Question

In 2021, internal auditors discovered that PKE Displays, Inc. had debited an expense account for the $362,000 cost of equipment purchased on January 1, 2018. The equipment’s life was expected to be five years with no residual value. Straight-line depreciation is used by PKE.

Required:
1. Determine the cumulative effect of the error on net income over the three-year period from 2018 through 2020, and on retained earnings by the end of 2020.
2. Prepare the correcting entry assuming the error was discovered in 2021 before the adjusting and closing entries. (Ignore income taxes.)
3. Assume instead that the equipment was disposed of in 2022 and the original error was discovered in 2023 after the 2022 financial statements were issued. Prepare the correcting entry in 2023.

Determine the cumulative effect of the error on net income over the three-year period from 2018 through 2020, and on retained earnings by the end of 2020.

	Net income over the period 2018 through 2020 is understated by    Retained earnings by the end of 2020 is understated by

• Journal entry worksheet

• Record the correcting entry for errors discovered.

• Note: Enter debits before credits.

  	Event General Journal Debit Credit 1

• Journal entry worksheet

• Record the correcting entry for errors discovered.

• Note: Enter debits before credits.

  	Event General Journal Debit Credit 1

Answer 1

Part 1

During 2018 to 2020 year end (three year period), depreciation expense has been understated by $217200 ($72400*3 yrs) but other expenses was overstated by $362,000, so net income during the period was understated by 144800 ($362000 - $217200)

Net income over the period 2018 through 2020 is	understated	by = 144800
Retained earnings by the end of 2020 is	understated	by =144800

Part 2

	Debit	Credit
Asset	362000
Accumulated Depreciation		217200
Retained Earnings		144800
( Correcting entry for the errors discovered)

Part 3

No entry will be required as asset has been disposed off and net effect of the above error would have been nil.