CHAPTER – 10

ACCOUNTING PRINCIPLES/ CONCEPTS

ACCOUNTING CONCEPT refers to the basic assumptions, rules and principles which work
as the basis of recording business transactions and preparing accounts.

GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (GAAP)

 It helps govern the world of accounting by standardizing the definitions, assumptions, and
methods used in accounting across all industries.
 The ultimate goal of GAAP is ensuring a company's financial statements are complete,
consistent, and comparable.
 This makes it easier for investors to analyze and extract useful information from the
company's financial statements. It also facilitates the comparison of financial information
across different companies.

10 ACCOUNTING CONCEPTS/PRINCIPLES
1. BUSINESS ENTITY- states that business have an existence separate from its owner.
 This is evident when owner’s investment into the business is credited in the capital
account, treating them as a creditor of the business.
 On the other hand, when owners withdraw money from the business, the amount is
debited to the Drawings account. (The business account doesn’t show if he spends the
money on food, clothes or holidays because these are not business transactions.)
 This concept restraints accountants from recording of owner’s private/personal
transactions in accounting books.
2. MONEY MEASUREMENT- only transactions that can be expressed in monetary terms are
recorded in ledger accounts.
 If all the business transactions are expressed in monetary terms, it will be easy to
understand and compare the accounts prepared by the business.
 Example- motivation and skills of employee will not be recorded but workers salary is
recorded in accounting books.
3. HISTORIC COST- transactions are recorded at their cost price.
 This is because the cost price is objective (based on facts and not opinion) as it has
invoices and other documents to support it.
  Example- a shirt costs 250 taka. Your mother thinks that the price of the shirt should be
200 taka and your friend thinks that it should be 300 taka. So, subjective prices vary
from person to person and therefore, are not reliable.
 It helps in calculating depreciation on fixed assets.
4. REALIZATION- revenue can only be recognized after it has been earned when good or
services are sold and converted into money (i.e. when money is received).
 Example, if a customer comes to a shop and says that he or she will return the next
day to buy a pair of shoes, there is no sale yet; but if he/she returns the next day and
buy the shoes, the sale then becomes a fact and therefore is realized.)
5. DUALITY CONCEPT- It provides the very basis of recording business transactions in the
books of accounts.
 Every transactions will affect two items in the business. Therefore, the transaction
should be recorded at two places, once in debit side and once in credit side.
 Thus, the duality concept is commonly expressed in terms of fundamental accounting
equation: A = C + L
6. CONSISTENCY- transactions of similar nature should always be recorded in the same
way, using the same methods, from one accounting year to the next.
 In other words, businesses should not use a certain accounting method one year, and
a different accounting method the next year.
 Example: keeping the percentage of depreciation same every year.

7. ACCRUAL/MATCHING – the income statement should only include the income earned
and expenses incurred for the current financial year.
 Example 1(advance/prepaid): A business occupies premises at an annual rental of
2000 tk. In one year, it has paid 2500tk because it has paid one quarter’s rent in
advance. In the financial statement, only 2000tk will be shown as rent expense
because the advance amount of 500tk was for the next years rent which will be an
expense generated to earn revenue for next year.
 Example 2(accrual/owing): A business used 2100tk worth of electricity in a year but it
has only paid 1200tk. Therefore, the business owes the electricity company 900tk. In
the financial statement, although the business only paid 1200tk, the full 2100tk will be
shown as an expense because the business consumed electricity of 2100tk to
generate that year’s revenue.

8. MATERIALITY- concept implies that the business should not waste time recording
transaction that are insignificant (involve very small amount of money).
  An amount maybe considered material in the accounts if its inclusion or omission from
the final statements would affect the way people would interpret those statements.
 NOTE: what is insignificant to large business could be material to a small business.
 Example $150 printer is immaterial for a multi-million-dollar company. So, the
materiality concept allows this company to violate the matching principle and show the
entire cost of $150 as one off expense, instead of showing it as an asset.

9. GOING CONCERN CONCEPT- assumes that the business entity will continue its
operations for an indefinite period of time. It will not liquidate or be forced to discontinue
operations due to any reason.

10. PRUDENCE OR CONSERVATISM CONCEPT- is a key accounting principle that ensures:

1. Assets and income are not overstated and
2. Provision is made for all known expenses and losses whether the amount is
known for certain or just an estimation
The application of the prudence concept ensures that the financial statements present a
realistic and true picture of the financial state of the business.

11. SUBSTANCE OVER FORM- The practical view (the substance) is preferred to the legal
view (the form) in accounting.
 Example: A machine bought on hire purchase remains the possession of the seller
until the last payment is made (legal/form view). From an accounting view, the machine
is used in the business and so will be shown on the final accounts as non-current asset
of the business (substance).