Accounting Conventions :– Accounting conventions are certain guidelines for complicated and unclear business transactions, though it is not compulsory or legally binding, however, these generally accepted principles maintain consistency in financial statements. While standardizing financial reporting process these conventions consider comparison, relevance, full disclosure of transactions, and application in financial statements.
These are developed from usage and practices of accounting, which emerge out of accounting practices adopted over a period of time. Accounting bodies change them as per need of their country considering the required quality of Financial Information.
1. Conservatism: In accounting, the convention of conservatism, also known as the doctrine of prudence, is a policy of anticipating possible future losses but not future gains. This policy tends to understate rather than overstate net assets and net income, and therefore lead companies to “play safe”. Example : Provision for Bad Debts, Discount on Debtors, Valuation of Inventories at lower of Cost or Market Price which ever is Lower,
2. Full Disclosure : This convention says that all relevant and Realistic Information must be disclosed. Disclosure should be in such a way that information is easily accessible to the Financial Statement user. Normally needed Information is provided as Schedules, Annexures and Notes to the Financial Statements. Underlying concept of disclosure is that Information must be disclosed at One place and in no case it should be scattered. Information is provided for the decision making of the Financial Statement users.
3. Consistency: This convention is linked with the comparability of the Financial Statements. Accounting Principles are followed Year to Year and uniformly in one Industries to make Financial Statements comparable. Deviation from consistency is permissible if it is required by Law or any Accounting Standard or it may give better presentation to the Financial Statements.
Consistency refers to a company’s use of accounting principles over time. When accounting principles allow a choice between multiple methods, a company should apply the same accounting method over time or disclose its change in accounting method in the footnotes to the financial statements
4. Materiality : Materiality is an accounting principle which states that all items that are reasonably likely to impact investors’ decision-making must be recorded or reported in detail in a business’s financial statements using GAAP standards. Materiality is a concept that defines why and how certain issues are important for a company or a business sector. A material issue can have a major impact on the financial, economic, reputational, and legal aspects of a company, as well as on the system of internal and external stakeholders of that company. Items or events which have significant effect in decision based on Financial Statement must be clearly disclosed. Both nature and volume of a transaction is capable to make it material.
Accounting Concepts :- Accounting concepts are the basic rules, assumptions, and conditions that define the parameters and constraints within which the accounting operates. These are the basic “ Assumptions on the basis of which Financial Statements are prepared.” Concepts are Perceived/ Assumed and Accepted by the governing Accounting body of a country. Some Accounting concepts are applicable in recording stage (while Journal Entry) like Separate Entity, Going Concern, Money Measurement, Dual Aspect, Cost Concept and Periodicity. Likewise some concepts are applicable at the time of summarization (While making Financial Statements) like Accrual, Materiality and Realization.
Accounting Principles: Set of doctrines generally associated with theory and procedure of accounting. Accounting principles are the rules and guidelines that companies must follow when reporting financial data. The Financial Accounting Standards Board (FASB) issues a standardized set of accounting principles in the U.S. referred to as generally accepted accounting principles (GAAP).
1. Seperate Entity : This concept says business is separate and businessman is separate. Further, the separate entity concept states that we should always separately record the transactions of a business and its owners. The concept is most critical in regard to a sole proprietorship, since this is the situation in which the affairs of the owner and the business are most likely to be intermingled. Effect : Capital A/c and Drawing A/c emerges in the account books of the organization.
2. Money Measurement: This concept says only events/transactions which are measurable in terms of money are to be recorded in the account books. The monetary unit principle states that business transactions should only be recorded if they can be expressed in terms of a currency. In other words, anything that is non-quantifiable should not be recorded a business’ financial accounts. Over time, money has been adopted as a measurement unit in accounting. Example: Qualification and Experience of owner are not shown in Financial Statements and similarly value of Human Resources are not shown in Financial Statements.
3. Periodicity : The periodicity concept, can be also called the time interval concept, is a period during which business enterprises are required to prepare financial statement at specified intervals. Interim reporting (Halfyearly/Quarterly) cannot be termed as accounting period. Financial i.e. from 1st April to 31st March is normally termed as Accounting Period for the business organizations. Accounting period is not just to know the result (Profit/Loss) for period but it is also to conclude and not further recording should be possible for that accounting period.
4. Accrual Concept: According to this concept Items and Events are recoded when they are earned/expended and not received/paid. Because of this concept Outstanding/ Prepaid items arise in the financial statement. The general concept of accrual accounting is that economic events are recognized by matching revenues to expenses (the matching principle) at the time when the transaction occurs rather than when payment is made or received.
5. Matching Concept : According to this concept Expenses are to be matched with the revenue to which they pertains. The matching principle requires that revenues and any related expenses be recognized together in the same reporting period. Thus, if there is a cause-and-effect relationship between revenue and certain expenses, then record them at the same time. Example : Royalty income of one period should be matched with the expenditure related with royalty earning
6. Going Concern : According to this concept in accounting an enterprise is considered as Going Concern and it is presumed that it will continue it’s operations for the forcible future. Further, It is also presumed that there is no Intention/Need contrary to this concept exists. Example : Because of this concept an asset is depreciated during the life time of asset and not business.
7. Cost Concept : Assets are to be recorded at their Historical Cost value and not on market value/opportunity costs/realizable vale . The cost principle is an accounting principle that records assets at their respective cash amounts at the time the asset was purchased or acquired. The amount of the asset that is recorded may not be increased for improvements in market value or inflation, nor can it be updated to reflect any depreciation. Effect : Fixed Assets are recorded at costs incurred up to the ready to put to use condition of the assets and not on any other value.
8. Dual Aspect Concept : The dual aspect concept states that every business transaction requires recordation in two different accounts. This concept is the basis of double entry accounting, which is required by all accounting frameworks in order to produce reliable financial statements. As the business is a separate entity each and every transaction of the business has two aspects. In simple words, the dual aspect concept brings into notice how every single transaction ends up affecting two accounts. For example, A takes a loan of Rs, 1 million from his bank. The two accounts getting affected here are the bank accounts of A and Bank Loan Account (Provided Loan amount is credited in the Bank A/c).
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