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Publikációk:

Accounting for Revisions II

26 March 2014

According to our previous article, the necessity of a revision should be identified and the right way of its treatment should be chosen on the basis of the following guidelines: 

  • identification of the accounting error
  • quantification of the error and the error impacts in a yearly breakdown
  • categorisation of the error
  • choosing the right methodology for the treatment of errors
  • correction of general ledger records
  • correction of the report.

We find it important to emphasise that the identification of an error requires a comprehensive review of the related legislative acts, with special regards to the accounting and tax regulations.

Defining the initial problem

The explanatory provisions of the Accounting Act currently in effect in Hungary provide detailed definitions of the terms ‘renovation’ (Section 3(4)8) and ‘maintenance’ (Section 3(4)9), however, their separation in corporate practice  is often difficult. Nevertheless, based on the principle of substance over form, as defined in the effective legislation on accounting (Section 16(3)), economic events and transactions must be shown and accounted for in line with their actual financial contents and in harmony with the basic principles and regulations. 

According to the explanatory provisions referred to above the basic difference between the terms maintenance and renovation is that maintenance supports the operation of assets already in use for their intended purposes, without any effect on economic benefits, i.e. on the useful life of the asset concerned, so it does not result in any additional benefit for the company in the future. If we go further into this we find that the above is based on the principle of matching (Section 15(7)), which stipulates that incomes and expenses must relate to the period when they were actually incurred for economic purposes, so the expenses of economic events resulting in future profits must be matched against incomes generated in the future. This leads us to the method of the accounting treatment of renovation, i.e. the costs arising therefrom should affect the company's profit proportionately over the useful life of the asset in question.

Example

A company is carrying out maintenance activities on a production machine in the financial year 2x12 and recognises the full amount of the costs incurred against the profit of the year under review. Based on preliminary data for 2x13 the controlling department is conducting a detailed profit analysis with a dynamic approach, in which the outstanding value of the costs of services is shown as a preliminary note. While revealing the reasons it is identified that based on the underlying document of an item appearing among regularly incurred maintenance costs a single item was wrongly recognised as a maintenance cost, with the delivery date being 25 June 2x12. The amount of the item is HUF 1 000 000 + VAT, and the capitalised value of the equipment concerned is HUF 9 000 000.

The depreciation rate to be used with respect to the fixed asset is 33% in accordance with the accounting policy, and the Act on Corporate Tax accepts a 14.5% rate. The balance sheet total of the company is HUF 40 168 thousand in the year when the error was identified and HUF 38 567 in the previous year.

Taking errors and their impacts into account

The impact of identified errors

Therefore, the item increases the total costs of the period under review in the general ledger records of the closed financial year, while on the basis of the correct practice it should be treated as an item to be capitalised, with its impact on profits reflected as depreciation written off during the useful life of the asset based on the original capitalised value and the amount of the renovation.
For the purposes of our calculation, however, it is sufficient to take the impact of the difference on depreciation into account.

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Regarding the fact that the company accounted for maintenance costs in the amount of HUF 1 000 000 incorrectly, and failed to recognise depreciation in line with the above calculation, the absolute, aggregate value of the difference is HUF 1 170 000 (1st correction).

Impact of the change in corporate tax liability and after-tax profit:

Given the fact that the rates of depreciation recognised by the Accounting Act and the Corporate Tax Act are different, the corporate tax base changes due to the depreciation-related items modifying the tax base. In the year 2x12 the pre-tax profit amounted to HUF 21 000 thousand, and the aggregate balance of modifying items is HUF 500 thousand, so the tax base entered in the corporate tax return is HUF 21 500 thousand.

 

Amortisation recognised by the Act on Taxation = HUF 1 000 000 x 14.5% x 188 days/365 days = HUF 74 697

Pursuant to Section 8(1)b of the Act on Corporate Tax and Dividend Tax, for the purposes of calculating tax depreciation recognised in the accounting records must be taken into account as an item increasing the tax base and the amount of amortisation recognised in accordance with the Annex of the Act must be taken into account as an item decreasing the tax base as specified in Section 7(1)d.  The tax base does not exceed HUF 500 million, so based on Section 19 of the relevant legislation the corporate tax rate is 10%.

