Accounting seems like a complicated domain for outsiders. It is true that it can become complicated as well as complex. However, this article will mostly cover some basic accounting principles, which in most cases are clear, concise, and quite simple.
General Accounting Principles
All the following principles are generally accepted and applied. When you truly understand all of these concepts, the accounting domain seems easier to comprehend and implement. Generally accepted accounting principles are the ones described below.
The Revenue Principle Or Accounting
This is one of the main accounting principles and it is also called the realization principle. According to this, revenue is earned at the moment in which products and services are sold. In other words, a person or a company will make revenue when the product’s legal ownership is transferred from the seller to the buyer.
Therefore, you should keep in mind the fact that the simple act of collecting cash is not necessarily a process of revenue earning. Sometimes secondary accounting principles are resulting from the main ones. For example, there is the revenue recognition principle, which refers to revenue recording process. Therefore, one should only record incomes after another entity has completed the whole revenue generation process.
This is one of the accounting principles that states the following: expenses take place when a company uses products or benefits from different services. As you can see, this principle is basically the reverse of the one detailed above.
The moment when you receive certain goods or benefits from specific services is the moment when they are considered an expense. Even if it takes a couple of days or even weeks to receive the bill, the expense has already been made.
This is one of the accounting principles that is related to both expense and revenue statements. At the moment in which you recognize revenue, you have to connect related expenses with that specific revenue.
A good example to demonstrate this principle is the case of reselling inventory businesses. Therefore, your company should take into consideration expenses on the same day in which you sell specific goods. When your company applies all these three accounting principles: matching, expense, and revenue, you will get an accrual-based accounting.
This concept means you document revenue after a sale is made, and you take into consideration expenses at the moment when different products and services are received.
According to this principle, a business should document all of its assets and liabilities at their initial buying costs. However, this particular principle has been reconsidered in these last few years because equity investments should be evaluated at their fair prices.
Furthermore, the cost principle is one of the accounting principles that states the following: everything in your company’s accounting system has to be measured with consideration to historic costs. This was the initial understanding of this principle and it is still applied nowadays. Even if some of your assets, for example, a building, may change their values over the years, you will record them at their original price.
This is a very important accounting principle when it comes to morals and ethics. The objectivity principle states that all accounting reports and documents should contain honest, reliable, and verifiable data. Therefore, all accountants have to be as objective as possible, no matter the situation.
Even if the numbers are not the ones that you would like them to be, you should not try to change or adjust them in any way. Always use the real data, no matter how bad it looks.
Due to this principle, an accountant can violate another principle such as matching statement, as long as the total amount is situated among insignificant levels. However, not everyone can decide what is immaterial or not. This decision must be made by the judgment of experienced professionals.
For example, let’s say that a big powerful multinational company, which usually has high levels of revenue, purchases a computer that costs 200 dollars, with the purpose of using it for a maximum period of five years. Due to the materiality principle, the company can document the entire expense in the same year in which they purchased the product. The main justification of this method is that the cost is small and there are no further implications or consequences of categorizing the costs as an expense from the first year.
Full Disclosure Principle
This is one of the accounting principles that states the following aspect: in the moment in which a specific information is valuable to an investor or even a lender, that particular data should be disclosed, following the accounting statements. This is a basic principle when it comes to accounting. The full disclosure principle is the reason why you, sometimes, see many additional pages attached to a main financial document.
Growing Concern Principle
This is an interesting accounting statement. It assumes that a business will continue functioning a long-enough time to fulfill all its goals and commitments. Therefore, this principle states that a company will not liquidate shortly after its start-up.
This assessment is kept private until the moment in which an accountant sees proofs of the fact that the business cannot continue working properly. After this moment, the accountant is asked to fully disclose this principle.
Among the accounting principles is the unit-of-measure assumption, which states that a company should use the local unit of measure. For example, all United States companies should register their expenses and revenues using the U.S. dollar.
Through times of inflation or even deflation, a business purchasing unit could change its buying power. This principle also states that these kind of situations are normal and they should also be reflected in the accounting system.
Separate Entity Assumption
This is a very simple principle. It demonstrates that a company’s entity is treated separately from its owner. Furthermore, a partnership is viewed separately from the people who own the business. In other words, a business is seen as something independent from its proprietors.
To conclude, whether you are a business owner or a specialized accountant, it is good for you to know, understand, and properly apply all accounting principles. These statements regulate the way that companies make transactions.