Accounting Assumptions, Concepts and Principles

Accounting Assumptions

1. Going Concern Assumption

   • Definition: Assumes that a business will continue to operate indefinitely and not go out of business in the foreseeable future.
   • Implication: Assets are recorded based on their value over time rather than their current market value.

2. Monetary Unit Assumption

   • Definition: Assumes that business transactions are recorded in a consistent monetary unit (e.g., USD, EUR) without considering inflation or deflation.
   • Implication: Only transactions that can be expressed in monetary terms are recorded in the financial statements.

3. Time Period Assumption

   • Definition: Assumes that the life of a business can be divided into distinct time periods (e.g., months, quarters, years) for reporting purposes.
   • Implication: Financial statements are prepared for specific periods to provide timely information to users.

4. Economic Entity Assumption

   • Definition: Assumes that the business is separate and distinct from its owners and other entities.
   • Implication: Business transactions are recorded separately from the personal transactions of the owners.

Accounting Concepts

1. Accrual Concept

   • Definition: Revenue and expenses are recognized when they are earned or incurred, not necessarily when cash is received or paid.
   • Implication: Financial statements reflect the true financial position and performance of the business.

2. Consistency Concept

   • Definition: Once an accounting method is adopted, it should be applied consistently in all subsequent periods.
   • Implication: Ensures comparability of financial statements over time.

3. Conservatism Concept (Prudence)

   • Definition: Requires recognizing expenses and liabilities as soon as possible, but revenues only when they are assured.
   • Implication: Financial statements are not overly optimistic and provide a cautious outlook.

4. Materiality Concept

   • Definition: Only transactions and events that are significant enough to influence the decisions of users should be recorded.
   • Implication: Insignificant items can be disregarded to simplify financial reporting.

5. Full Disclosure Concept

   • Definition: All relevant information that affects the users’ understanding of financial statements should be disclosed.
   • Implication: Ensures transparency and completeness in financial reporting.

Accounting Principles

1. Revenue Recognition Principle

   • Definition: Revenue is recognized when it is earned and realized or realizable, regardless of when cash is received.
   • Implication: Provides an accurate depiction of revenue earned during a specific period.

2. Matching Principle

   • Definition: Expenses should be matched with the revenues they help generate within the same accounting period.
   • Implication: Ensures that income statements accurately reflect the profitability of the business.

3. Historical Cost Principle

   • Definition: Assets and liabilities are recorded at their original purchase cost, not their current market value.
   • Implication: Provides reliability and verifiability in financial statements.

4. Objectivity Principle

   • Definition: Financial statements should be based on objective evidence and verifiable data.
   • Implication: Ensures that financial information is unbiased and reliable.

5. Revenue Realization Principle

   • Definition: Revenue is recognized when the earning process is complete, and there is reasonable certainty of payment.
   • Implication: Prevents premature recognition of revenue.

6. Cost Principle

   • Definition: All assets should be recorded at their cost at the time of acquisition.
   • Implication: Ensures consistency and objectivity in the valuation of assets.

7. Industry Practices Principle

   • Definition: Financial reporting should follow the established norms and practices of the industry in which the business operates.
   • Implication: Provides comparability with other businesses in the same industry.