Accounting Concepts and Principles
There are several concepts, assumptions, and principles about the accounting process that an accountant should follow. In recording business transactions, the accountant should consider the following:
Fundamental Concepts of Accounting
1. Entity Concept
In accounting, a business or an organization and its owners are treated as two separate parties. This is called the entity concept. The business stands apart from other organizations as a separate economic unit.
2. Periodicity Concept
The periodicity assumption states that an organization can report its financial results within certain designated periods of time. This typically means that an entity consistently reports its results and cash flows on a monthly, quarterly, or annual basis.
3. Stable Monetary Unit Concept
The stable monetary unit concept assumes that the value of the dollar is stable over time. This concept essentially allows accountants to disregard the effect of inflation — a decrease, in terms of real goods, of what a dollar can purchase.
4. Going Concern
The going concern concept is a fundamental principle of accounting. It assumes that during and beyond the next fiscal period a company will complete its current plans, use its existing assets and continue to meet its financial obligations.
Basic Principles of Accounting
1. Objectivity Principle
Objectivity concept in accounting is referred to as the principle which states that financial statements should be objective in nature. In other words, the financial information should be unbiased and free from any kind of internal and external influence.
2. Historical Cost
Under the historical cost principle, most assets are to be recorded on the balance sheet at their historical cost even if they have significantly increased in value over time. Not all assets are held at historical cost.
3. Revenue Recognition Principle
The revenue recognition principle, a feature of accrual accounting, requires that revenues are recognized on the income statement in the period when realized and earned—not necessarily when cash is received.
4. Expense Recognition Principle
The expense recognition principle is a fundamental principle of accounting that business expenses should be recognized in the same period as the revenues associated with those expenses (and vice versa). This is also called the matching principle and is the most basic tenet of accrual accounting.
5. Adequate Disclosure
The principle of adequate disclosure demands full disclosure of all material matters that can affect financial statements and are of interest to users of accounting information. This principle requires the disclosure of appropriate changes in financial statements that can be useful and not misleading to users.
The materiality principle states that an accounting standard can be ignored if the net impact of doing so has such a small impact on the financial statements that a user of the statements would not be misled.
7. Consistency Principle
The consistency principle states that, once you adopt an accounting principle or method, continue to follow it consistently in future accounting periods. Only change an accounting principle or method if the new version in some way improves reported financial results. if such a change is made, fully document its effects and include this documentation in the notes accompanying the financial statements.