In this post, we will learn about the Accounting Principles and Assumption.
Accounting Principles and Assumption
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Generally Accepted Accounting Principles
Generally Accepted Accounting Principles (GAAP) are a set of standard accounting rules and guidelines that are commonly used in the United States to ensure consistency and accuracy in financial reporting. The principles provide a framework for financial reporting, and include guidelines for recording, measuring, and presenting financial transactions in financial statements.
Some of the key GAAP principles include the principle of consistency, which requires that accounting methods and procedures remain consistent from one period to the next, and the principle of materiality, which requires that financial information be reported if it is likely to influence the decisions of users of the financial statements. The GAAP principles are developed and maintained by the Financial Accounting Standards Board (FASB) and are widely used by businesses, not-for-profit organizations, and government entities in the United States.
Accounting Entity Assumption or Business Entity Assumption
Business is treated as unit or entity apart from its owner, creditors and others. Even the proprietor of the business is considered to be separate and distinct from the business which he controls. He is treated as a creditor to the extent of his capital.
Money Measurement Assumption
The money measurement assumption is an accounting principle that assumes that only transactions that can be expressed in monetary terms are recorded in the financial statements. This means that any business activity that cannot be quantified in financial terms, such as employee satisfaction, customer loyalty, or reputation, are not recorded in the financial statements.
For example, if a company buys a new machine for $50,000, this transaction can be expressed in monetary terms, and it would be recorded in the financial statements. On the other hand, if a company improves its customer service, this activity cannot be expressed in monetary terms and, therefore, is not recorded in the financial statements.
The money measurement assumption is essential because it helps to ensure that financial statements are objective and verifiable. It also ensures that financial statements are comparable across different time periods and different companies.
Accounting Period Assumption
The accounting period assumption is a principle in accounting that states that businesses should divide their financial transactions into equal, regular intervals, such as monthly, quarterly, or annually. This assumption helps businesses prepare accurate financial statements for each period, allowing for more effective analysis and decision-making.
Under the accounting period assumption, businesses must choose a consistent accounting period for their financial statements, which should reflect the business’s operational cycle. For example, if a business’s operational cycle is one year, it should choose an annual accounting period. The accounting period assumption also requires that all financial transactions within the chosen accounting period are recorded accurately.
By following the accounting period assumption, businesses can more effectively measure their financial performance over time, identify trends, and make informed decisions about future investments and expenditures. It also helps businesses to compare their financial performance over multiple periods and to comply with accounting standards and regulations.
Going Concern Assumption
The going concern assumption is a fundamental principle of accounting that assumes a business entity will continue to operate indefinitely, with no plans or intentions to liquidate or scale down operations. This means that when financial statements are prepared, they are done so with the assumption that the business will continue to operate for the foreseeable future.
The going concern assumption allows accountants to value assets based on their expected future value, rather than their current liquidation value. It also allows for the recognition of long-term liabilities and deferred taxes, which would not be possible if the assumption were that the business would be liquidated in the near future.
This principle is important because it allows for more accurate financial reporting and decision-making. If the assumption were that a business would be liquidated in the near future, financial statements would have to be prepared on a liquidation basis, which would result in lower values for assets and higher liabilities. This would not accurately reflect the true financial position of the business and could result in incorrect decisions being made.
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FAQs on Accounting Principles and Assumption
What do you understand by accounting principles?
Accounting principles are the set of fundamental concepts and guidelines that govern the preparation and presentation of financial statements of an entity. These principles serve as the foundation of the accounting profession and are used to ensure that financial information is accurate, relevant, and reliable. Accounting principles help ensure consistency in financial reporting across different entities, industries, and countries. The generally accepted accounting principles (GAAP) are a commonly recognized set of accounting principles that are followed by companies in the United States, while the International Financial Reporting Standards (IFRS) are used by companies in many other countries.