 Accounting Concepts: (1)

1. 1. Going Concern Concept:  It is on this concept that a clear distinction made between assets and expenditure.  This concept assumes that business shall continue for an indefinite period.  The proprietor has no intention to close it in the near future and would be able to meet its obligations according to plan.  Due to this concept : (i) Assets are valued at cost and then depreciated every year. (ii) Expenses and incomes are classified into capital and revenue.

2. 2. Business Entity Concept  According to this concept, business and its owners are separate entities.  The owner is treated as the creditor of the company to the extent of capital contributed by him.  All transactions of the business are recorded in the books of business from the point of view of business.  This concept keeps the personal affairs of the owner away from the business affairs.  Income or profit is the property of the business unless distributed among the owners.

3. 3. Money Measurement Concept  As per this concept, only those transactions which can be expressed in terms of money can be recorded.  Transactions and events which cannot be expressed in terms of money, even if they affect the business, are not recorded in the books.  Income or profit is the property of the business unless distributed among the owners. Example: Death of the director, disputes within the organization, strikes, etc. may affect the working and profits of the business, but are not recorded in books of accounts.  Measuring unit for money is the currency of the ruling country. Note: Entity and money measurement are considered as the basic concepts on which other procedural concepts depend.

4. 4. Cost concept  According to this concept, the value at which the various assets shall be recorded in the books shall be the historical cost or acquisition cost.  This concept says that the assets shall be recorded at cost at the time of its purchase and its value shall be reduced systematically by charging depreciation.  This concept helps to keep the statements free from personal bias or judgments.  This concept is not beneficial for new investors as they are more interested in knowing the present worth of the business rather than its historical cost.

5. 5. Dual Aspect Concept  According to this concept, every transaction has two aspects a debit aspect and a credit aspect.  Due to these two aspects, the total amount debited is always equal to the total amount credited (i.e. total assets are equal to total liabilities) Note: Concept of Accounting Equation : Accounting equation is based on the dual aspect concept. Assets: These are the resources owned by the business. Liabilities: These are the claims against the assets. Liability to owners — capital Liability to outsiders — liabilities.

6. 6. Realization concept  According to this concept, revenue is recognized only when sale is made.  This concepts says that any change in the value of an asset is to be recorded only when business realizes it.  This concept prevents business firms from inflating their profits by showing expected incomes. (which have not yet materialized)  E.g. An increase in the value of asset cannot be considered as a profit until and unless the asset is sold and profit is realized. Note : Going concern + Cost Concept+ Realization Concept = Valuation criteria

7. 7. Accrual concept  It is fundamental to the usefulness of financial accounting information.  According to this concept, a transaction should be recorded at the time when it takes place and not when the cash is realized.  Every transaction and event effects, one or more or all the three aspects, assets, liabilities and capital.  They have their impact on both the profit & loss A/c and Balance Sheet.  This concept implies that income should be measured as a difference between revenue and expenditure.

8. 8. Accounting Period Concept  This is also known as the concept of periodicity.  According to this principle, the life of an enterprise is broken into smaller periods (generally one year) know as accounting period.  The main objective of this concept is to know the performance of the enterprise at regular intervals.  Accounting period is an interval of time at the end of which the income or revenue statement and balance sheet are prepared in order to show the results of the operations.

9. 9. Matching concept/ Revenue match concept  Based on accounting period concept  As per this concept, expenses of a period should be matched with the revenues of that period.  It says, the cost incurred to earn the revenue should be recognized as expenses in the period when revenue is recognized.  Matching principle requires that all revenues earned during an accounting year, whether received or not and all cost incurred, whether paid or not, have to be taken into account while preparing Profit/Loss Account. In the same manner all amounts received or paid during the current year but pertaining to the previous year or the next year should be excluded from current year’s revenue and cost.  The term matching means appropriate association of related revenues and expenses.

10.  Accounting Conventions: 1. Consistency  According to this convention, accounting practices once selected and adopted should be applied consistently year after year.  This convention helps in comparison of financial statements.  Consistency does not mean that accounting principles once adopted can never be changed. They can be changed, if the change is desirable. Example: If a company follows written down value method of depreciation, it shall continue to follow year after year.

11. 2.Disclosure  This is also known as the “Full disclosure” principle.  According to this convention, all significant information should be fully and fairly disclosed in the financial statements.  Ensuring this convention increases the relevance and reliability of financial statements. The companies act make ample provision for disclosure of essential information.

12. 3. Conservatism  The concept of conservatism states that we should not anticipate a profit but should provide for all possible losses while preparing financial statements.  It enables the financial statements to show a realistic picture of the state of affairs of the enterprise.  This convention understates the assets and overestimates the liabilities.  Financial statement are usually drawn up on a conservative basis.  Choice between two method of valuing an asset the accountant should choose a method which leads to lesser value. Example: Valuing stock at lower of cost or market value, making provision for doubtful debts in anticipation of debts becoming bad, are done to comply with the convention of conservatism.

13. 4. Materiality  According to the convention of materiality, accountant should record only those items which are material and ignore all insignificant items.  An item is said to be material if it is likely to influence the decision of the users. (like investors etc.)  Judgment of materiality depends from organization to organization and on the basis of professional experience and judgment.