The 11 Basic Accounting Concepts and Conventions
One of the things that are common in the preparation of accounting records by accountants is the rules that they follow. The laid down rules that are complied with in the preparation of accounting records for any organization which is called the ‘accounting concept’ and the tradition for the preparation of accounting records which is called ‘accounting convention’ are the focus of this article.
Accounting Concepts
Accounting concepts are principles upon which the preparation of accounting records is based, which are universally acceptable. Accounting concepts are rules of the game that accountants have generally come to accept and use over the years.
Accounting concepts can also be seen as rules that lay down the way for recording business activities. The preparation of accounting records for any organization must follow the principles set out in the accounting concepts. The most common of these concepts are:
1) Entity Concept
The entity concept sees an organisation as a legal entity, separate and distinct from its owners. In recording the books of accounts, the business records are kept and treated separately from the owners even in a situation where the business is owned by a person.
The only attempt to show any records about the owners is when there is a transaction between the business and the owners. For example, if the owners increase their capital in the business and where the owner withdraws money from the company.
In any of these cases, the records of the business will only show how the action of the owner (i.e. capital or drawings) affects the business, but it will not extend to the personal resources of the owners.
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2) Going Concern Concept
The going concern concept states that when recording the account of a business organisation, it should be assumed that the business will be in existence for a very long period without any intention to close the company later.
However, where there are enough facts or pieces of evidence that the business will soon be closed down, it should be taken into account and the business should not be seen as remaining in operation for a very long time.
The going concern concept is assuming that a business organisation will continue in operation for an indefinite time.
3) Dual Aspect Concept or Double Entity Concept
The concept recognizes that an organisation has to transact business with other parties and when a transaction occurs, it will give rise to having two records. One record for the business and another record for the other party.
The dual aspect or double entity concept recognises that for every transaction, there are always two parties involved. One party is giving, while the other party is receiving and it represents the assets of the business and claims (liabilities) against it.
If the dual aspect concept is properly followed, the two aspects in total (assets and liabilities) must be equal to each other. The technique that reflects this concept is called the double entry principle.
4) Cost Concept
The cost concept states that in recording the value of a company’s assets, the value should be stated or recorded at cost price or the original cost as this will ensure that all transactions are objectively recorded as against using their current values, which is different from the cost price.
5) Accrual Concept
According to the accrual concept, when determining the profit of a business for a particular period, information to be used should not be restricted to income and expenditure that have been paid for or received but should be extended to those revenues and expenditures that have not been received or paid for, but for which the service has been enjoyed or rendered during the period.
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It means that revenues should be recognized immediately after it is earned while expenses are recognized when they are incurred, but not when the money is received or paid.
6) Money Measurement Concept
Many things do happen in an organization on daily basis; however, for an event to be recorded in the accounting books of a business, it must be those events or transactions that can be measured in terms of money.
For instance, the accounting records do not show if a company has a good or bad management team or if the owner is ill or healthy. However, any thing that could be quantified in monetary terms like payment of salaries of N20, 000 will be recorded in the books of accounts.
7) Matching Concept
This states that revenues and expenses for any accounting period should be matched with each other so as to bring them into the accounting period to which they relate, so that the profit or loss for the period can be ascertained.
8) Accounting Conventions
Accounting conventions refer to customs adopted by accountants which serve as guide to the preparation of accounting records which include the financial statements.
9) Convention of Prudence
The convention of prudence state that profit should not be anticipated when recognising profit to be recorded in financial statement, but the profit should be based on actual profit earned or realised for the particular period.
It means that figures that will overstate the profit should be disregarded; rather, the profit should be understated.
10) Convention of Materiality
Compliance with convention of materiality requires that in recording any transaction, recognition should be given to items that are ‘material’ to the company. What is material to company OP may be immaterial to company XY.
The size of the business, the capital, the nature of the item and the cost or value of the item will determine its materiality.
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In other word, time should not be wasted in elaborate recording of trivial items. Whatever will not impair the judgement of an accounting information user may not be considered material.
11) Convention of Consistency
The convention of consistency requires the adoption and usage of accounting policy and method in preparation of accounting records for a reasonable period of time, and same method should be followed for all similar transactions.
This suggest that accounting policies and procedure should not be changed arbitrarily and regularly in order not to distort the financial statement.
The adoption of convention of consistency in the preparation of accounting record over a reasonable period of time will helps users of accounting information to make comparison between accounting periods.
For instance, if an organisation depreciation method on non-current assets is reducing balance method, the organisation should follow the method year after year.
However, organisations are allowed to change their accounting methods for valid reason, but the effect of such change must be stated in the final accounts of the year when the change occurs.
In summary, the laid down rules that are complied with in accounting in the preparation of accounting records is called ‘accounting concept’.
Accounting concepts such as entity concept, going concern concept, dual aspect concept, cost concept, accrual concept and money measurement concept are principles upon which preparation of accounting records are based, which are universally acceptable.
Accounting conventions such as convention of prudence, convention of materiality and convention of consistency are the traditions and customs adopted by accountants for the preparation of financial statements.
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