What it means
An amount is material if it's big enough, or important enough, to change what a reasonable person reading your financial statements would decide. That reader is usually an investor, a lender or a buyer. Immaterial items can be simplified or fixed in the current month; material ones have to be right.
Size is only part of it. A $5,000 error is small for most companies, but if it turns a reported profit into a loss or trips a loan covenant, it matters.
No single percentage decides it. The SEC staff's Staff Accounting Bulletin No. 99 says relying only on a numerical threshold has no basis in the accounting literature or the law. Auditors start from a number to plan their work, then weigh what an error touches, like a trend, a covenant or management's pay.
In a startup you meet it in written policies, such as a threshold below which equipment is expensed, and whenever you decide how to fix a mistake. Your auditor also sets their own materiality for the audit, and may or may not share the number.
Acme finds a $2,000 software bill entered twice in a closed month, in a year with $3M of expenses. That's immaterial, so the fix is a correcting entry in the current month with a memo. Now suppose ten such errors add up to $40,000, all overstating expenses in the quarter before a raise. Each one is small. Together they may change how an investor reads the trend, and that's the point to talk to your CPA about the prior period.
Why it matters. It decides which mistakes need fixing in prior periods and which can be booked in the current month. It isn't a fixed percentage; a small error that turns a loss into a profit can still matter.
Try it with your numbers
Change any number. The working below updates as you type.
Size = |Error| ÷ |Pretax income|, against SAB 99's 5% rule of thumb · plus the qualitative factorsAs reported; negative for a loss.
Positive if it overstates income.
First screen
Not obviously material
How it’s worked out
- 1Size against pretax income$15,000.00 ÷ $400,000.003.8%
- 2SAB 99's rule of thumb3.8% ≥ 5%?Under
- 3Size against revenue$15,000.00 ÷ $6,000,000.000.25%
- 4Pretax income, corrected$400,000.00 − $15,000.00$385,000.00
- 5Qualitative: signChanges a loss into income or vice versa?No
- 6Other qualitative factorsCovenant, earnings trend, management payNone
SAB 99 calls the 5% figure a starting point, not a safe harbor: a small error can be material, and a reader's judgment decides. For a loss-making startup, pretax loss is often a poor base, so auditors may measure against revenue or total expenses instead. Your auditor sets their own materiality.
The entry, worked
A $2,000 software bill was entered twice in February, a closed month. It's immaterial, so Acme corrects it in March instead of reopening February.
| Account | Debit | Credit |
|---|---|---|
| Accounts payable | $2,000.00 | |
| Software subscriptions | $2,000.00 | |
| Total | $2,000.00 | $2,000.00 |
The duplicate is removed in the open month with a memo naming the closed-month entry; the closed month stays locked.
Common questions
Where does the rule against a fixed percentage come from?
The SEC staff's Staff Accounting Bulletin No. 99 says relying only on a percentage threshold has no basis in the accounting literature. It's written for public companies, and private-company auditors use the same reasoning.
If an error in a closed month is immaterial, what do I do?
Usually book the correction in the current open month with a memo. If it's material, the prior period may need to be restated; talk to your CPA first.
How do I judge an old error that's still sitting on the balance sheet?
Judge it two ways: its effect on this year's income statement, and the cumulative misstatement left on the balance sheet. SAB 108 calls these the rollover and iron curtain approaches and expects both; an error that's material under either one needs fixing.
Where it comes up
The glossary entries, founder guides and lessons on this site that use the term and link here.
- MaterialityWhether a misstatement or omission would likely change the judgment of a reasonable user of the statements — judged on size and nature together, never a fixed percentageGlossary
- General ledger and double-entry bookkeeping, explainedHow double entry works: journal entries, debits and credits, normal balances, running balances, the trial balance, and why posted entries are reversed.Guide · 6 min
- Bad debt and write-offs: allowance vs direct methodHow to book a customer who won’t pay: the GAAP allowance under ASC 326, the direct write-off the IRS requires, and what to do if the money comes back.Guide · 7 min
- The trial balanceEvery account, netted onto one side, with both columns summed. It proves the arithmetic, and you need to know exactly how much it does not prove.Lesson 7
- Closing the monthStatements are not the end. The close proves every balance against something outside the ledger, then locks the period so the numbers can't quietly change.Lesson 13
Read further
General information for US companies, not tax, legal or accounting advice. Check the specifics with a CPA before you act on them.