Question

Wilkins Food Products Inc. acquired a packaging machine from Lawrence Specialists Corporation. Lawrence completed construction of the machine on January 1, 2019. In payment for the machine Wilkins issued a three-year installment note to be paid in three equal payments at the end of each year. The payments include interest at the rate of 12%. Lawrence made a conceptual error in preparing the amortization schedule, which Wilkins failed to discover until 2021. As a result of the error, Wilkins understated interest expense by $53,000 in 2019 and $48,000 in 2020.

Required:
1. Indicate in the table below which accounts are incorrect as a result of these errors at January 1, 2021 and whether those accounts are understated or overstated. (Ignore income taxes.)
2. Prepare a journal entry to correct the error.
3. Will Wilkins account for the error (a) retrospectively or (b) prospectively?

Answer 1

1.

2019: (a) Interest expense is understated by $53,000

(b) Net Income is overstated by $53,000

(c) Retained earnings is overstated by $53,000

(d) Notes Payable is understated by $53,000

2020: (a) Interest expense is understated by $48,000

(b) Net Income is overstated by $48,000

(c) Retained earnings is overstated by $101,000 [48,000 + 53,000]

(d) Notes Payable is understated by $101,000

2. Retained Earnings Dr. 101,000

To Notes payable 101,000

3. The financial statements would be retrospectively restated to report the correct amount of interest expense, net income, retained earnings and notes payable