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Correction of an Error.   On January 1, 2017, Camano Company purchased a 5-year insurance policy for $150,000. The comp...

  1. Correction of an Error.   On January 1, 2017, Camano Company purchased a 5-year insurance policy for $150,000. The company erroneously expensed the entire premium in 2017. This error was discovered early in 2019.
    1. Prepare the journal entry Camano should make in 2019 for the correction of this error. Assume an income tax rate of 30%
    2. What other steps should Camano take related to this error?
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Answer #1

Insurance premium for 5 years = $150000
Insurance premium for 1 year = $150000 / 5 = $30000

Excess Expenditure booked in year 2017 = $150000 - $30000 = $120000
Therefore income understated by $120000 and tax on this would have been $120000 x 30% i.e. $36000
Short Expenditure booked in year 2018 = $30000
Therefore income overstated by $30000, tax excess paid by $30000 x 30% i.e. $9000
Net Effect is Income understated by $120000 - $30000 = $90000
and tax paid short by $36000 - $9000 = $27000
and Retained Earnings Understated by $90000 - $27000 = $63000

Correcting Entry
Prepaid Insurance A/c Dr. $90000
Retained Earnings A/c Cr. $63000
Taxes Payable A/c Cr. $27000

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