Use the following information for questions 64 and 65.
Link Co. purchased machinery that cost $1,800,000 on January 4, 2013. The entire cost was recorded as an expense. The machinery has a nine-year life and a $120,000 residual value. The error was discovered on December 20, 2015. Ignore income tax considerations.
-Before the correction was made, and before the books were closed on December 31, 2015, retained earnings was understated by
A) $1,800,000.
B) $1,613,333.
C) $1,426,667.
D) $1,240,000.

Question

Quizplus · Accepted Answer

Since the entire cost of the machinery was recorded as an expense, accumulated depreciation was not recorded, resulting in an understatement of retained earnings. Accumulated depreciation after two years (as of December 31, 2015) would be calculated as follows:
Annual depreciation = ($1,800,000 - $120,000) / 9 = $197,778. 
Accumulated depreciation = 2 x $197,778 = $395,556. 
Retained earnings were understated by the amount of accumulated depreciation that should have been recorded but wasn't, which is $1,800,000 - $395,556 = $1,404,444. 
Therefore, the understatement of retained earnings was $1,404,444 + $22,222 (assuming a full year of depreciation in 2013) = $1,426,667, which is answer choice C.

Use the Following Information for Questions 64 and 65