Basics of Accounting
What is accounting?
Accounting is referred to as the process of identifying, recording, classifying, analyzing, presenting and communicating the transactions to the users. Accounting department is a very vital part of the business firm. The accounting department provides the business with the quantitative results on which the business can bank upon for assessment of its functions. Accounting is based on Double Entry System.
The accounting information is of a huge use to the outsiders as well insiders.
Some of the uses of accounting information are:
1. Directors/ Owners: The owners or the directors who manage the business keep a track of all the transactions taking place in the business. This gives them insight about the working of the business so that they can manage it properly. In case of any downfall they can prepare themselves against contingencies and vice versa.
2. Employees: Employees also need to have a proper track about the financial status of the company which is available only through the accounting system. Employees need to be assured that the company has enough funds to meet out its expenses and pay the employees their salary. This ensures the employees from insecurity regarding their job.
3. Creditors: The creditors need to have a track of the financial status of the company to ensure that the company is not bankrupt to pay its amount. They keep proper record of functions of the business which is possible only through the use of accounting information.
4. Banks: The banks require the financial information about the business so that it can keep a check so that no fault occurs in the transactions. At the same time if any loan is to be sanctioned to the business the record of accounts is to be scrutinized.
5. Investors: The investors keep a check on the accounting information so that they can see if the company is growing at a good pace so that they can invest. The investors invest amount only when they are assured of the proper returns.
6. Government: Government checks the accounts of the companies from time to time for various purposes. The taxation department also demands the detailed summary of accounts for the filing of taxes.
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The accounting procedure works on the basis of Generally Accepted Accounting Principles (GAAP) issued by US.
The basic principles are:
- Business Entity Principle
- Going Concern Principle
- Matching Principle
- Historical Cost Principle
- Monetary Unit Principle
- Conservatism Principle
- Consistency Principle
- Objectivity Principle
- Materiality Principle
- Accrual Principle
- Accounting Period Principle
The principles lay down the basics for the working of the accounting system.
The Accounting system basically follows 4 concepts:
1. Going Concern: The going concern concepts states that the business will be carried on indefinitely. The age of business cannot be predetermined. The business will go on for a foreseeable period. On the basis of this concept the expenses can be deferred for the future period and the expenses can be taken forward. Similarly, the assets are always taken up for an indefinite period and not put up for immediate sale.
2. Prudence: This principle is also known as Prudence concept. This principle adopts a narrow approach to the recording of transactions. It states that “Do not anticipate incomes but provide for all losses.” In other words, the estimated incomes must not be recorded but the expected expenses should be recorded beforehand. This prepares the business for any unforeseen contingencies.
3. Consistency: It states that all the business policies and methods of a business should remain consistent. The policies cannot be changed from time to time. These can be changed only if a better policy comes or if the statute requires such a change. The frequent changes in the policies will make it a difficult task to ascertain the position of the business. If there is any change in the policies, it must be stated separately in the balance sheet and the difference between policies must be shown using the practical application.
4. Accrual: This concept states that the business expenses should be recorded on the basis of their occurrence. They should be recorded in the year of their occurrence and must not be deferred. If an expense is incurred it must be recorded when it is incurred and not when it has been paid for in cash or any other form of payment. Similarly, the incomes must also be recorded on the same basis.
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Characteristics of Accounting are:
- It is reliable.
- It is understandable. It is presented in such a way that it could be understood b a layman.
- It is consistent in nature i.e. its policies remain the same.
- It is comparable. It provides data in numerical form which makes it feasible for the comparison purposes.
- It is unbiased. As every transaction is based on some or the other proof which leaves it with no scope of biasness.
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