ACCA F3 (INT) Financial Accounting - 2010 - Study text - Emile Woolf Publishing
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Chapter 10: Trial balance, correcting errors and suspense accounts
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and will not be apparent from a check on the trial balance totals for debits and
credits.
Since a trial balance cannot be used to identify the existence of all errors, it has
serious limitations as a method of identifying and correcting errors.
For the purpose of our examination, however, you need to be able to:
identify errors in a double entry accounting system, and
know how to correct them.
Corrections to errors in an accounting system are recorded as journal entries and then
posted from the journal to the relevant accounts in the main ledger.
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Correcting errors
An approach to correcting errors
The effect of errors on profit
2 Correcting errors
2.1 An approach to correcting errors
Errors should be corrected when they are found.
Transactions that have been omitted from the main ledger entirely should be
recorded in the accounts. The omitted item can be recorded in the journal, and
posted from the journal to the relevant accounts in the main ledger and, if
required, the receivables or payables ledger.
Entries that have been made incorrectly in the accounts must be corrected by
means of suitable debit and credit entries in the accounts. The correction of an
error should be recorded in the journal and then posted from the journal to the
relevant accounts.
In order to correct errors properly, you need to be able to:
identify an error
recognise what the correct entry in the accounts should have been and
work out how to make the correction by means of double entry adjustments.
One approach to correcting errors is to use memorandum T accounts. For each
account affected by an error, you can prepare two sets of memorandum T accounts
for:
(1) What accounting entries have been made in the accounts, and
(2) What the accounting entries should have been.
By comparing what has been recorded in the accounts with what should have been
recorded, you can then work out the double entry adjustments that are needed to
get from ‘where we are’ to ‘where we want to be’. Some examples will help to
illustrate the approach.
Example
A business has recorded a repair cost of $1,500 to a machine as a debit in the
machinery at cost account.
If you cannot see immediately what double entry adjustments are needed to correct
the error, you could prepare the following memorandum accounts.
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(1) What has been recorded
(2) What should have been recorded
Machinery(atcost)account Machine(atcost)account
Dr CrDr Cr
15,000 0
Machinerepairsaccount Machinerepairsaccount
Dr CrDr Cr
0 15,000
The machinery (at cost) account has a debit entry of $15,000 when there should be
nothing in the account for the transaction. To remove this error and reduce the
account balance to $0 for the transaction, we need to credit the machine (at cost)
account with $15,000.
The machine repairs account has nothing recorded for the transaction, but there
should be a debit balance of $15,000. To correct his account, we need to debit the
account with $15,000.
To correct the error, the required double entry is:
Debit: Machine repairs $15,000
Credit: Machinery (at cost) account $15,000.
Example
A business has recorded discounts allowed of $2,600 as a debit in the discounts
received account.
If you cannot see immediately what double entry adjustments are needed to correct
the error, you could prepare the following memorandum accounts.
(1) What has been recorded
(2) What should have been recorded
Discountsallowedaccount Discountsallowedaccount
Dr CrDr Cr
0 2,600
Discountsreceivedaccount Discountsreceivedaccount
Dr CrDr Cr
2,600 0
The discounts allowed account has nothing recorded for the transaction, but there
should be a debit balance of $2,600. To correct his account, we need to debit the
account with $2,600.
The discounts received account has a debit entry of $2,600 when there should be
nothing in the account for the transaction. To remove this error and reduce the
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account balance to $0 for the transaction, we need to credit the discounts received
account with $2,600.
To correct the error, the required double entry is:
Debit: Discounts allowed account $2,600
Credit: Discounts received account $2,600.
2.2 The effect of errors on profit
Unless they are corrected, accounting errors will have an effect on the reported
profit for the period. An examination question might ask you to quantify this effect
for a given error. In a typical question of this sort, the error might involve recording
a capital expenditure item as a revenue expenditure item, or a revenue expenditure
item as capital expenditure. Alternatively, a capital expenditure item might be
recorded at an incorrect amount.
Example
A bookkeeper in error recorded the purchase cost of a new item of equipment as
$3,600 when it should have been $36,000.
