Errors & suspense accounts
OUR PRESENTATION this week is in the form of a worked example. I have given some terms and concepts along with the definitions; pay keen attention to each, and how and where they it is applied.
Errors that do not affect the trial balance include items 1-5:
1. ERROR OF OMISSION
The transactions are completely omitted or not recorded in the books.
2. ERROR OF COMMISSION
The class of account is correct but it is entered in the wrong person’s account.
3. ERROR OF ORIGINAL ENTRY
This happens when both entries of a transaction are undercast or overcast.
4. ERROR OF PRINCIPLE
The amount is correctly entered, but the entry is made in the wrong class of account.
5. COMPLETE REVERSAL OF ENTRIES
The entry is made in the correct class of accounts but on the wrong side, e.g., debit entry is posted on the credit side, or vice versa.
SUSPENSE ACCOUNTS
Whenever an error is only on one side of the transaction, to make complete the double entry, the other side becomes a suspense account.
i. The side of the trial balance with the lower total is balanced by adding the difference to it as suspense account. ii. The account is opened with the trial balance difference. iii. The errors are corrected and the suspense account balanced off.
EFFECTS OF ERRORS ON THE NET PROFIT
Balance sheet items DO NOT affect net profit. Only trading, profit and loss items affect net profit.
Whenever expenses increase as a result of correction of errors, profit decreases.
On the contrary, whenever expenses decrease, profit will go Revenue and profits have a positive relationship. Errors which increase revenues also increase profits.
WORKED EXAMPLE
Question
Joseph Green trial balance at May 31, 2016, failed to agree and a suspense account for the difference, $2,778 debit, was opened.
The following ERRORS were discovered:
1. Commission received, $360, had been recorded in the account twice.
2. Total trade receivables are understated by $2,472. [>1]
3. Payment for insurance, $1,950, has been correctly entered in the cash book, but recorded in the insurance account as $1,680.
4. The total of sales return journal has been overcast by $324.
You are required to: a. Show the entries in the general journal to correct items 1 to 4 above
JOURNAL
b. Prepare the suspense account as at May 31, 2016.
c. Explain THREE types of errors not shown by the trial balance.
REASONING
Error is NOT in the total in any specific customers accoun, so entry only in suspense.
SOLUTION A. JOURNAL B. SUSPENSE ACCOUNT
c. Explain THREE types of errors not shown by the trial balance. Type of errors:
ERROR OF OMISSION
The transactions are completely omitted or not recorded in the books.
ERROR OF PRINCIPLE
The amount is correctly entered, but the entry is made in the wrong class of account.
COMPLETE REVERSAL OF ENTRIES
The entry is made in the correct class of accounts but on the wrong side, e.g., debit entry is posted on the credit side or vice versa.
This is where we will end for this week. Join me next week as we continue to complete the syllabus. Grasp the concepts and retain them; you will need them as you progress to excellence. See you next week.