In Accounting, explain what is the Materiality Concept ( Part 2)

October 13th, 2010 Comments off
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Earlier article describe the materiality concept. Append below more notes and details on the materiality concept:

More notes on Materiality concept:

(a) In audit term, an error is consider as immaterial when the error is too trivial to affect the proper understanding of the financial statement

(b) The exercise of the Materiality concept is quite subjective since there is not absolute measurement of materiality. Rule of the thumb :- material item has  a value greater than 5% of the net profit

(c) There are exception to item(b) like items which are very sensitive hence any misstatement of such an item is regarded as material error. Example omission of directors remuneration in the published account of a limited company

Remember that to assess whether an item is material we should not only look at the amount of the item. The context is equally important.  Examples like:

(i) if a balance sheet shows plant and machinery of $1m and inventory of $50k, an error of $15k in the depreciation calculations is regarded as immaterial whereas an error  of $30k in the stock valuation would be material. The total which the erroneous items forms part must be considered.

(ii) another example can be a bank overdraft of $1m and $1.1m balance on fixed deposit- another netting of the two re: considering $0.1m as cash at bank is regarded as material misstatement. Here, if you based on the normal materiality concept or principle you might consider it immaterial to mix up the two items but this is in reality a grossly incorrect presentation which may amount to material misstatement even if there is not monetary error.

( see earlier article on materiality concept)

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