 

Original tax calculation ( HUF thousands)

Modified tax calculation ( HUF thousands)

Earnings before interest and taxes (EBIT)

21 000

21 830

Items modifying the tax base

500

595

Aggregate balance of modifying items based on the original tax calculation

500

500

Depreciation as per the Accounting Act (+)

0

170

Depreciation as per the Corporate Tax Act (-)

0

-75

Tax base

21 500

22 425

Corporation tax (19%)

2 150

2 243

After-tax profit

18 850

19 587

 

The above calculation shows that the impact of the change in the corporate tax liability is HUF 93 thousand (2nd correction), and the impact of the change in after-tax profit on equity is HUF 737 thousand (3rd correction), so the aggregate result of the errors and error impacts is:

1st correction                    HUF 1 170 thousand

2nd correction                 HUF 93 thousand

3rd correction                   HUF 737 thousand

Total:                                   HUF 2 000 thousand

Categorisation of errors

After the quantification of the error and its impacts we can categorise the error on the basis of Section 3(3) of the Accounting Act. The balance sheet total of the revised financial year is HUF 38 567 thousand, 2% of which is HUF 773 thousand, but the above-cited provision sets the threshold of significant errors at HUF 1 million, so in the case of the Company the latter amount is relevant. This means the error qualifies as a significant error, and the Company is required to compile a three-column balance sheet.

Accounting treatment of errors and their impacts

The adjustments to be made to the general ledger are shown in the following table in accordance with the above order. In our calculations we use technical accounts for accounting purposes, however, we emphasise that other solutions may be equally effective, provided that the end-result is the same at synthetic level. In addition to the following items there is a separate accounting step for self-revision charges and default penalties.

Item

General ledger, assets accounts

General ledger, liabilities accounts

Amount (HUF thousands)

Maintenance cost paid

3. Technical account (E)

5. Maintenance cost (E)

1 000

Capitalisation of renovation

1. Tangible assets (E)

3. Technical account (E)

1 000

Previous year’s depreciation write-off

5. Depreciation (E)

1. Depreciation write-off of tangible assets (E)

170

Accounting for difference in corporate tax

8. Corporate tax (E)

4. Corporate tax payable (E)

93

Closure of profit and loss accounts

 

 

 

Maintenance cost

5. Maintenance cost (E)

4. Settlement account for after-tax profit (E)

1 000

Depreciation

4. Settlement account for after-tax profit (E)

5. Depreciation (E)

170

Corporate tax difference

4. Settlement account for after-tax profit (E)

8. Corporate tax (E)

93

Transfer of profit or loss for the year

4. Settlement account for after-tax profit (E)

4. Profit or loss for the year (E)

737

Transfer of profit or loss for the year into retained earnings

4. Profit or loss for the year (E)

4. Retained earnings (E)

737

 

 

Compilation of the report:

The table below shows the way the findings of self-revision should be presented in the ‘Adjustments to previous years’ column.  The ‘previous year' column must contain the closing values of the annual report on the financial year preceding the year under review. The current year’s data contain all interim accounts, including the self-revision items. One of the special features is that profit and loss for the year is presented within equity, because in this case the correction is to be shown in the profit and loss for the year line of the 'middle' column, while the impact of the self-revision must be presented in the current year’s column, in the retained earnings line. It is apparent from the following table that the basic relations between the balance sheet and the profit and loss statement are observed, i.e. the amount of assets corresponds to that of liabilities and the values of profit or loss for the year as shown in the balance sheet and the profit and loss statement are equal. In addition to this the notes to the accounts should contain the impact of significant errors identified during the revision in a yearly breakdown, in compliance with Section 88(5) of the Accounting Act.

Impact of self-revision

Adjustments to previous years (HUF thousands)

Balance sheet:

 

A/II/2. Technical equipment, machinery, vehicles

+ 830

Total Assets

+ 830

D/IV. Retained earnings

0

D/VII. Profit or loss for the year

+ 737

F/III/8. Other current liabilities

+ 93

Total liabilities

+ 830

Profit and loss statement

 

IV/06. Services used

- 1 000

VI. Depreciation

+ 170

XII. Tax payable

+ 93

G. Profit or loss for the year

+ 737