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Chapter 2: Question 5Q (page 61)

How is materiality (or immateriality) related to the proper presentation of financial statements? What factors and measures should be considered in assessing the materiality of a misstatement in the presentation of a financial statement?

Short Answer

Expert verified

All the material items must be disclosed as per the financial reporting framework and guidelines provided by the accounting standard board.

Based on the significance of a specific item, situation, period, size of misstatement, nature of misstatement, etc., on the financial statement, the item is treated as material or immaterial, and material items are disclosed. All materials items must be disclosed by way of note of amount or fact since any changes will affect the decision and business of the users of financial statements.

Step by step solution

01

Materiality as an Accounting Policy & Proper presentation of financial statements

Accounting policies are certain principles and methods followed for the presentation of financial statements. One important policy is materiality.

Materiality related to the proper presentation of financial statements by

  • Disclosing all material items
  • Usefulness to all stakeholders
  • Avoiding misstatement and misunderstanding
  • Following accounting policy, Accounting Standards, IFRS, Audit Standards, financial reporting frameworks, etc
  • Presenting the statement as per the financial reporting framework.
02

Concept of Materiality & Disclosure Limit

Materiality concept means the financial statements must show a fair view and disclose all the items that may influence the decision of users of financial statements.

Certain limits are provided in case of materiality disclosure, such as disclosing income & expenditure based on 1percent of revenue from operations or 1,00,000, whichever is higher, disclosing the number of shares held by each shareholder when shares are more than 5 percent.

03

General Disclosure of Material Items & Related facts

The following must be disclosed since it鈥檚 a material item such:

  • All significant changes or items that have an effect on financial statements and users of financial statements must be disclosed
  • Any change in accounting policy in the preparation and presentation of financial statements also must be disclosed.
  • When an item is found to be material, and the amount is ascertained, then disclose the amount. If the amount is not ascertained, then disclose the fact.
  • If the specific item is not material now but would be material in a later period, then disclose the fact of such changes in a later period.
04

Factors considering Materiality of misstatement

Factors and measures that may be considered in assessing the materiality of a misstatement in the presentation of a financial statement:

  • Misstatement, including any omissions or errors, is considered material if it affects the decision taken by users of financial statements.
  • The size and nature of misstatement also affect the decisions about materiality.
  • The significance of an itemon the particular entity.
  • The presentation of financial statements and the effect of misstatement in such statements.
  • Uncorrected misstatements of the previous period.

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Most popular questions from this chapter

BE2-9 (L05) If the going concern assumption is not made in accounting, discuss the differences in the amounts shown in thefinancial statements for the following items.

(a) Land. (d) Inventory.

(b) Unamortized bond premium. (e) Prepaid insurance.(c) Depreciation expense on equipment.

E2-7 (L05,6) (Assumptions, Principles, and Constraint) Presented below are a number of operational guidelines and practices that have developed over time.

Instructions

Select the assumption, principle, or constraint that most appropriately justifies these procedures and practices. (Do not use qualitative characteristics.)

  1. Fair value changes are not recognized in the accounting records.
  2. Financial information is presented so that investors will not be misled.
  3. Intangible assets are amortized over periods benefited.
  4. Agricultural companies use fair value for purposes of valuing crops.
  5. Each enterprise is kept as a unit distinct from its owner or owners.
  6. All significant post-balance-sheet events are disclosed.
  7. Revenue is recorded when the product is delivered.
  8. All important aspects of bond indentures are presented in financial statements.
  9. Rationale for accrual accounting.
  10. The use of consolidated statements is justified.
  11. Reporting must be done at defined time intervals.
  12. An allowance for doubtful accounts is established.
  13. Goodwill is recorded only at time of purchase.
  14. A company charges its sales commission costs to expense

What is the distinction between comparability and consistency?

Statement of Financial Accounting Concepts No.5 identifies four characteristics that an item must have before it is recognized in the financial statements. What are these four characteristics?

Wayne Cooper has some questions regarding the theoretical framework in which GAAP is set. He knows that the FASB and other predecessor organizations have attempted to develop a conceptual framework for accounting theory formulation. Yet, Wayne鈥檚 supervisors have indicated that these theoretical frameworks have little value in the practical sense (i.e., in the real world). Wayne did notice that accounting rules seem to be established after the fact rather than before. He thought this indicated a lack of theory structure but never really questioned the process at school because he was too busy doing the homework. Wayne feels that some of his anxiety about accounting theory and accounting semantics could be alleviated by identifying the basic concepts and definitions accepted by the profession and considering them in light of his current work. By doing this, he hopes to develop an appropriate connection between theory and practice.Instructions

(a) Help Wayne recognize the purpose of and benefit of a conceptual framework.

(b) Identify any Statements of Financial Accounting Concepts issued by the FASB that may be helpful to Wayne in developing his theoretical background.
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