 Hello, everyone. I received this question from a student. The student did not know how to get to the right answer. So I'm going to go ahead and explain this topic, which is it's a challenging topic, which talks about prior period adjustment. So prior period adjustment. So on January 2nd, year four, loft corporation discovered it had incorrectly expensed $210,000 machine purchase on January 1st, year one. So here's what happened. This is year one. This is year two. This is year three. This is year four. Now we have to be very careful about the dates. We purchased the machine in year one. This is when we purchased the machine. This is when we purchased the machine and we discovered the error at the beginning of year four. This is where the discovery took place. Okay. Loft estimated that the machine's original useful life was ten years. Life equal to ten and its salvage value equal to 10,000. Loft uses the straight line method in its subject to 30% tax rate and it's December 31st, year four financial statements. What amount should loft report as a prior adjustment? So the question is how much we should report as a prior period adjustment, but December 31st, year, this is the question. The question is what's the prior period adjustment as of year four? So what do we need to know? Here's what happened. This is what actually happened in year one. We expense $210,000 the cost of the machine. We expense the whole thing and that was incorrect. So what is the correct thing? What should we have done? Well, instead, we should have depreciated the machine over a period of 10 years. So let's now try to correct the error. How do we depreciate the machine? It's cost 210 minus salvage value 10,000 divided by 10 years. Each year we should have took $20,000 in depreciation expense. So year 120,000, year 220,000, year 320,000 and obviously year four will be 20,000, but I'm going to put year four in a different color because by year four we discovered the error. So what is the prior period adjustment? Well, guess what? We expense 210, but the reality we should have only expensed over the three years before we discovered the error only 60. So there we go. So we're going to take 210 minus 60. So simply put, we have to back out 150,000 of expenses back out. We're not done yet. We have to back out 150,000 of expenses. That means we have to reduce our expenses by 150. In other words, our retained earnings should increase by 150 because we have to back out 150. But remember in this question and here you have to be very careful that giving you the tax rate. Now as you increase your retained earning by 150 for the for those three years, this year, this year, and this year you also lost your tax savings. How much is your tax savings? Well, your tax savings is the expenses times the tax rate. Well, the expenses times the tax rate because you have to back out 150. You lost 45,000 in tax savings. You lost them. Therefore, because you lost them, that's going to bring your retained earnings down by 45 because you lost the tax expense. You lost the tax savings. Therefore, the 150 minus 45 equal to 105. Therefore, what's going to happen is the prior year net adjustment net of tax is 105. This is the key. So you have to be very careful. You're back and you're taking out expenses from prior year. How much are you taking out 60? Now the question is why didn't we take out 80? No, once you discover the error, you're going to start to book depreciation at 20,000. That's why I put the this depreciation in 20,000. Okay, so because you discovered the error early on in the year, so we have to be very careful. So the answer to this question is 105. That's your prior period adjustment net of tax. Now this topic as well as other topics are covered in my intermediate accounting and the person that sent me this, they're using a test prep and they even saw the answer, but they did not understand the answer. That's why they emailed me and this is part of the service that I do. If you are a subscriber, this topic prior period adjustment is covered in depth on my intermediate accounting three. And if you are looking for supplemental material for your CPA exam, please check out my website, farhatlectures.com. It's very important that you understand the material before you set for your exam, even before you take your CPA review course. Good luck, study hard and stay safe.