ACCOUNTING CONCEPT
Accounting
Concept defines the assumptions on the basis of which Financial
Statements of a business entity are prepared. Certain concepts are
received assumed and accepted in accounting to provide a unifying
structure and internal logic to accounting process. The word concept
means idea or nation, which has universal application. Financial
transactions are interpreted in the light of the concepts, which govern
accounting methods. Concepts are those basis assumption and conditions,
which form the basis upon which the accountancy has been laid. Unlike
physical science, Accounting concepts are only results of broad
consensus. These accounting concepts lay the foundation on the basis of
which the accounting principals are formulated.
Now
we shall study in detail the various concept on which accounting is
based. The following are the widely accepted accounting concepts.
1.) Entity Concept:- Entity
Concept says that business enterprises is a separate identity apart
from its owner. Business transactions are recorded in the business books
of accounts and owner’s transactions in this personal back of accounts.
The concept of accounting entity for every business or what is to be
excluded from the business books. Therefore, whenever business received
cash from the proprietor, cash a/c is debited as business received cash
and capital/c is credited. So the concept of separate entity is
applicable to all forms of business organization.
2.) Money Measurement Concept:- As per this concept, only those transactions, which can be measured in
terms of money are recorded. Since money in the medium of exchange and
the standard of economic value, this concept requires that these
transactions alone that are capable of being measured in terms of money
be only to be recorded in the books of accounts. For example, health
condition of the chairman of the company, working conditions of the
workers, sale policy ect. do not find place in accounting because it is
not measured in terms of money.
3.) Cost Concept:- By
this concept, the value of assets is to be determined on the basic of
historical cost. Transaction are entered in the books of accounts at the
amount actually involved. For example a machine purchased for Rs. 80000
and may consider it worth Rs. 100000, But the entry in the books of
account will be made with Rs. 80000 or the amount actually paid. The
cost concept does not mean that the assets will always be shown at cost.
The assets may be recorded at the time of purchase but it may be
reduced its value be charging depreciation.
Many
assets de not have acquisition cost. Human assets of an enterprises are
an example. The cost concept fails to recognize such assets although it
is a very important assets of any organization.
4.) Going Concern Concept:- According
to this concept the financial statements are normally prepared on the
assumption that an enterprises is a going concern and will continue in
operation for the foreseeable future. Transaction are therefore recorded
in such a manner that the benefits likely to accrue in future from
money spent. It is because of this concept that fixed assets are
recorded at their original cost and depreciation in a systematic manner
without reference to their current realizable value.
5.) Dual aspect Concept:- This
concept is the care of double entry book-keeping. Every transaction or
event has two aspect. If any event occurs, it is bound to have two
effect. For Rs.50000, on the other hand stock will increase by Rs.50000
and other liability will increase by Rs.50000. similarly is X starts a
business with a capital of Rs. 50000, while on the other hand the
business has to pay Rs. 50000 to the proprietor which is taken as
proprietor’s Capital.
6.) Realization Concept: -
It closely follows the cost concept any change in value of assets is to
be recorded only when the business realize it. i.e. either cash has
been received or a legal obligation to pay has been assumed by the
customer. No Sale can be said to have taken place and no profit can be
said to have arisen. It prevents business firm from inflating their
profit by recording sale and income that are likely to accrue, i.e.
expected income or gain are not recorded.
7.) Accrual Concept:-
Under accrual concept the effect of transaction and other events are
recognized on mercantile basic. When they accrue and not as cash or a
cash equivalent is received or paid and they are recorded in the
accounting record and reported in the financial statements of the
periods to which they relate financial statement prepared on the accrual
basic inform users not only of past events involving the payment and
receipt of cash but also of
obligation to pay cash in the future and of resources that represent
cash to be received in the future. For Example:- Mr. Raj buy clothing of
Rs. 50000,a paying cash Rs. 20000 and sells at Rs. 60000 of which
customer paid only Rs. 40000. So his revenue is Rs. 60000, not Rs. 40000
cash received. Exp. Or Cash is Rs. 50000, not Rs. 20000 cash paid. So
the accrual concept based profit is Rs. 10000 (Revenue- Exp.)
8.) Accounting Period Concept:-
This is also called the concept of definite periodicity concept as per
going concept on indefinite life of the entity is assumed for a business
entity it causes inconvenience to measure performance achieved by the
entity in the ordinary causes of business. Therefore, a small but
workable fraction of time is chosen out of infinite life cycle of the
business entity for measure the performance and loading at the financial
position 12 months period is normally adopted for this purpose
accounting to this concept accounts should be prepared after every
period & not t the end of the life of the entity. Usually this
period is one calendar year. In India we follow from 1st April of a year to 31st
March of the immediately following years. Now a day because of the need
of management, final accounts are prepared at shoter intervals of
quarter year or in some cases a month such accounts are know a interim
account.
