Theory base of accounting and accounting

 

                                          Chapter- 3       

(Theory base of accounting and accounting standards and IFRS)

 

Meaning and nature of accounting principles: Accounting principles are the rules of action or conduct which are adopted by accountants universally while recording.

Definition of accounting principles:  “principles of accounting are the general  law or rule adopted or proposed as a guide to action , a settled ground or basis of conduct or practice”(AICPA)

            The principle of accounting can be classified in to two categories

1)      Accounting concepts

2)      Accounting conventions

Accounting concepts:  They are basic assumptions. They are generally accepted set of accounting rules based on which transactions are recorded and financial statement are prepared.

Accounting conventions: They are the outcome of accounting practices. Conventions may undergo a change with time to bring about improvement in quality of accounting.

Features of accounting principles/nature

 

1) Accounting principles are man- made- They are man-made. They are the best possible suggestions base on practical Experiences.

2) Accounting principles are flexible: They are flexible, if needed accounting principles can be changed with time.

3) Accounting principles are generally accepted: Accounting principles are generally Accepted: Accounting principles are generally accepted by the accountants at the time of preparing books of accounts. 

Accounting assumptions or concept

1)      Going concern concept: This concept holds that business shall continue for indefinite period and there is no intention to close the business. On the basis of this concept, fixed assets are recorded at their market value.

2)      Consistency Assumptions: According to the consistency assumption, accountancy practices once selected and adopted, should be applied consistently year after year. The concept helps in better understanding of accounting information and makes it comparable with the other years.

3)      Accrual concept: According to the accrual concept, a transaction is recorded in the books of accounts at the time when it is entered into and not when the settlement takes place.

 

                                             ACCOUNTING PRINCIPLES

 

Business entity principle: This principle says that business has a distinct and separate entity form its owner. The business and its owners are to be treated as two separate entities. Example, When a person brings in some money as capital in to the business, accounting record, it is treated as liability of the business to the owner.

Points to be remembered:

1)      Business and businessman are two different aspect

                                                                                                                                            Transactions are recorded from business point of view and never form the viewpoint of businessman.

3)      There is a legal divorce between the ownership and management of the business enterprise.                                                

Money measurement principle:- This principle holds that only those transactions and events are recorded  that can be measured  in terms of money

Points to be remembered

1)      Those transactions which do not have any monetary value are never recorded.

2)      Monetary value means money which may be rupees, dollar, Euro and pound etc.

 

Accounting period principle: According to this principle the life of an enterprise is broken into smaller periods so that its performance is measured at regular intervals. The accounts of an enterprise are maintained following the going concern concept. Meaning the enterprise shall continue its activities for a foreseeable future.

Cost concept or Historical cost principle: According to the cost concept, an asset is recorded in the books of accounts at the price paid to acquire it and the cost is the basis for all subsequent accounting of the asset.

Full disclosure principle: According to this principle there should be complete and understandable reporting on the financial statements of all significant information relating the economic affairs of the entity.

1)      Disclosure of material facts does not mean leaking out the business secrecy, but disclosing all information of proprietors and investors interest.

2)      According to this principle, certain unimportant items are left and some of them are merged with other items. The intention is not to overburden accounting with information but present facts without any mollified intention.

Materiality principle: “An item should be regarded as material if there is reason to believe that knowledge of it would influence the decision of informed investor”

                 According to this principle only those items should be disclosed that have significant effect and are related to user. In case of profit and loss account, if amount of profit and loss has been affected due to the change in the basis of accounting example depreciation methods, basis of valuation of stock, the amount must be disclosed.

Prudence or conservatism principle: It is playing safe policy. It may be described by using the phrase “do not anticipate a profit, but provide for all losses”. This principle ensures that financial statements present a realistic picture of statement of affairs and do not point a better picture than what it actually is. Example, closing stock is valued at lower than market price.

Matching principle: It holds that cost incurred to hold the revenue should b set out against the revenue in the period  during which it is recognised as earned, for matching expenses with revenue , first revenue is recognised and then cost associated with those revenues are recognised.

Dual aspect or duality principle: According to the dual aspect concept, every transaction entered into by an enterprise has two aspects, a debit and a credit of equal amount. Simply stated, for every debit there is a credit of equal amount

Revenue recognition concept:  The revenue recognition concept holds that revenue is considered to have been realised when the transaction have been entered into an obligation to receive the amount has been established. Example an enterprise sell goods in February 2013 and receive the amount in April 2013 revenue of these sales should be recognised in February when the goods are sold because the legal obligation has been established in February 2013.

Verifiable objective concept: The verifiable objective concept holds that accounting should be free from personal bias. Measurements that are based on verifiable evidences are regarded as objectives. It means all accounting transactions should be evidenced and supported by business documents.

                                                          ACCOUNTING STANDARDS

Meaning of accounting standards: It is certain minimum standard which is universally applicable so that accounting statement has qualitative characteristics of reliability relevance, understandability and comparability. As a step towards this, an international accounting standard committee was set up in the year 1973

Nature of accounting standard

1)      Accounting standards are guidelines providing the frame work so that credible financial statements can be produced.

                    

2)      Accounting standards brings uniformity in accounting practices and ensure transparency and comparability.

3)      Accounting standards are flexible in the sense that where alternative accounting practices are acceptable, an enterprise shall be free to adopt any of the practice followed. The effect of such chante4 must be quantified and disclosed.

4)      Transaction is recorded in the books of account form vouchers. Books of account in which these transactions are recorded are known as “books of original entry”. These books are journal and cash book in which transitions are recorded in chronological order.

5)      Transactions recorded in journal book are transferred to the ledger account. The process of transferring these entries to the ledger account are maintained is called ledger is collection of accounts. It is also called principal book in double entry book keeping.

Objectives of accounting standards

1)      Minimise the diverse accounting polici8es and practices with the aim to eliminate them to the extent possible.

2)      Promote better understanding of financial statements.

3)      Understands significant accounting policies adopted and applied.

Utility of accounting standards

1)      Provide the norms on the basis of which financial statements should be prepared.

2)      Ensure uniformity in preparation of accounts.

3)      Create a sense of confidences among the users of accounting information.

International financial reporting standards (IFRS)

IAS/IFRS is a single set of high quality, understandable and enforceable global accounting standards. It is a “principles based” set of standards which are drafted lucidly and are easy to understand and apply.

Advantages of IFRS adoption

1)      This will boost the growth of the service sector also as India can emerge as an accounting services.

2)      The management of a company can view all the companies in a group on a common platform.

3)      It may offer an edge to the companies over their competitors as they can claim early adoption.

4)      It will be possible to compare and benchmark financial data with international competitors.

5)      The job of the tax authorities will be made easier.