance of retained earnings
A) Correction of prior period error
B) Change in accounting policy
C) Change in accounting estimate
D) All of these
6. According to PAS 8, in the absence of PFRS that specifically deals with a
transaction, management shall
A) Refer to the concepts under the conceptual framework
B) Adopt the provisions of the GAAP

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 C) Use judgment in developing and applying an accounting policy that
results in information that is relevant and reliable
D) Consider the applicability of relevant accounting information
7. According to PAS 8, a change in accounting policy is accounted for
A) Using a transitional provision if any
B) Retrospectively
C) Prospectively, if retrospective application is impracticable
D) A,B or C whichever is most appropriate
8. This refers to applying a new accounting policy to transactions, other
events and conditions as if that policy had always been applied
A) Retrospective application
B) Prospective application
C) Retrospective restatement
D) Impracticable application
9. According to PAS 8. A change in accounting estimate is accounted for
A) Using transitional provision
B) Retrospectively
C) Prospectively
D) A,B, or C whichever is most appropriate
10.Entity A changes its inventory cost formula from FIFO to weighted
average. How should entity A account for this change?
A) By retrospective restatement, as a change in accounting policy
B) By prospective application, as change in accounting estimate
C) By retrospective application, as change in accounting policy
D) As a correction of prior period error

Summary of the Unit

The two types of accounting changes are the; change in accounting policy
and change in accounting estimate
Accounting policies are the specific, principles, bases, conventions, rules
and practices. The entity shall select and apply the same accounting
policies each period in order to achieve comparability of financial
statements or to identify trends in the financial statements
A change in accounting policy required by a standard or an interpretation
shall be applied in accordance with the transitional provision
The change in accounting policy is treated retrospectively or retroactively

An estimate may need revision if changes occur regarding the

circumstances on which the estimate was based or as a result of new
information, more experience or subsequent or subsequent development.
The revision of the estimate does not relate to prior period error and is not
a correction of an error

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 A change in accounting estimate is a normal recurring correction or
adjustment of an asset or liability which is the natural result of the use of
an estimate.
Change in accounting policy normally results from a change in
measurement basis. Change in accounting estimate results from changes
on how the expected inflows or outflows of economic benefits are realized
from assets or incurred on liabilities
Change in accounting estimate shall be recognized currently and
prospectively by including it in profit or loss of:
If it is difficult to distinguish a change in accounting estimate and
accounting policy, the change is treated as a change in accounting
estimate and is supported by appropriate disclosure.
Prior period errors are omissions and misstatement in the financial
statements for one or more period arising from a failure to use or misuse
of reliable information. Errors make arise as a result of mathematical
mistakes, mistakes in applying accounting policies, misinterpretation of
facts, fraud or oversight

Student’s Reflection on Learning

This part of the module will be a time for you to look back, and reflect on
what you have learned from this unit. Though, this will not be checked
and recorded, I would appreciate if you will do this wholeheartedly and
with all seriousness.

Answer only one the following questions

1. Think of personal policies you are using in your financial

undertakings? Think of the instance when you depart from that
policy and explain why you need to deviate from / or change that
policy? What is the effect of your departure from your policy to
your undertaking?

2. Think of personal financial goals that you had undergone (e.g.

budgeting, savings, business undertakings, etc.) and relate to
the estimates or projections that you applied. Does your
estimates/projections still reliable at present? Explain the effect
of your estimates to the result of your undertakings.

References:

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 Valix, C. T., Peralta, J.F & Valix C. A. M. (2020). Conceptual
Framework and Accounting Standards. Manila, Philippines: GIC
Enterprises & Co.. Inc.
 Millan, Zeus Vernon B. (2019). Conceptual Framework and
Accounting Standards. Baguio City, Philippines: Bandolin Enterprise
Publishing and Printing

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