Correcting accounting errors from previous years - tips to avoid undesirable situations

Efficient accounting is based on accurate calculations, but for various reasons undesirable situations can arise where these documents do not reflect reality. Normally, a resolution of the situation is fairly straightforward, but if these errors are identified during previous tax years, the situation becomes more complicated and a special procedure is needed to ensure that the situation is properly resolved for all parties involved.

Publication date: 12 January 2023

In the article below you will find out what accounting errors from previous years are, what types of such errors are encountered in practice and what is the procedure for correcting them in terms of the recommended time period for implementing the measure and what are the steps to be taken in order to avoid various problems. In addition, you will be able to consult some useful tips that can be applied in a relaxed way and that eliminate the danger of such difficult moments occurring.

Contents:

1. How to correct accounting errors from previous years

1.1. What are accounting errors from previous years

1.2. Types of accounting errors from previous years

2. The procedure for correcting previous years' accounting errors

2.1. Recommended time period for correcting accounting errors

2.2. Steps to follow to correct accounting errors

3. Recommendations to avoid situations where accounting errors need to be corrected or the balance sheet rectified

1. How to correct accounting errors from previous years

Accounting is that part of economic life that deals with the management of financial measures, which are carried out by natural and legal persons, with the main purpose of evaluating and controlling all capital movements. These elements are intended to enable the health of economic activity to be assessed. The complexity of the field is due to the numerous legislative documents governing accounting measures, which sometimes leads to inadequacies.

If these are identified immediately or before the end of the tax year, there is an easy procedure for correcting them, but for accounting errors from previous years the situation is different, because failure to do so could result in a breach of the principle of intangibility, which obliges economic institutions to keep accounting information from the closing balance of the financial year that has passed into the opening balance of the current tax year.

 1.1. What are accounting errors from previous years

Accounting errors are errors that occur during the completion of accounting documents. Errors can be unintentional, such as mathematical, calculation, misapplication of accounting policies, moving databases from one computer program to another, or intentional, such as fraud.

If these accounting errors are identified after the end of the financial year, they are considered to be accounting errors from previous years, which must be addressed in accordance with the legislative documents, which regulate the situation, such as the Order of the Minister of Public Finance number 450 / 2016, amended and supplemented by Order 543 /2017.

Most of the time, these mistakes are discovered after going through the financial audit activity, either of the internal type, carried out by the companies' own accountants, or of the external type, carried out by the employees of a specialized consulting company, who are familiar with the latest procedures that guarantee the identification of all problems.

1.2. Types of accounting errors from previous years

There are certain moments in accounting activity when mistakes occur in filling in documents of this kind. There are many types of accounting errors, but the most common are:

• Calculation errors occur when accounting is done in the traditional way, by applying calculations by an accountant, without the help of specialised software, which helps a lot in this respect. Incorrect calculations can affect the accuracy of financial information, with a single comma making a huge difference to the final figures;
• Accounting fraud is intentional activity used to try to conceal an intent to gain undue and unfair advantage by concealing information or providing false information;
• Misclassification errors occur when transactions are recorded in incorrect accounts;
• Completion errors occur when incorrect price or quantity data is entered for products;
• Errors of omission occur when a transaction is missing from financial records for various reasons.

Another classification of accounting errors is that which takes into account their impact on the understanding and analysis of the financial statement. Taking this criterion into account, two categories of errors can be identified, namely immaterial accounting errors and material accounting errors.

The first category refers to those that do not exceed a certain threshold set by each individual entity, taking into account, for example, a minimum percentage of turnover or profit. These errors do not imply a retroactive correction of previous years' financial statements, but they must be corrected in the current document, while taking the necessary measures to prevent them from recurring. These errors can be corrected on the profit and loss account of the current financial year. Significant errors are corrected against the reported result in account 1174 (Retained result from correction of accounting errors).

2. The procedure for correcting previous years' accounting errors

If an accounting error is identified, economic entities are obliged to correct it by applying a specific procedure, specified in documents of a legislative nature, issued by the Romanian state bodies. The application of these corrections must take into account the principle of intangibility, which requires that the information in the final balance of the previous financial year be kept in the initial balance of the current financial year. Bearing this element in mind, the correction must be made in such a way as not to alter the opening balance sheet, which must be identical to the closing balance sheet of the previous financial year.

