Understanding Changes in Accounting Estimates: Practical Insights for Accountants
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Introduction
As businesses evolve, so too do the assumptions we use in financial reporting. One of the areas that often requires professional judgment is accounting estimates, particularly around useful lives of assets, depreciation rates, and residual values.
This article explains what changes in accounting estimates are, how they are treated under IFRS (International Financial Reporting Standards) and IFRS for SMEs, and why they matter, especially when assets are depreciated down to zero but are still in use.
Changes in accounting estimates are common in the life of any business. These changes reflect updated information and better insights, which can influence the way financial statements are prepared. Under both IFRS changes in estimates are treated prospectively, meaning the effect of the change is recognized going forward and not applied retrospectively.
An accounting estimate is a judgment made by management about the outcome of uncertain events. Common examples include useful lives of assets, residual values, provisions for bad debts, and inventory obsolescence. These are not errors or corrections of prior mistakes but rather adjustments made as new facts come to light.
Depreciation and Useful Life Adjustments
One of the most common areas where estimates are used is depreciation. When an asset is bought, the accountant estimates its useful life and residual value to determine how much of its cost should be expensed each year. Over time, this estimate might need to change, perhaps due to new usage patterns, changes in technology, or the physical condition of the asset.
Example 1: A company buys a delivery vehicle for R300,000 and estimates a useful life of five years with no residual value. After five years, the vehicle is fully depreciated, and the carrying amount is R0. However, the vehicle is still in good working condition and continues to be used daily for deliveries.
In this case, the vehicle still has economic benefits for the business, yet it no longer appears on the balance sheet at any value. This situation leads to an understatement of the company's assets and negatively impacts the Net Asset Value (NAV), which is calculated as total assets minus total liabilities. Stakeholders, such as investors, banks, and tax authorities, may get a distorted view of the financial position because the asset still contributes to business operations but carries no book value.
What Do the Standards Say?
According to IAS 16 – Property, Plant and Equipment, and the IFRS for SMEs Section 17, Property, Plant and Equipment, entities must review the useful life and residual value of an asset at least at each financial year-end. If the actual pattern of usage or physical condition of the asset suggests a longer useful life, this should be adjusted, and depreciation should continue accordingly.
The key is that a fully depreciated asset still in use must have its useful life reassessed. If the asset continues to provide economic benefits, its useful life should be extended, and depreciation restarted based on the remaining potential.
Example 2: If, in Year 6, the delivery vehicle is still being used and management expects it to last another 2 years, it is acceptable to revise the useful life. A new depreciation schedule can be created, e.g., spreading a new estimated value over the next 2 years, even if the carrying value is zero.
Impact of Not Updating Estimates
Failing to update estimates such as useful life leads to the undervaluation of assets. This creates two problems:
Understated Net Asset Value – The balance sheet looks weaker than it actually is, which may affect lending decisions or investor confidence.
Distorted Profit Margins – Because the business continues using assets without accounting for the cost (depreciation), profit margins may appear higher than they truly are.
The Fix: Change the Estimate
When you realise the asset still has a useful life, this is a change in estimate. The solution is to:
Review the asset’s current condition.
Estimate a new remaining useful life.
Begin depreciating it again, based on the new information.
Example 3:
Machine cost: R100,000
Depreciated over 5 years → Book value = R0
Still in use in year 6
New useful life estimated = 3 more years
The asset is now re-depreciated at R0 value over 3 years = R0 expense (unless residual value revised)
But ideally, re-evaluate whether a residual value or replacement cost could inform a more realistic carrying amount.
Conclusion
Changes in accounting estimates are a normal part of good financial reporting. The key is to stay proactive, review asset performance regularly, update your estimates when necessary, and always document your rationale.
In practice, accountants must ensure that accounting estimates are updated to reflect reality. Assets should not sit on the balance sheet at zero while still being actively used. Reviewing useful lives and other estimates annually is not just a compliance exercise, it ensures that financial statements present a fair and accurate picture of the business.
Timely adjustments to estimates, especially for depreciation, lead to more reliable financial reporting. This gives decision-makers a truer reflection of the value created and preserved in the business.
Remember, your financial statements are only as good as the assumptions behind them. Keeping estimates up to date ensures accurate, transparent, and decision-useful reporting.
Join CIBA for a CPD on Changes in Accounting Estimates in compliance with IFRS and IFRS for SMEs – 14 May 2025 here
🚨 Changes in Accounting Estimates – Are You Getting It Right?
❌ Don’t let outdated estimates wreck your financial statements. If you’re not updating your estimates correctly, you’re risking compliance issues and unhappy clients.
✅ Join our practical webinar on 14 May 2025 at 08:00.
🔹 CPD Units: 3 | Category: Accounting | Format: Webinar
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Here’s What You’ll Learn:
✅ What counts as a change in estimate (and what doesn’t).
✅ How to instantly spot errors versus policy changes.
✅ Real-world examples of estimate changes done right—and horribly wrong.
✅ The exact disclosure notes you need for compliance.
Why This Matters:
📌 Save your practice from painful SARS queries.
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📌 Turn compliance into a billable service with confidence.
💡 This isn’t theory, it’s practical, money-making knowledge you can use today.
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