Accounting Concepts

There are 2 types of accounting concepts:

1. Fundamental accounting concepts

2. Underlying accounting concepts.

Fundamental Accounting Concepts

There are five accounting concepts:

1. Going Concern Concept

The going concern concept implies that the business will continue to operate in the foreseeable future. A business is a going concern if it has no intention to discontinue its activities. Accounts are usually prepared under the going concern concept. In case a business is not a going concern, assets will be shown at the price at which they may be sold when the business closes down.

2. Consistency Concept

A business must choose a method to record its transactions which will show a more realistic view of the business. If a business chooses one method to record one transaction, the consistency concepts states that it should continue to use this method in the subsequent years unless the method does not show a realistic view or an another valid reason is given.

3. Prudence Concept

The prudence concepts states that all losses should be recorded in the books as soon as they are recognized, but gains and profits should not be recorded unless they are realized, that is, the business should get the profit or gain in reality. The aim of the prudence concept is to prevent profits from being overstated.

4. Matching Concept (Accrual Concept)

The matching concept states that net profit is the difference between revenue and expenditure incurred. That is;

            NET PROFIT = REVENUE - EXPENDITURE

The matching concept also states that if an expense is incurred in a financial year, then the expense should be included in the final accounts of that year itself, whether the expense has been paid or not.

5. Materiality Concept

The materiality concept states that only items which are material will be recorded in the books. There is no need for absolute precision on the books. For instance, a pocket calculator costing only $8 will not be considered as a non-current asset, although its useful life is 5 years.

Underlying Accounting Concepts

1. Historical Cost Concept

Under the historical cost concept, the assets are shown at their cost price.

2. Money Measurement Concept

Accounting information consists of only those transaction which have a monetary value to which most people will agree. The limitation of this concept is that accounting can never provide each and every information of the business. For example, it cannot show whether the business has problem with the workforce.

3. Business Entity Concept

This concept states that the business has separate existence from that of the owner.

4. Dual Aspect Concept

The dual aspect concepts states that every transactions should have two aspects, one debit and the other credit (Double entry system is applied).

5. Time Interval Concept

This concepts states that final accounts should be prepared at a regular time interval of one year.