The legislative documents also specify which accounting errors can be corrected:

• Incorrect filling in of the name of the company carrying out the accounting records or other elements characterising it (unique registration code, form of ownership, number of employees, CAEN type activities). In this case, a new set of financial statements does not have to be submitted, as amending the old ones does not imply a change in the tax reality;
• Any accounting document that does not show value indicators;
• Errors related to the electronic submission of financial and accounting statements instead of inactivity declarations;
• The absence from the electronically transmitted file of documents that are required by law (affidavit, directors' report, etc.);
• VAT statements to be corrected.

2.1. Recommended time period for correcting accounting errors

In relation to when accounting errors must be corrected, the law specifies that this must be done when they are identified. Insignificant and material errors are dealt with taking into account the reported result. Non-significant ones, even if identified from a previous fiscal period, must be corrected in the current financial report and do not need to be applied retroactively. In the case of material ones there is an obligation to correct retrospectively, which is done by adjusting the financial statement and making explanatory notes. In view of these elements, there is a need for accounting errors to be rectified immediately after their identification, as soon as possible, so that they can be submitted to interested parties (shareholders and state authorities). 

2.2. Steps to follow to correct accounting errors

The tax code states how to correct accounting errors. Depending on the determination of the tax result, there are two distinct methods: those which are corrected on the basis of the result carried forward by amending the tax result for the year in question and which also require the submission of an amending statement, and those which are resolved on the basis of the profit and loss account.

In practice, such a procedure involves the following steps:

• To begin with, it is necessary to identify the error that is made as a result of an audit or research of previous documents for various reasons;
• Once the error has been identified, an assessment of its impact on the company's financial situation is made. If the error does not exceed the limit set as significant, the procedure for this type of error is applied, and if it exceeds the limit, the correct procedure is applied;
• The error is corrected by making additional postings to the appropriate accounts;
• Once the errors have been corrected, the financial reports for the year in question are adjusted;
• The final step is to report the error to the Romanian state tax authorities and other interested parties, such as the owners of the company.

3. Recommendations to avoid situations where accounting errors need to be corrected or the balance sheet rectified

Accounting errors should not be considered as insignificant elements, because not taking them into account can result in complicated situations, both related to the failure to correctly fulfil tax obligations towards the Romanian state and to the relationship with business partners. Not infrequently, an accounting error not resolved in time has led to substantial fines and penalties from the Romanian State or to the inability to make a correct financial analysis, allowing appropriate business decisions to be taken.

Accounting specialists have some recommendations that can easily be applied to avoid such difficult situations:

• Hiring qualified, experienced accountants is an ideal way to avoid errors occurring. These specialists know exactly what to do and always pay attention to the calculations and methodology applied to result in a proper financial analysis;
• The submission of the annual report should only be done when there is a conviction that there are no mistakes in it. The audit department must do its job accurately and at the right time in order to obtain the conviction that no such problems will arise in the future;
• The use of specialised accounting software makes such an error unlikely, but precautions must be taken when the database is migrated from one program to another.

The best solution that completely eliminates the possibility of accounting errors is to use specialised accounting and financial reporting firms using the latest accounting methods and software. These firms provide various types of accounting consultancy and outsourced services as well as other quality administrative services to interested clients.

Accounting expertise and financial support are essential in today's hectic and complex economic life, whether it's about streamlining the business, opening new outlets for expansion into other geographies, or various acquisitions and mergers or selling the business.

Outsourcing your accounting service offers many advantages, including ensuring accurate internal and external financial reporting, complete transparency of these reports, assistance with monthly and annual reporting, and the implementation of state-of-the-art accounting software that makes your business more manageable.

Another benefit not to be missed is the provision of accounting advice for management reporting. Companies often find it difficult to carry out these reports, especially with regulatory compliance being difficult to achieve as changes in regulations and laws can occur from day to day. Outsourcing this service relieves the company of the need to set up its own department, which often does not even have the necessary experience, and gives access to the highest quality services: tax compliance, migration of accounting accounts, preparation of various financial statements, management reporting itself, expert accounting opinions, accounting reviews, assistance during financial and tax audits and the resolution of situations that may arise during them.

In conclusion, correcting accounting errors from previous years must be a priority for company managers who wish to avoid undesirable situations, to know the precise financial situation of the company and to prevent expensive penalties and fines from Romanian state institutions.

*This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.