Chapter 1 Accounting Concepts ,Convention, Classification and Accounting Process

Learning objectives Accounting Concepts. Accounting Conventions/Principles Source thereof. Classification of Accounts, Rules relating to classification. Balance Sheet Equation. Practice classification of accounts.
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Accounting Concepts
Business objective of profit making is common but the transactions and events leading to that objective are not common or uniform. Businesses are evolving; business processes are evolving and ever changing. Therefore there are complexities in accounting; but need to commonly understand what accounts convey is indisputable. Hence there is a need to establish a framework for accounting. Framework for accounting evolves out of common experiences, historical precedents, standards set by professional bodies, guidelines established by regulators /government agencies and statements made by eminent individuals. Framework consists of accounting principles explained under the heads Accounting Concepts and Accounting conventions. Accounting concept are basic assumptions on the basis of which financial statements are prepared. Accounting conventions denote congvention or traditions or practice based on general agreement between the accounting bodies which guide the accountant These principles are established by Professional bodies (Financial Accounting Standards Board), Institute of Chartered Accountants, Companies Act, Income Tax Act, etc. Generally Accepted Accounting Principles at the global level, at the county level are enunciated by professional bodies. Recommendatory in nature; but implemented through audit standards.

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Accounting Concepts
Accounting Concepts are basic/ fundamental assumptions based on which financial statements are prepared. 1. Business Entity concept: Business is distinct accounting entity from owners, manages and creditors. All accounting transactions are recorded from the business entity point of view and distinct from persons related to it. 2. Money measurement concept: Measure and report about events/ transactions that are amenable to measurement in money terms. Money means currency of the country of domicile. 3. Cost concept: all events shall be recorded based on the actual cost incurred. Cost is an objective measurement of an asset. 4. Going concern concept: Accounting is done on the assumption that there is neither a need nor intention to liquidate the business; this helps in distinguishing between asset and expense. 5. Dual Aspect concept : Recognition that every transaction has two aspects; transaction is exchange of values. Contd..

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Accounting Concepts contd.. 6. Dual aspect concept: Recognition of two aspects to every transaction is known as dual aspect concept. 7.Accrual concept: if a transaction or accounting event has occurred, though settlement has not occurred, the transaction should be recorded. It is also necessary to record the transaction in the relatable accounting period. 8.Accouting Period Concept: Life of the business is divided (reviewed) periodically; each such review period is called accounting period. Usually financial year is dictated by law of he land; financial year in our country is Apr to March. Quarterly review is dictated by Stock Exchange requirements contractual obligation on the companies. Contd..
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Accounting concept contd..

9.Realisation Concept/Accrual Concept: Transaction be recorded only when the event has occurred. Accrual Accounting; Cash Accounting and Hybrid Accounting concepts are the variations. 10.Revenue Match Concept: Profit or loss for a given accounting period shall be determined by matching income and expenditure for the given accounting period.
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Accounting Conventions
The accepted traditions, practices based on general acceptance in preparing the financial statements. Fundamental conventions are given below but GAAP, Accounting Standards, etc are more elaborate. Please see ICAI internet site for accounting standards. 1. Consistency: accounting practice should remain the same from year to year. 2. Disclosure: All significant information should be fully and fairly disclosed. 3. Conservatism : A. not to anticipate income but to provide for all expense. B. always value assets using method that gives lesser value (market value or cost which ever is less). 4. Materiality: While summarising or classifying focus should be on what is material and ignore insignificant details.
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Developments
Accounting standards: Accounting Standards are designed to apply to the general purpose financial statements and other financial reporting, which are subject to the attest function of the members of the ICAI. Accounting Standards apply in respect of any enterprise (whether organised in corporate, cooperative1 or other forms) engaged in commercial, industrial or business activities, irrespective of whether it is profit oriented or it is established for charitable or religious purposes. while discharging their attest functions, it will be the duty of the members of the Institute to examine whether the Accounting Standard is complied with in the presentation of financial statements covered by their audit. About 37 standards have been issued so far. Indian Generally accepted accounting principles (Indian GAAP) American GAAP Financial Accounting Standard Board.

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Rules relating to Classification

Basic Classes: Personal Accounts and Impersonal Accounts. Personal Accounts: Owners, Creditors and Debtors.
Owners - Parties that own the business Equity shareholders/Proprietors/Partners. Creditors: - Parties to whom the business is obliged to pay. Debtors : - Parties from whom the business is entitled to receive.

Impersonal Accounts: Real Accounts and Nominal Accounts.

Real Accounts : Tangible (Assets that can be seen , touched, felt, measured, etc) Intangible: (Other Assets) Nominal Accounts : Expenses (and Losses) and Income (and gains).

Final Classification: Personal Accounts Real Accounts Nominal Accounts.

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Rules of recording transactions.

EVERY DEBIT SHOULD HAVE A CORRESPONDING CREDIT AND EVERY CREDT SHOULD HAVE A CORRRESPONDING DEBIT. Recording transaction is entering the value either on the giving side or on the receiving side. They are called debiting and crediting. RULES OF RECORDING
Type of Account Account to be debited Accounted to be credited

Personal Account

Receiver

Giver

Real Account

What comes in

What goes out

Nominal Account

Expense and Losses

Incomes and Gains

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