Basic Accounting Principles and Concepts

Basic
Accounting Principles and Concepts

Accounting is called the
language of business that which communicates the financial condition and
performance of a business to interested users, also referred to as
stakeholders.

In order to become
effective in carrying out the accounting procedure, as well as in communicating
the financial information of the business, there is a widely accepted set of
rules, concepts and principles that governs the application of the accounting
procedures, and it is referred to as the Generally Accepted Accounting
Principles or GAAP.

In this article, you will
learn and familiarize yourself with the accounting principles and accounting
concepts relevant in performing the accounting procedures. It is relevant to
understand it because you need to abide by these concepts and principles every
time you analyze record, summarize, report and interpret financial transactions
of a business.

Guidelines on Basic
Accounting Principles and Concepts

GAAP is the framework,
rules and guidelines of the financial accounting profession with a purpose of
standardizing the accounting concepts, principles and procedures.

Here are the basic
accounting principles and concepts under this framework:

1. Business Entity

A business is considered
a separate entity from the owner(s) and should be treated separately. Any
personal transactions of its owner should not be recorded in the business
accounting book, vice versa. Unless the owner’s personal transaction involves
adding and/or withdrawing resources from the business.

2. Going Concern

It assumes that an entity
will continue to operate indefinitely. In this basis, assets are recorded based
on their original cost and not on market value. Assets are assumed to be used
for an indefinite period of time and not intended to be sold immediately.

3. Monetary Unit

The business financial
transactions recorded and reported should be in monetary unit, such as US
Dollar, Canadian Dollar, Euro, etc. Thus, any non-financial or non-monetary
information that cannot be measured in a monetary unit are not recorded in the
accounting books, but instead, a memorandum will be used.

4. Historical Cost

All business resources
acquired should be valued and recorded based on the actual cash equivalent or
original cost of acquisition, not the prevailing market value or future value.
Exception to the rule is when the business is in the process of closure and
liquidation.

5. Matching

This principle requires
that revenue recorded, in a given accounting period, should have an equivalent
expense recorded, in order to show the true profit of the business.

6. Accounting Period

This principle entails a
business to complete the whole accounting process of a business over a specific
operating time period. It may be monthly, quarterly or annually. For annual
accounting period, it may follow a Calendar or Fiscal Year.

7. Conservatism

This principle states
that given two options in the valuation of business transactions, the amount
recorded should be the lower rather than the higher value.

8. Consistency

This principle ensures
consistency in the accounting procedures used by the business entity from one
accounting period to the next. It allows fair comparison of financial
information between two accounting periods.

9. Materiality

Ideally, business
transactions that may affect the decision of a user of financial information
are considered important or material, thus, must be reported properly. This
principle allows errors or violations of accounting valuation involving
immaterial and small amount of recorded business transaction.

10. Objectivity

This principle requires
recorded business transactions should have some form of impartial supporting
evidence or documentation. Also, it entails that bookkeeping and financial
recording should be performed with independence, that’s free of bias and
prejudice.

11. Accrual

This principle requires
that revenue should be recorded in the period it is earned, regardless of the
time the cash is received. The same is true for expense. Expense should be
recognized and recorded at the time it is incurred, regardless of the time that
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