A draft profit of $256,000 for the period was calculated before the discovery of the
error. This included a depreciation charge of 10% ($360) for the equipment.
What is the correct figure for profit?
Answer
$
Draftprofit 256,000
Addback:Depreciationincorrectlycharged 360
256,360
Deduct:Correctdepreciationcharge(10%×$36,000) (3,600)
Adjustedfigureforprofit 252,760
Example
A bookkeeper in error recorded the $60,000 purchase cost of a new machine as
repairs and maintenance costs
A draft profit of $300,000 for the period was calculated before the discovery of the
error. Depreciation on machinery is charged at 20% on cost, with a full year’s charge
in the year of acquisition.
What is the correct figure for profit?
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Answer
$
Draftprofit 300,000
Addback:Repaircostsincorrectlycharged 60,000
360,000
Deduct:Depreciationcharge(20%×$60,000) (12,000)
Adjustedfigureforprofit 348,000
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Suspense accounts
Trial balance: differences in total debits and total credits
Opening a suspense account
Correcting errors where a suspense account is opened
Unknown entry
3 Suspense accounts
3.1 Trial balance: differences in total debits and total credits
The examples of correcting errors in the previous section involve errors where the
amount of the debit entry and the amount of the credit entry were the same. These
errors would not be identified by extracting a trial balance.
When errors are made where the amount of the debit entry differs from the amount
of the credit entry, total debit balances and total credit balances in the main ledger
accounts will differ. A trial balance of all the accounts in the main ledger will show
these different amounts. It will also indicate that there is an error, or possibly
several errors, in the accounting records.
These must be discovered and corrected. Until they are discovered, the first step
should be to open a suspense account.
When errors have resulted in total debit entries and total credit entries being
different, the errors are corrected using the suspense account.
A suspense account is a short-term T account that is required only until the
errors have been identified and corrected.
3.2 Opening a suspense account and correcting the errors
When a suspense account is opened, an opening balance is entered in the account.
This can be either a debit balance or a credit balance.
The balance entered into the suspense account should be an amount that makes
equal the total debit balances and the total credit balances on all the main ledger
accounts (including the balance on the suspense account).
Example
A business has prepared a trial balance of the main ledger account balances. This
shows total debit balances of $456,000 and total credit balances of $488,000. A
suspense account must be opened. The balance on the account to make total debit
and total credit balance equal is a debit balance of $32,000 ($488,000 credits less
$456,000 debits).
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Suspenseaccount
$ $
Openingbalance 32,000
The errors should now be investigated, to find out what they are, and what must be
done to correct them. The errors have not been fully corrected until the balance on
the suspense account has been reduced to zero.
3.3 Correcting errors where a suspense account is opened
When it is clear that an error has occurred, it is often helpful to decide the answer to
two questions:
Has the error resulted in different total amounts for debit and credit entries?
− If the answer is yes, making the correction will involve the suspense account
− If the answer is no, the correction should be made, but will not involve the
suspense account
If the error has resulted in different total amounts for debit and credit entries,
think about the main ledger account or accounts containing the error, and decide
what needs to be done to correct the balance on that account.
The same approach used in the previous section for correcting errors can be used.
For each account affected by an error, you can prepare two sets of memorandum T
accounts for:
(1) What accounting entries have been made in the accounts, and
(2) What the accounting entries should have been.
By comparing what has been recorded in the accounts with what should have been
recorded, you can then work out the double entry adjustments that are needed to
get from ‘where we are’ to ‘where we want to be’.
However, when the error involves different total amounts of debits and credits, a
debit or credit entry in the suspense account is needed as a ‘balancing figure’ to
make the total debits and credits equal. Correcting the error(s) should reduce the
balance on the suspense account to $0.
Example
A debit entry in the rent expense account has been entered as $5,000 when it should
have been $5,500, but the entry in the cash book (bank account) for the payment was
entered correctly as $5,500.
The debit entry in the rent account is $500 too low, resulting in a difference between
total debits and total credits. The first step is to open a suspense account and enter a
balance to make total debits and total credits equal.
