Question

Ali Co. bought a machine on January 1, Year 1, for $24,000, at which time it had an estimated useful life of 8 years, with no residual value. Straight-line depreciation is used for all of Ali's depreciable assets. On January 1, Year 3, the machine's estimated useful life was determined to be only 6 years from the acquisition date. Accordingly, the appropriate accounting change was made in Year 3. The direct effects of this change were limited to the effect on depreciation and the related provision for income tax. Ali's income tax rate was 40% in all the affected years. In Ali's Year 3 financial statements, how much should be reported as the cumulative effect on prior years because of the change in the estimated useful life of the machine?
a) $2,700
b) $2,000
c) $1,200
d) $0

Answer 1

Answer:

Explanation:

originally allocated depreciation amount  = 24000 / 8 = $ 3000

for 2 years the depreciation charged = $ 6000  

The depreciation amount that should be allocated now = 24000 / 6 = $ 4000

that means for 2 years ; depreciation charged must be = $ 8000

So, depreciation is undercharged by $ 2000 ( 8000 - 6000 )

So, the cumulative effect on prior years because of the change in the estimated useful life of the machine = 2000 * 0.06 = $ 1200