Accounting & Its Basic Concepts: A Beginner’s Guide
The subject of double entry accounting is based on debit and credit and categorizes accounts into real, personal, and nominal types. Accounting is governed by the three golden rules that first ascertain the account type. Each account comes with its own rule which has to be applied to the account when a transaction is made.
With real accounts involving land & buildings, machinery, etc., inflows are debited while outflows are credited. In case of personal accounts, the receiver gets debited while the giver is credited; and with nominal accounts, all losses and expenses are debited while all gains and income are credited.
Basic Concepts of Accounting
Accounting is based on certain concepts that explain how an accounting system works. These are as follows:
- Accruals concept: Earned revenues are recognized while expenses are acknowledged with the consumption of assets. This concept implies that a business may identify its sales, losses, and profits based strictly on cash received or paid by the business. Auditors only certify those financial statements that are prepared according to the accruals concept.
- Consistency concept: When a business uses a particular accounting method, it must continue using it so that financial statements prepared over multiple periods are reliably and easily comparable.
- Conservatism concept: Here, revenues and expenses are recognized only when they are sure to be realized or incurred, respectively, in future.
- Going concern concept: This concept entails that financial statements be prepared assuming that the business shall continue to function in future. Thus, revenues and expenses recognition are deferred to future time slots, when the business is still expected to operate. Otherwise, all expenses are recognized in the current period.
- Economic entity concept: A business’s transactions are separate from those done by its owners. This prevents unnecessary mixing of business and personal transactions in the company’s financial reports and statements.
- Materiality concept: Any transactions needs to be recorded as and when it occurs. Otherwise, it might lead to alterations in decisions to be made by outside parties when they consider doing business with the company. This also ensures that the company’s financial statements clearly state its financial position as also cash flows.
- Matching concept: Both revenues and expenses should be recognized simultaneously so that expense recognition cannot be deferred to reporting periods later. This also ensures prompt recording of all financial transactions, no matter how trivial or small.