An error changes profit only when its correcting entry has an income or expense account on one side and a different kind of account on the other. Use that single test on every item and the direction of each adjustment follows.
This lesson is part of SPM Accounting correction of errors. You need the correcting entries from writing correcting journal entries.
What is the income-or-expense test?
Write the correcting entry, then ask which accounts belong in the income statement. Adding income raises profit, and adding expense lowers it.
- Correction moves an amount out of an expense, or into income: profit goes up.
- Correction adds to an expense, or removes from income: profit goes down.
- Correction moves an amount between two expenses: no change.
- Correction touches only assets, liabilities or capital: no change.
Worked example: Kedai Runcit Maju
The invented shop reported a net profit of RM14 500. Six errors were then found.
| Error | Correcting effect | Change in profit (RM) |
|---|---|---|
| Electricity RM120 debited to Rent | Expense to expense | 0 |
| Credit sale RM300 omitted | Sales up 300 | +300 |
| Machine RM2 000 debited to Purchases | Purchases down 2 000 | +2 000 |
| Sale RM540 recorded as RM450 | Sales up 90 | +90 |
| Owner’s goods RM200 debited to Purchases | Purchases down 200 | +200 |
| Rent RM400 paid but not recorded | Rent up 400 | −400 |
Corrected profit: 14 500 + 300 + 2 000 + 90 + 200 − 400 = RM16 690.
A payment to a creditor posted to the wrong side would not change profit at all, because it only moves Cash and a creditor.
The mistake that changes profit for the wrong reason
A common slip is adjusting profit for any error that feels big. A reversal of a creditor payment looks dramatic, but Cash and Creditors are both balance sheet items.
The test prevents this. Write the accounts in the correcting entry first, then decide. The size of the amount never decides the direction.
Check yourself
Net profit is RM8 000. Insurance of RM150 was paid but not recorded. A sale of RM700 was recorded as RM600. A payment of RM90 for repairs was debited to Wages.
Find the corrected profit.
Answer
Insurance omitted: expenses up 150, so profit −150.
Sale understated by 100: sales up 100, so profit +100.
Repairs debited to Wages: expense to expense, so 0.
Corrected profit: 8 000 − 150 + 100 = RM7 950.
What to study next
The same adjustments feed a full corrected statement in rebuilding a corrected statement from given information. To see why profit and cash differ, try the cash profit and transaction timing explorer.
If you want a teacher to test your direction-of-adjustment reasoning on your school questions, see online one-to-one Accounting tuition.