Accounting Principles

Accounting principles are the rules of action applicable to accountant

universally. It acts as a guidelines/procedures/policies while preparing and
presenting financial statement
For example while passing accounting entry for a transaction, a debit entry
should have a corresponding credit entry.
Accounting principles are of two types ie concepts and conventions
Accounting concepts means those assumptions or conditions upon which the
science of accounting is based.
Below are the important concepts in accounting
Separate Entity Concept: It is a very important concepts. Business is a
separate entity/institute which operates independently irrespective of the
person who operates the business. For example, a person wants to start
supermarket by investing certain amount in the business. In this case from the
point of view of business entity, the person who invests has given some
money to the supermarket. Hence it will be shown as a liability in the balance
sheet in the form of capital. This concept is applicable to all form of business
organisation
Going Concern Concept: This concept assumes that business will be
continued for a reasonably long period . The person who runs the business
has no intention to close down the operation in a short period. It is because
of this concept, we do not take into consideration the market value while
valuing asset at the end of each accounting period. Hence we value fixed
assets considering the estimated useful life of assets and depreciation is
charged every year . However this concept does not mean that there is a
permanent continuance of business
Money Measurement Concept
We can record only those transactions which can be expressed in money. For
example a company hired a group of talented and trusted employees. They
are truly an asset of the organization but we cannot state in our books of
accounts in terms of money. Recruitment and salary given to them can be
accounted as expense but there is no way to value them as an asset to be
shown in the balance sheet. This concept helps a business to understand the
State of affairs of business in terms of money.
Cost Concept
As per this concept, cost is the basis for all subsequent accounting. For
example, a firm bought machinery by incurring an amount of Rs 10000.
Here Rs 10000 is the cost of machinery. Depreciation is calculated based on
its cost price
Another assumption under this concept is that asset is usually entered in the books of
account at the price at which it was bought. The advantage of this concept is that it
will give the base for accounting of fixed Assets. We will have proof of the price paid to
acquire the assets. People cannot manipulate the accounting process on account of
this concept as they cannot apply their own view point in accounting process.
However continuous increase in price makes this accounting concept less effective in
certain situation. Best example is the valuation of land. A land bought at a price of Rs 1
Lack 10 years back will not make sense when it is still showing the same price as book
value
Dual Aspect Concept
As per this concept every transaction has a dual effect. For example, Mr X starts a
business by introducing cash of Rs 10000. This is a transaction and there are 2 aspects
in the transaction. First aspect is that business got an asset of Rs 10000. The second
aspect is that this transaction resulted in a liability to the business as the business has
to pay to the owner Rs. 10000. When we express it in an equation, it shall be Capital=
Cash This concept tells us that for every debt, there is an equivalent credit. In realty
Double entry system of accounting is based on this concept
Accounting Period Concept
As per this concept, the life of the business is divided into definite time period for
measuring the financial performance and arriving at the financial position. This also
helps in comparing the financial performance among different periods.
For example the well accepted accounting period in India is April 1 to March 31.
Income and expense of one period will be presented in one period and it will not be
Carried forward to next accounting period. However assets and liability items will be
Carried forward to next year. Hence a proper distinction has to be made between the
Items
Realization Concept
This concept explains that revenue is recognized when sale is made/ service is rendered
With regard to sales, sale is considered to be made when the property
In goods passes from seller to buyer and the buyers becomes legally liable to pay
the amount of sales. Date of bill/invoice will be the evidence regarding the date of sale.
Realization concept enables the accountant to understand the timing of revenue
recognition of the business concern
 Accounting Convention:
Include customs or traditions which guide the accountant while preparing
the accounting statement
Conventions of Conservatism
Here the accountant follows “ Anticipate no profit but provide for all possible
losses "while recording business transactions..The policy followed by accountant
is to play safe. Provision for bad debt is made based on this conventions because
we anticipate some loss on sale of goods on credit. This convention will protect
the business from unexpected loss. However the disadvantage of this convention
is that It encourages accountant to create secret reserves in the form of excess
provision. This will result in arriving at less profit than what the business
really has. Thus it may misguide end users specially tax authorities and investors
Full Disclosure
As per this convention, accountant is expected to provide adequate honest and
useful Information to end users. This convention is gaining importance recently
because big companies assign the responsibility of running the business to
managers. So the investors should be informed of the full and fair view of the
state of affairs of the company.
The following are the important areas where accountant should make adequate
disclosure
1) Valuation of inventory
2) Method of charging deprecation
3) Valuation of investment
4) Accounting for Fixed Assets
5) Revenue recognition
Accountant discloses the accounting policies in the form of notes on accounts which is
a part of financial statements of the organization. With respect to companies, Profit
And Loss account and balance sheet are prepared in prescribed form as per
Companies
Act 2013
Consistency
It means the accounting practices followed from period to period will remain
Unchanged. Suppose a company follows the policy of valuing stock at cost price or
market price whichever is less. However if there is any change in this policy, it
Should be included as part of financial statements. It is due to the fact that it will
will result in reporting lower profit in case stock is undervalued as a result of change in
Accounting practice. However consistency does not mean that we should not bring
any change. We can apply new technologies in accounting process which will result in
publishing better accounting information. For example a company can replace Tally
based accounting system with SAP when the company is expanding at a faster rate
.
Materiality
Materiality indicates how much importance needs to be given for particular item.
For example while publishing the quarterly or annual financial results of a IT
company, Investors may be interested to know how much contribution is given by
top 10 clients to company’s revenue. They do not want to know the contribution of
each and every Client. It is purely a subjective matter for an accountant. However
an accountant should Know the items which will be given more attention by the
end users. Publishing unnecessary items will be a big burden to an accountant. The
concept of materiality is a subjective item in the sense that publishing top 10
clients may be material information for an IT company. It may not be an important
item for a non-IT company