📘 BASIC ACCOUNTING CONCEPTS
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Examples include sales, purchases, payments, and receipts.
Each transaction affects the financial position of a business and must be recorded in the accounting books.Transactions are the basic inputs to the accounting process and must be supported by documents such as invoices, receipts, or contracts.
Tax accounting deals with the preparation, analysis, and presentation of tax payments and returns according to laws and regulations set by tax authorities. It ensures compliance with tax laws, helps in tax planning, and involves understanding deductions, exemptions, and liabilities to minimize tax burdens legally.
It is a structure of accounting methods focused on taxes rather than appearance of public financila statements.
(i) Book-keeping is the art and science of systematically recording all financial transactions of a business in the books of original entry and ledgers, in chronological order, to ensure that financial information is complete and accurate.
(ii) Its main purpose is to maintain a permanent and reliable record of all monetary transactions, which forms the basis for preparing financial statements and further accounting processes.
(i)Accounting is the process of identifying, recording, classifying, summarizing, interpreting, and communicating financial information to users for decision-making purposes.
(ii) It goes beyond book-keeping by not only maintaining records but also analyzing and presenting them in a meaningful way through statements like the Profit & Loss Account and Balance Sheet.
(i)Cash Basis of Accounting is an accounting method in which revenues and expenses are recorded only when the actual cash is received or paid. Unlike the accrual basis, which recognizes income and expenses when they are earned or incurred regardless of cash flow, the cash basis focuses strictly on the flow of cash.
In this system: a) Revenue is recorded only when the business receives cash from customers or clients. b) Expenses are recorded only when cash is paid out for goods, services, or other costs.
(ii)This method is simple and straightforward, making it popular for small businesses and individuals who want an easy way to track cash flow. However, it does not provide a complete picture of a company’s financial position during a period because it ignores money that is owed to the business (receivables) or money the business owes (payables).
Reliability:
Accounting information must be dependable and trusted by its users. It should accurately represent the real financial position and performance of the business, free from errors, bias, or manipulation. Reliable information reflects the actual events and values involved. The reliability of accounting information depends on several key factors:
a) Faithful Representation: The effects of all transactions and events should be fully and faithfully represented in the accounts. For example, if there are business risks or uncertainties, these must be disclosed so users understand the true financial situation.
b) Substance Over Form: The financial statements should reflect the economic reality of transactions rather than just their legal form. For instance, if an asset is legally owned by another party but controlled by the business, it should be reported accordingly.
c) Prudence: Caution should be exercised when preparing financial statements to avoid over-optimism or understatement of liabilities. Estimates and judgments should aim for the most likely outcome with reasonable accuracy.
d) Neutrality: Accounting information must be free from personal bias or influence of the preparer. For example, judgments related to stock valuation or doubtful debts must be made objectively without favoring any particular interest.
e) Completeness: All material information must be included so that users are not misled. Omission of relevant data can result in unreliable financial reports.
Relevance: Accounting information must be relevant to the decision-making needs of its users. It should help users assess past performance, evaluate the current financial status, and make predictions about future prospects. Irrelevant or excessive information should be avoided as it may confuse or mislead users. Timeliness is also essential so that information is available when it is needed.
Understandability: Financial information should be presented clearly and understandably so that users, even without an accounting background, can interpret it correctly. Important clarifications and notes (like methods of stock valuation, depreciation policies, contingent liabilities) should accompany the financial statements to enhance clarity and usefulness.
Comparability: The financial statements should be prepared consistently over time and in accordance with standard principles so users can compare results across different periods and between different businesses. This helps users evaluate trends and relative performance. For comparability to be meaningful, companies within the same industry should follow similar accounting policies for a reasonable duration.
Reliability:
Accounting information must be dependable and trusted by its users. It should accurately represent the real financial position and performance of the business, free from errors, bias, or manipulation. Reliable information reflects the actual events and values involved. The reliability of accounting information depends on several key factors:
a) Faithful Representation: The effects of all transactions and events should be fully and faithfully represented in the accounts. For example, if there are business risks or uncertainties, these must be disclosed so users understand the true financial situation.
b) Substance Over Form: The financial statements should reflect the economic reality of transactions rather than just their legal form. For instance, if an asset is legally owned by another party but controlled by the business, it should be reported accordingly.
c) Prudence: Caution should be exercised when preparing financial statements to avoid over-optimism or understatement of liabilities. Estimates and judgments should aim for the most likely outcome with reasonable accuracy.
d) Neutrality: Accounting information must be free from personal bias or influence of the preparer. For example, judgments related to stock valuation or doubtful debts must be made objectively without favoring any particular interest.
e) Completeness: All material information must be included so that users are not misled. Omission of relevant data can result in unreliable financial reports.
Relevance: Accounting information must be relevant to the decision-making needs of its users. It should help users assess past performance, evaluate the current financial status, and make predictions about future prospects. Irrelevant or excessive information should be avoided as it may confuse or mislead users. Timeliness is also essential so that information is available when it is needed.
Understandability: Financial information should be presented clearly and understandably so that users, even without an accounting background, can interpret it correctly. Important clarifications and notes (like methods of stock valuation, depreciation policies, contingent liabilities) should accompany the financial statements to enhance clarity and usefulness.
Comparability: The financial statements should be prepared consistently over time and in accordance with standard principles so users can compare results across different periods and between different businesses. This helps users evaluate trends and relative performance. For comparability to be meaningful, companies within the same industry should follow similar accounting policies for a reasonable duration.