Accounting policies, estimates, and errors (IAS 8) - Changes...

Learning Outcomes

After reading this article, you will be able to explain what constitutes a change in accounting estimate under IAS 8. You will learn to distinguish between changes in estimates and changes in policy, describe their correct accounting treatment, and identify practical exam scenarios where estimate changes arise. You will also be able to apply the IAS 8 approach in calculations and written questions for the ACCA FR exam.

ACCA Financial Reporting (FR) Syllabus

For ACCA Financial Reporting (FR), you are required to understand the recognition and reporting of changes in accounting estimates per IAS 8. In your revision, focus on:

• Understanding the definition and examples of accounting estimates
• Distinguishing between a change in accounting estimate and an accounting policy change
• Correctly accounting for changes in estimates in the financial statements
• Disclosing changes in estimates where material

Test Your Knowledge

Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.

1. Which of the following situations constitutes a change in accounting estimate under IAS 8?
   1. Switch from straight-line to reducing balance depreciation
   2. Change in useful life of an asset from 5 to 7 years
   3. Change in inventory valuation method from FIFO to weighted average
   4. Capitalising previously expensed borrowing costs
2. How should the effect of a change in an accounting estimate be accounted for under IAS 8?
   1. Retrospectively in prior periods
   2. Prospectively in current and future periods
   3. As a prior period adjustment
   4. Through equity reserves

3. True or false? A change in depreciation method is a change in accounting estimate, not a change in accounting policy.

4. Give two examples (other than depreciation) that would be classified as a change in accounting estimate under IAS 8.

Introduction

Many monetary amounts in financial statements require estimation because precise values cannot be determined at the reporting date. Typical examples include useful lives of non-current assets, provision for doubtful receivables, and expected warranty claims. These estimates may change as new information becomes available or circumstances change. IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors outlines how such changes must be dealt with to ensure faithful representation and comparability in financial statements.

Key Term: accounting estimate
A monetary amount in financial statements that is subject to uncertainty and requires management to use judgement or assumptions when measuring it.

What Is a Change in Accounting Estimate?

A change in accounting estimate occurs when new information or developments mean the previous estimate no longer best reflects the expected outcome. IAS 8 requires that the revised estimate be used going forward; the original estimate is not restated retrospectively.

Common examples of accounting estimates include:

• Useful lives and residual values of depreciable assets
• Rates for depreciation or amortisation
• Receivables allowances
• Warranty provisions
• Inventory net realisable value
• Fair values determined for measurement

Key Term: change in accounting estimate
An adjustment of the carrying amount of an asset or liability, or related expense, resulting from new information or developments (not a correction of error).

How to Recognise a Change in Accounting Estimate

A change is present if:

• New events or experience provide more up-to-date evidence (e.g., more warranty claims than originally forecast)
• The estimation technique is improved or replaced due to better source data or revised assumptions

It is not a change in estimate if the change results from adopting a different accounting policy, or correcting a previous error.

Examples of Changes in Accounting Estimates

• Revising the expected useful life of a machine from 10 to 8 years after performance reviews
• Increasing the expected percentage of bad debts based on current receivables aging
• Adjusting inventory net realisable value in light of new selling price information

Worked Example 1.1

Delta Co purchased equipment at a cost of $40,000 on 1 January 20X1. The equipment was originally estimated to have a useful life of eight years with no residual value. On 1 January 20X4, management determines the remaining useful life is now five years (from that date), with no residual value. What is the depreciation charge for the year ended 31 December 20X4?

Answer:
Accumulated depreciation to 31 December 20X3: $40,000 / 8 yrs × 3 yrs = $15,000 Carrying amount at 1 January 20X4: $40,000 − $15,000 = $25,000 Revised useful life from 1 January 20X4 = 5 years Annual depreciation from 20X4 onwards: $25,000 / 5 yrs = $5,000 per year

How to Account for a Change in Estimate

IAS 8 requires that changes in accounting estimates be recognised prospectively, i.e.:

• The effect is included in profit or loss in the period of change and, if applicable, future periods
• Prior period comparatives are not restated

If a change affects only the current period, recognise the effect in that period's profit or loss. If it affects current and future periods, allocate the change accordingly.

Worked Example 1.2

On 1 January 20X7, Ingot Ltd estimates that 2% of credit sales will be uncollectible. By 31 December 20X7, based on updated receivables aging and market data, the estimate increases to 3%. Credit sales for the year total $1,000,000. What is the impact on the allowance and profit for 20X7?

Answer:
The increased estimate applies only for 20X7 and subsequent years. Bad debt expense in 20X7 is $1,000,000 × 3% = $30,000 (prospectively). Previous years’ financial statements remain unchanged.

Change in Estimate or Change in Policy?

Distinguishing between estimate and policy is essential, as their accounting treatments differ. A change in policy is applied retrospectively, while a change in estimate is applied prospectively.

Key Term: change in accounting policy
A change in the specific principles, bases, rules, or practices applied in preparing and presenting financial statements.

Key Term: prospective application
Applying the new estimate from the date of change, affecting only current and future periods.

Key Term: retrospective application
Restating prior periods as if the new policy had always been in place.

Worked Example 1.3

Helium Co switches from reducing balance to straight-line depreciation for its fleet vehicles, believing it better reflects asset consumption patterns. Is this a change of estimate or policy, and how should it be accounted for?

Answer:
IAS 8 states that a change in depreciation method is a change in estimate—it reflects a new assessment of the consumption pattern. The change is applied prospectively: write off the carrying amount over the asset’s revised remaining useful life using the new method.

Exam Warning

In the ACCA exam, be careful not to confuse a change in estimate with a correction of error or a change in accounting policy. Policies are restated retrospectively; estimates change prospectively only. When in doubt, check if the change arises from a new calculation or a new basis.

Disclosure Requirements for Changes in Estimates

If the effect of a change in accounting estimate is material, IAS 8 requires disclosure of:

• The nature and amount of the change for the current period
• The effect on future periods, if determinable

If it is impracticable to estimate the effect on future periods, this fact must be disclosed.

Summary

A change in accounting estimate under IAS 8 arises when new data or developments lead management to revise measurement assumptions. Such changes are applied prospectively—affecting current and future periods only, with no restatement of previous years. Typical examples include revision of asset useful lives, changes in provisions, and adjustments to fair value measurements.

Key Point Checklist

This article has covered the following key knowledge points:

• Define and identify a change in accounting estimate under IAS 8
• Accurately distinguish between estimate changes and policy changes
• Apply prospective accounting for changes in estimates
• Recognise when and how to disclose material estimate changes
• Avoid common exam mistakes on changes in estimates versus policy or error corrections

Key Terms and Concepts

• accounting estimate
• change in accounting estimate
• change in accounting policy
• prospective application
• retrospective application