Accounting concepts Flashcards
Business entity
The business entity concept means that the business is treated as a separate entity from its owners. This means that the financial activities of the business must be recorded separately from the personal financial activities of the owner
Why does it matter?
- It gives a clear financial picture , it helps to keep the business’s finances clear and separate from your personal finances . Y
-Legal tax reasons: For legal and tax purposes, it’s important to show the business is separate .
Money measurements
It means that only transactions that can be measured in terms of money are recorded in financial statements
It ensures financial records are based on objective, measurable facts , not opinions or things that can’t be counted in money
Going concern
The going concern concept means that a business is expected to keep operating for the forseeable future, unless there is evidence to suggest otherwise
This assumption is that a business will continue to function and pa its debts as they come due. It is not expected to close down or to be liquidated
so when accountants prepare financial statements,they assume the business will stay open long enough to use its pay of liabilities and continue operations
why does this matter?
Financial reporting - it allows business to spread costs out over time
it allows accountants to decide how to value things like assets and liabilities.
going concern uncertainty
If there is evidence that the business might stop operating soon like it is running out of money , has huge debts it cant ay off or is facing major issues accountants may have to adjust the financial statements to reflect that the business may not be able to continue.
Historic cost concept
This concept states assets are recorded and reported at the original price paid for them when the were acquired, rather than their current market value or any future expected value
so if you purchase something and the price of the item goes up a few months later you do not need to change the price in your books
This helps with consistency in the business and simplicity and objectivity
Realisation
The realisation concept refers to the idea that revenue should only be recognised when it is actually earned , not when the actual money is received . This is typically when the goods or services have been delivered or performed and there is a reasonable certainty that payment will be received
so revenue is recognised at the point when the transaction is complete, not when the money changes hands
Accurals
Accruals in accounting refer to revenues and expenses that are recognized when they occur, even if the cash has not been received or paid yet. It’s all about recording things in the period they happen, not when money changes hands.
Accruals are used to match revenues with expenses
More accurate financial picture: Accrual accounting ensures that financial statements reflect what happened during a specific period, not just when cash flows in or out. This gives a clearer view of how much money the business made or spent
consistency
The consistency concept in accounting means that once a business adopts an accounting method or principle, it should continue to use the same method for similar transactions in future periods unless there’s a valid reason to change.
Why does consistency matter?
Comparability: If businesses use different methods, comparing their financial statements can be confusing. Consistency allows for clear comparisons over time.
Reliability: Using the same methods consistently ensures that the financial information is dependable and doesn’t change just because a business wants to present a more favourable result.
When might you change methods?
Regulatory Requirements: Sometimes, accounting standards or tax laws may require a change in the method you use.
Improvement in Accuracy: If another method gives a more accurate reflection of your financial situation, you might switch, but you must explain the reason for the change.
Prudence
The prudence concept in accounting is all about being cautious and conservative when making financial decisions. It means that accountants should recognize expenses and liabilities as soon as possible, but only recognize revenues and gains when they are certain. This helps avoid overestimating profits and underestimating losses.
This means that when preparing financial statements you should not be too optimistic aboout future profits but you shouldd be realistic about potential expenses or losses
Why does prudence matter?
Avoid Over-optimism: It prevents businesses from overestimating their financial position, which can mislead investors or creditors about how well the business is doing.
Realistic Financial Reporting: By being cautious, the financial reports will reflect a more realistic view of the company’s health, avoiding the risk of showing profits that might not materialize.
Protects Stakeholders: The prudence concept helps protect people who rely on the financial statements (like investors or creditors) from being misled about a company’s true financial situation.
Objectivity
The objectivity concept in accounting means that financial statements and records should be based on verifiable, factual information, not personal opinions or biases. The idea is to ensure that accounting information is reliable, neutral, and free from personal influence.
why does this mater:
Financial records must be supported by objective evidence — like invoices, receipts, contracts, and bank statements — rather than just someone’s judgment or guesswork.
This ensures that financial statements are credible and can be trusted by users like investors, creditors, and regulators.