9.) Matching Concept:-
In this concept, all exp. Matched with the revenue of that period
should only be taken into consideration. In the financial statements of
the organization. If any revenue is recognized that exp. Related to earn
that revenue should also be recognized. This concept as it considers
the occurrence of exp. And income and do not concentrate on actual
inflow or outflow of cash. This leads to adjustment of certain items
like prepaid and outstanding expenses, unearned or accrued income.
It
is not necessary that every exp. Identity every income. Some exp. Are
directly related to the revenue and some are directly related to sale
but rent, salaries etc. are recorded on accrual basis for a particular
accounting period. In other words periodicity concept has also been
followed while applying matching concept.
10.) Objective Concept:-
As per this concept, all accounting must be based on objective
evidence. In other words, the transactions recorded should be supported
by verifiable documents. Only than auditors can verify information
record as true or otherwise. The evidence should not be biased. It is
for this reasons that assets are recorded at historical cost and shown
thereafter at historical lass depreciation. If the assets are shown on
replacement cost basis, the objectivity is lost and it become difficult
for auditors to verify such value, however, in resent year replacement
cost are used for specific purpose as only they represent relevant
costs. For example, to find out intrinsic value of share, we need
replacement cost of assets and not the historical cost of the assets.
ACCOUNTING CONVENTIONS
The
term “Accounting Conventions” refers to the customs or traditions which
are used as a guide in the preparation of accounting reports and
statements. The conventions are derived by usage and practice. The
accountancy bodies of the world may charge any of the convention to
improve the quality of accounting information accounting conventions
need not have universal application. Following are important accounting
conventions in use:
1.) Convention of consistency:-
According to this convention the accounting practices should remain
unchanged from one period to another. It requires that working rules
once chosen should not be changed arbitrarily and without notice of the
effect of change to those who use the accounts. For example, stock
should be valued in the same manner every year. Similarly depreciation
is charged on fixed assets on the same method year after year. If this
assumption is not followed, the fact should be disclosed together with
reasons.
The
principle of consistency plays its role particularly when alternative
accounting methods is equally acceptable. Any change from one method to
another method would result in inconsistency; they may seem to be
inconsistent apparently. In case of valuation of stocks if the company
applies the principle “at cost or market price whichever is less” and if
this principle accordingly result in the valuation of stock in one year
at cost and the market price in the other year, there is no
inconsistency here. It is only an application of the principle.
An Enterprise should change its accounting policy in any of the following circumstances only.
(i) To bring the books of accounts in accordance with the issued accounting standard.
(ii) To compliance with the provision of law.
(iii) When under changed circumstances it is felt that new method will reflect more true and fair picture in the financial statement.
2.) Convention of Conservatism:- This
is the policy of playing sale game. It takes into consideration all
prospective losses but leaves all prospective profits financial
statements are usually drawn up on a conservative basis anticipated
profit are ignored but anticipated losses are taken into account while
drawing the statements following are the examples of the application of
the convention of conservatism.
(i) Making the provision for doubtful debts and discount on debtors.
(ii) Valuation of the stock at cost price or market price which ever is less.
(iii) Charging of small capital items, like crockery to revenue.
(iv) Showing joint life policy at surrender value as against the actual amount paid.
(v) Not providing for discount on creditors.
3.) Convention of Disclosure:-
Apart from statutory requirement, good accounting practice also demands
that significant information should be disclosed in financial
statements. Such disclosures can also be made through footnotes. The
purpose of this convention is to communicate all material and relevant
facts concerning financial position and results of operations to the
users. The contents of balance sheet and profit and loss account are
prescribed by law. These are designed to make disclosures of all
materials facts compulsory. The practice of appending notes relative to
various facts and items which do not find place in accounting statements
is in pursuance to the convention of full disclosure of material facts.
For example;
(a) Contingent liability appearing as a note.
(b) Market value of investments appearing as a note.
The
convention of disclosure also applies to events occurring after the
balance sheet date and the date on which the financial statement are
authorized for issue. Such events include bad debts, destruction of
plant and equipment due to natural calamities’, major acquisition of
another enterprises, etc. such events are likely to have a substantial
influence on the earnings and financial position of the enterprises.
Their not-disclosure would affect the ability of the users for
evaluations and decisions.
4.) Convention of Materiality:- According
to this conventions, the accountant should attach importance to
material detail and ignore insignificant details in the financial
statement. In materiality principle, all the items having significant
economics effect on the business of the enterprises should be disclosed
in the financial statement.
The
term materiality is the subjective term. It is on the judgment, common
sense and discretion of the accountant that which item is material and
which is not. For example stationery purchased by the organization
though not used fully in the concept. Similarly depreciation small items
like books, calculator is taken as 100% in the year if purchase through
used by company for more than one year. This is because the amount of
books or calculator is very small to be shown in the balance sheet. It
is the assets of the company.
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