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Suspenseaccount
$ $
Openingbalance 500
We can now look at ‘where we are’ and ‘where we want to be’
(1) What has been recorded
(2) What should have been recorded
Rentexpenseaccount Rentexpenseaccount
Dr CrDr Cr
5,000 5,500
Suspenseaccount Suspenseaccount
Dr CrDr Cr
500 0
The correction is made by entering $500 as a debit in the rent expense account. The
matching double entry is to the suspense account (in this example, a credit entry of
$500 in the suspense account).
Suspenseaccount
$ $
Openingbalance 500 Rentaccount 500
Rentexpenseaccount
$ $
Openingbalance 5,000
Suspenseaccount 500
Example
A discount allowed of $4,000 (expense) has been recorded as a credit entry in the
discount received account (an income account) by mistake.
(1) What has been recorded
(2) What should have been recorded
Discountsallowedaccount Discountsallowedaccount
Dr CrDr Cr
0 4,000
Discountsreceivedaccount Discountsreceivedaccount
Dr CrDr Cr
4,000 0
As a result of this error, total credits are $4,000 higher than they should be, and total
debits are $4,000 lower than they should be. This error is corrected as follows, with
an entry in the suspense account to match total debits with total credits:
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Journalentry Debit Credit
$ $
Discountsreceived 4,000
Discountsallowed 4,000
Suspenseaccount8,000
=Correctionoferror
Both the discounts allowed account and the discount received account must be
corrected.
The discounts received account should not have been credited with $4,000. To
correct the error, there must be a debit entry of $4,000 in the account.
The discounts allowed account (an expense account) should have been debited
with $4,000.
The corrections in these two accounts are balanced by a credit entry for $8,000 in
the suspense account.
In the main ledger:
Suspenseaccount
$ $
Discountsallowed/received 8,000
Discountsreceivedaccount
$ $
Suspenseaccount 4,000
Discountsallowedaccount
$ $
Suspenseaccount 4,000
Example
A payment to a supplier of $23,500 has been recorded in the cash book/bank
account in the main ledger, but has not been recorded in the trade payables account.
As a result, total credits exceed total debits in the trial balance by $23,500 and a
suspense account must be opened with a debit balance of $23,500.
(1) What has been recorded
(2) What should have been recorded
Trade payables account Trade payables account
Dr Cr
Dr
Cr
0 23,500
Suspenseaccount Suspenseaccount
Dr CrDr Cr
23,500 0
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This error would be corrected as follows.
Journalentry Debit Credit
$ $
Tradepayables 23,500
Suspenseaccount23,500
Correctionoferror
Exercise 1
A trial balance has been prepared, and total debits are $459,100 and total credits are
$459,700.
On investigation, the following errors are found:
Sales returns of $800 were recorded correctly in the receivables account in the
main ledger, but they have been recorded incorrectly as a credit entry in the
purchases returns account.
In the sales day book, the column for total sales excluding sales tax has been
added up incorrectly. The total should be $26,420, but the total was undercast by
$1,000. (The total was added up as $25,420). The correct total amount receivable
was entered in the receivables account in the main ledger.
Required
Open a suspense account and record the book-keeping entries required to correct
the errors.
3.4 Unknown entry
We have seen that a suspense account is opened in order to make a trial balance
have equal debits and credits until the errors have been discovered. In some
instances however a suspense account will be opened deliberately by the
bookkeeper if the bookkeeper is uncertain of where to post one side of the double
entry.
Example
A bookkeeper has received a cheque for $1,000 but does not know who the cheque is
from or what it relates to. Rather than putting the cheque to one side until it is
known what it is for the bookkeeper may decide to record the debit entry in the cash
b
ook/bank account and then, not knowing where the credit entr
y
should go, to
credit the suspense account instead.
Suppose that it was eventually discovered that the cheque was for some old office
furniture that had been sold then the bookkeeper would remove the credit is the
suspense account with a debit entry and then correctly credit the disposal account
(see later chapter) with the credit entry.