businessBusiness Coachingbusiness growthconsultantFinanceProcess Improvementsmall-businessThe Ultimate Guide: Types Of Accounting Errors And Correcting Them

November 18, 2021by amybabashoff0
unnamed - 2021-11-18T101553.999

From time to time, you will make accounting errors, so knowing how to catch these discrepancies is an important skill to develop regardless of what accounting software application your team and company uses. 

The moment an error is spotted, investigative measures should immediately be taken to correct the mistake. Time is of the essence here, as undetected errors can linger in your ledgers and compound over time – creating  a chaotic situation later. 

Some accounting errors can be easily identified and others will take time. You can spot the easy errors when the debits do not equal the credits in the trial balance. The harder errors to identify do not affect the trial balance. Detecting these errors requires investigative expertise. Until you can find and correct the source of the error, you should show the trial balance discrepancy in a temporary suspense account.

What is An Accounting Error?

An accounting error is an unfraudulent, unintentional error in a double entry bookkeeping transaction. 

Opposite of accounting errors, accounting fraud is a deliberate falsification or misrepresentation of the financial affairs of the entity. It’s crucial that you and/or your team never confuse the two, as errors just need to be corrected, and fraud warrants prosecution. 

Types of Accounting Errors

Accounting Errors Affecting the Trial Balance

As mentioned above, errors that throw the trial balance out of balance are relatively easy to detect. The following two types of errors are common when the ledger accounts do not balance.

Error of Omission:

When a transaction is completely omitted from the books of your company, thus creating an imbalance in the trial balance. For example, you enter a debit in one account without entering an offsetting credit in another account. 

Correcting errors of omission

A financial transaction missed in the company’s accounting records is an error of omission. Two subtypes of this kind of error are common:

A complete error of omission: failure of the transaction altogether.

A partial error of omission: the transaction has been recorded on only one side of the ledger. 

See the example below….

Account                                     DR                                         CR

Sales A/C                                                                             1500

Accounts Receivable A/C wrong     –

To correct a partial error of omission, simply enter the missing element of the transaction:

Account                                                       DR                             C R

Sales A/C                                                                                     1500

Accounts Receivable A/C correct          1500

Error of Commission:

When a transaction is entered to the correct class but the wrong subsidiary ledger. For example, you apply a payment to the wrong invoice. Your trial balance will show the correct amount owed by a customer, but your individual customer’s subsidiary ledgers will be incorrect.

Correcting errors of commission

An error of commission is often called a clerical error. It occurs when an incorrect value is entered in the ledger. For example, the bookkeeper entered a sale of products for $300 instead of the actual value of $3,000.

To correct an error of commission, you must first reverse the incorrect amount and then enter the correct amount. In the illustration below, the first two rows are the error of commission. They are followed in the next two rows by the reversing entries and then the correct entries.

Account                                                                DR                                     CR

Sales A/C wrong                                                                                           300

Accounts Receivable A/C wrong                    300

Sales A/C reverse                                              300

Accounts Receivable A/C reverse                                                               300

Sales A/C correct                                                                                          1300

Accounts Receivable A/C correct               1300

Errors Not Affecting the Trial Balance

Errors can occur in the account ledgers that do not throw the trial balance out of balance. These errors can be hard to find and require knowledgeable investigation.

Omission error: A transaction was simply not recorded in the ledger. Your company made a sale, failed to record it.

Commission error: Data was recorded in the wrong accounts. The purchase of office supplies was recorded in the account for utilities expenses.

Error of Principle

The transaction was recorded improperly. The purchase of an asset was misclassified as an expense.

Correcting errors of principle of accounting:

Also called an input error, this error occurs when the real value of the entry is not posted to the correct account. For instance, a $700 purchase of office chairs is debited to the office expense account in place of the purchase account.

To correct this type of error, simply enter offsetting debits and credits to the affected accounts as shown in the illustration below:

Account                                                        DR                                      CR

Office Expenses A/C wrong                                                                   700

Purchase A/C correct                                 700

Compensating Error:

Compensating errors pop up when two errors in unrelated accounts balance each other out. At the end of the day, the ledgers balance, but the values were credited and debited to the wrong accounts.

For example, you sold a product for $1,500 but the bookkeeper recorded only $500 for the sale. Later, your company bought supplies for $2,500 but recorded only $1,500 for the expense.

In both cases, the differences of $1,000 in incoming and outgoing accounts cancel each other out in the trial balance.

Correcting compensating errors

To correct a compensating error, reverse the incorrect transactions and then enter the correct transactions, as in the following example:

Account                                                           DR                               CR

Purchases wrong                                          500

Accounts Payable wrong                                                                   500

Sales  wrong                                                                                        800

Accounts Receivable wrong                         800

Purchases reverse                                                                              500

Accounts Payable reverse                                500

Sales to reverse                                                 800

Accounts Receivable reverse                                                                         800

Sales correct                                                                                                    500

Accounts Receivable correct                                   500

Purchase correct                                                       800

Accounts Payable correct                                                                       800

Error of Original Entry:

An incorrect amount was posted to the correct accounts. The bookkeeper incorrectly entered $594 instead of $549 in both the debit and credit accounts. 

Correcting errors of original entry:

In an error of original entry, the bookkeeper mistyped the value of an entry, such as reversing two digits in a number.

To correct an error of original entry, reverse the incorrect transaction and then record the transaction with the correct value.

Reversal of Entries:

The right amount was entered in the correct accounts but the debit and credit categories were accidentally switched. 

Correcting reversal of entries:

An error of reversal takes place when a credit is entered as a debit and a debit is entered as a credit. For instance, a $400 invoice sent to a client is input in accounts payable instead of accounts receivable.

Correct this error by reversing the incorrect debit and entering the correct credit, as in this example:

Account                                                                   DR                               CR

Sales A/C                                                                                                    400

Accounts Payable A/C wrong                             400

Accounts Payable A/C reverse                                                                400

Accounts Receivable A/C correct                        400

Final Thoughts

Accounting errors are common in business.

However, if you’re not careful, small inaccuracies can creep in, take up residence and -if they go unnoticed – can compound into a messy situation down the line.

To best prevent accounting errors and ensure that your books are always clean, reach out to an experienced bookkeeper who is familiar with all forms of accounting errors and reliable methods. With a clear, accurate picture of your company financials, you and your team will be empowered with the ultimate confidence when facing tax season, investment opportunity, scaling measures, and more!

At MCDA CCG, we provide high quality, customizable bookkeeping services committed to the longevity of our clients and their success.

Reach out to one of our accounting experts today to see how we can clear up any uncertainties you may feel regarding your business financials and the solutions that will meet your unique needs.

Enlisting the help of an accounting professional can be the difference between messy financial statements and your companies greatest tool. Contact our office headquarters in Placentia, Orange County, California today!

 

 

Leave a Reply

%d bloggers like this: