Accounting: Introduction
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Accounting:Introduction
Ch 1 Introduction of Accounting
1.1 Characteristics of Accounting
- Identification involves event transactions as business and monetary.
- Measure refers to the fact that transactions are measured.
- Recording involves entries in the journal or subsidiary books.
- Classification involves posting in accounts, specifically the ledger, and closing accounts.
- Summarising involves the trial balance and financial statements, which include the profit and loss account, the balance sheet, and cash flow statements.
- Analysis and interpretation includes analysis, which is concerned with the establishment of relationships between various items taken from the financial statement, using tools like ratio and funds flow statements. Interpretation is concerned with explaining the meaning and significance of the relationship established by the analysis.
- Communication of accounting information is for users. Internal users include owners, management, and employees, while external users include future investors, banks, creditors, customers, the public, government authorities, and researchers.
1.2 Accounting : Mean & Definitions
Image summary: A flow chart titled Procedure of Accounting. It shows an initial division between Generating financial Information and Using the financial information. Generating financial information leads to recording, classifying, summarising, analyzing, interpreting, and communicating. These activities feed into a transaction identification process and an Accounting Cycle consisting of input, the accounting cycle itself, and output. The accounting cycle steps are recording transactions in the book of original entry, posting to the ledger, preparation of trial balance, and preparation of final accounts. The output is communicating information to internal users, such as the board of directors, partners, managers, and officers, and external users, such as investors, lenders, suppliers, government agencies, and customers.
- Mean.
- Accounting is a systematic process of recording, classifying, summarising, analysing and interpreting the financial transactions and communicating the results to the users thereof.
- The users of accounting information include internal and external users.
- It gives information on.
Definitions of Accounting
- The resource available.
- How the available resources have been employed.
- The results achieved by their use.
- It shows the profit earned or loss incurred during the Accounting Period.
- It shows the value and nature of Assets, Liabilities and Owner's Equity.
- Definitions.
- According to the American Accounting Association in 1966, accounting is the process of identifying, measuring and communicating economic information to permit informed judgments and decisions by users of the information.
- According to the American Institute of Certified Public Accountants in 1961, accounting is the art of recording, classifying and summarizing in a significant manner and in terms of money, transactions and events which are, in part at least, of a financial character, and interpreting the results thereof.
- According to Smith and Ashburne, accounting is the science of recording and classifying business transactions and events, primarily of a financial character, and the art of making significant summaries, analyses and interpretations of those transactions and events, and communicating the results to persons who must make decisions or form judgments.
- According to the Accounting Principle Board of AICPA in 1970, the function of accounting is to provide quantitative information, primarily of financial nature, about economic entities, that is needed to be useful in making economic decisions.
1.3. Objective of Accounting
- Maintaining Accounting Records or Systematic Recording.
- Determination of Profit and Loss.
- Determination of Financial Position, including Assets and Liabilities.
- Fourth, Communicating Accounting Information.
- Fifth, Protecting Business Assets.
An overview of objectives of accounting is depicted in the chart given below.
Image summary: A hierarchical flow chart shows the objectives of accounting. At the top is Objectives of Accounting, which branches down into four main areas: Systematic Recording of Transactions, Ascertainment of Results, Ascertainment of Financial Position, and Communicating Information to various Users. These further lead to specific outputs: Book-keeping Journal, Ledger and Trial Balance; Manufacturing, Trading, Profit and Loss Account; Balance Sheet; and Financial Reports respectively.
1.4. Function of Accounting
- One, Maintaining Systematic Accounting Records.
- Two, Preparation of Financial Statements, also known as Final Accounts.
- Three, Meeting Legal Requirement.
- Four, Communicating Accounting Information.
- Five, Assistance to Management in Decision Making.
Or
- One, Measurement.
- Two, Forecasting.
- Three, Decision-making.
- Four, Comparison and Evaluation.
- Five, Control.
- Six, Government Regulation and Taxation.
1.5. Advantage of Accounting
- Financial Information of Business.
- Replace Memory.
- Assistance to Management.
- Facilities.
- On Comparative study, it helps from Self's Previous Final Accounts or Same industry Firm's Current Final Account.
- Settlement of tax Liabilities for Gst.
- Loans are provided on the basis of Credit ability and growth potential of businesses, which is supported by the performance.
- Evidence in Court.
- Sale of Business to get proper Purchase Price.
- Assistance in the Event of Insolvency.
Insolvency proceedings involve explaining many transactions that have taken place in the past.
- Helpful in Partnership Accounts.
It provide the basis to reach a settlement.
- At the time of Admission, Death, and Retirement of a partner.
- In case of dissolution of the firm.
1.6. Limitations of Accounting
- Not Fully Exact. Transactions are recorded based on Evidence, yet few places are Estimated, for example, Estimate life of Assets and Providing for Doubtful Debts or Net Realisable Value of Closing Stock.
- Unrealistic Concept. Accounts at Historical Cost, Estimation of Useful life, and so on.
- Ignore Qualitative Aspect of Business.
- Ignore Effect of Price Level Changes like inflation.
- Lead to Window Dressing. It means manipulation of accounts in a favourable Financial Situation for the owner.
- Certain accounting Estimates depend on the sheer personal judgments of the accountant.
1.7. Bookkeeping & Accounting & Accountancy
1.7.1. Book Keaping
- It is the primary stage of accounting.
- It deals only with the recording of financial transactions in books of original entry, such as the journal, cash book, and sales register.
- The focus is on how to write transactions properly.
- The objectives are the complete recording of transactions and the ascertainment of financial effect on the business.
According to R. N. Carter, bookkeeping is the science and art of correctly recording in the books of account all those business transactions that result in transfer of money or money's worth.
J.R. Batliboi defines bookkeeping as an art of recording business dealing in a set of books.
A.N. Rosen Kampff defines bookkeeping as an art of recording business transactions in a systematic manner.
1.7.2 Accounting
- Accounting is a broader process than book-keeping.
- It includes recording, classifying, summarizing, analyzing, and interpreting financial data.
- It produces financial statements, such as the Profit and Loss statement and the Balance Sheet.
- The focus is on how to use recorded transactions for decision-making.
Definition (AICPA)
Accounting is the art of recording, classifying and summarizing in a significant manner and in terms of money, transactions and events of a financial character, and interpreting the results thereof.
1.7.3. Accountancy
- It is the overall body of knowledge, principles, concepts, conventions, and rules that govern accounting practices.
- It is broader than accounting, as it provides the theory, framework, and systems for accounting.
- Its focus is on why and under which rules we prepare accounts.
Definition: Accountancy refers to the systematic knowledge of accounting which explains why and how to apply accounting principles.
Definition (Kohler): Accountancy refers to the entire body of the theory and practice of accounting.
Difference between Book-keeping & Accounting
Image summary: A nested diagram shows the relationship between three fields. At the center is Book Keeping, which is contained within Accounting, which in turn is contained within the broadest category, Accountancy. This illustrates that book keeping is a subset of accounting, and accounting is a subset of accountancy.
A table compares book-keeping and accounting across five bases.
- Regarding scope, book-keeping is narrow and only involves recording transactions, while accounting is broader, encompassing recording, classifying, summarizing, interpreting, or summarizing the recorded transactions.
- In terms of nature, book-keeping is mechanical or clerical work, whereas accounting is analytical and interpretative.
- The objective of book-keeping is to maintain a systematic record of transactions, while the objective of accounting is to ascertain profit or loss and the financial position.
- In terms of stage, book-keeping is the primary stage of the accounting process, and accounting is the next stage, beginning where book-keeping ends.
- For skills required, book-keeping requires basic knowledge, while accounting requires higher knowledge, judgment, and analysis.
Difference in Simple Table
Reports prepared include Journal, Ledger, and Trial Balance, as well as Profit and Loss Account, Balance Sheet, and Cash Flow Statement.
Image summary: A table compares Book-keeping, Accounting, and Accountancy. Book-keeping has the narrowest scope, focusing on recording transactions with examples like the Journal and Ledger. Accounting has a broader scope, involving recording, summarizing, and analyzing, with examples such as the Profit and Loss Account and Balance Sheet. Accountancy has the broadest scope, involving the principles and frameworks that guide accounting, such as GAAP and Accounting Standards.
1.8. Accounting Process
- First, financial transactions occur.
- Second is recording in the journal.
- Third is classifying by posting into the ledger.
- Fourth is account closing.
- Fifth is the trial balance.
- Sixth is the rectification of error.
- Seventh is the adjusted entry.
- Eighth is the financial statement.
- Ninth is analysis and interpretation.
- Tenth is communication.
1.9. System of Accounting
One point nine point one, Cash System of Accounting.
- The definition is that transactions are recorded only when cash is received or paid.
- It is used by small businesses, individuals, or entities like N.G.O's and trusts.
- Features include that it is simple and easy to maintain.
- There is no record of receivables or payables.
- It is not suitable for large organizations.
- For example, if a sale is made on August first but payment is received on August tenth, it is recorded on August tenth.
One point nine point two, Accrual or Mercantile Accounting System.
- The definition is that transactions are recorded when they occur, regardless of when cash is received or paid.
- It is used by most businesses, especially large ones.
- Features include that it reflects the true financial position.
- It includes receivables and payables.
- It is required under most accounting standards, such as GAAP and I.F.R.S.
- For example, if a sale is made on August first, it is recorded on that date even if payment is received later.
One point nine point three, Hybrid Accounting System.
- The Hybrid System of Accounting is a combination of both the Cash System and the Accrual System.
- It allows businesses to record certain transactions on a cash basis and others on an accrual basis, depending on their needs and preferences.
- Revenue is recorded on a cash basis when cash is received.
- Expenses are recorded on an accrual basis when they are incurred.
Or vice versa, depending on the specific policy chosen by the organization.
- Regarding who uses it, this includes freelancers and professionals, such as doctors, lawyers, and consultants.
- It is also used by small business owners.
- And N.G.O's, where regulatory requirements allow.
1.9.4. Single Entry System
Only one side of each transaction is recorded, usually cash or personal accounts. This is an incomplete system used by very small businesses.
1.9.5. Double Entry System
- Every transaction affects two accounts, a debit and a credit.
- This system is based on the accounting equation: Assets equal Liabilities plus Capital.
- It is accurate and complete, and it is globally accepted.
1.9.6. Indian Mahajani Accounting System
- The Mahajani Accounting System is a traditional Indian accounting system used primarily by traders, moneylenders, and businesses in villages and small towns.
- It is still found in parts of Rajasthan, Gujarat, Uttar Pradesh, and Madhya Pradesh, especially among banias, sahukars, and small shopkeepers.
- This system is one of the oldest systems in the world.
- This system is completely scientific and is based on a double accounting system.
- In this system, accounts are written in Hindi in long folded red ledger books.
1.10. Branch of Accounting
- Section 1.10.1 covers Financial Accounting. Its purpose is to record, summarize, and report business transactions.
- The key outputs are Financial Statements, including the Balance Sheet, Profit and Loss Account, and Cash Flow.
- The users are external stakeholders such as investors, creditors, and government.
- The basis is following accounting standards like GAAP or I.F.R.S.
- Section 1.10.2 covers Cost Accounting. Its purpose is to calculate and control the cost of production or services.
- Key concepts include costing methods, cost control, and break-even analysis.
- The users are internal, mainly management.
- The focus is on cost efficiency and pricing decisions.
- Section 1.10.3 covers Management Accounting. The purpose is to provide financial and non-financial information to assist in managerial decision-making.
- Tools used include budgeting, forecasting, variance analysis, and K.P.I reports.
- The users are only internal management.
- The goal is strategic planning and control.
- Section 1.10.4 covers Human Resource Accounting, or H.R.A. It is the process of identifying, measuring, and reporting the value of human capital, including employees, in the financial statements of an organization.
- The objectives of H.R.A are as follows:
- First, to measure the cost of acquiring, training, and developing employees.
- Second, to help management make better decisions related to human resource planning.
- Third, to show the true profitability and efficiency of an organization.
- And fourth, to highlight the value of human resources in business growth.
Inflation Accounting (Devanagari text)
- Definition: A method of adjusting financial statements for inflation to reflect the real value of money during changing price levels.
- The purpose is to avoid distorted profits and asset values during inflation and to reflect the true financial position.
- Inflation accounting is used in countries with high inflation and for long-term asset-heavy businesses.
- The methods include Current Purchasing Power, also known as C.P.P, and Current Cost Accounting, also known as C.C.A.
Responsibility Accounting (Devanagari text)
- Definition: A system of accounting where costs and revenues are assigned to managers or departments, known as responsibility centers, who are responsible for them.
- The purpose is to measure managerial performance and assist in budgetary control.
- Responsibility Centers include the Cost Center, which controls only costs; the Revenue Center, which is responsible for revenues; the Profit Center, which is responsible for both; and the Investment Center, which is responsible for profits and assets.
1.10.7. Environmental Accounting (Devanagari text)
- The definition of environmental accounting includes the costs and benefits related to the impact of business activities on the environment.
- The purpose is to help in sustainability reporting and to track pollution control, waste management, and resource use.
- Tools used include environmental costs accounting, green reporting, and carbon footprint analysis.
1.10.8. Segment Accounting (Segment Reporting)
- The definition of segment accounting is the reporting of financial information separately for different divisions or segments of an organization.
- The purpose is to evaluate the performance of each business unit and to comply with legal requirements in many countries for listed companies.
- Common segments include geographical segments, such as India, the U.S, and Europe; product-wise segments, such as F.M.C.G and pharmaceuticals; and service-wise segments, such as banking and insurance.
1.10.9. Value Added Accounting
- Definition:
- This focuses on the value created by a business, calculated as the difference between output and input, such as sales minus purchased goods and services.
- The purpose is to show how value is distributed to employees, government, shareholders, and others. It is used in Value Added Statements.
- The formula is: Value Added equals Sales minus the cost of bought-in goods and services.
1.10.10. Economic Value Added (eva)
- The definition is a performance measure that shows whether a company is creating real wealth for its shareholders.
- The purpose is to help in value-based management and to measure economic profit, rather than just accounting profit.
- The formula is: eva equals NOPAT minus the product of Capital Employed and Cost of Capital.
In this formula, NOPAT is the Net Operating Profit After Tax, and the Cost of Capital is the minimum return expected by investors.
Image summary: A summary table compares different accounting focus areas with their main benefits. Inflation Accounting adjusts for price level changes to show the real value of money; Responsibility Accounting provides manager-wise cost and revenue control for performance evaluation; Environmental Accounting tracks environment-related costs and actions for sustainability and compliance; Segment Accounting provides unit-wise or region-wise reporting for transparency and unit performance; and Value Added Accounting measures wealth creation for value distribution insight.
Economic Value Added
- Economic profit over cost of capital.
- Shareholder value measurement.
- Under Auditing, the purpose is to verify the accuracy and fairness of financial statements.
- Types include Internal Audit, done by company staff, and External Audit, done by independent auditors.
- Users include government, shareholders, and regulatory authorities.
- For Forensic Accounting, the purpose is to detect frauds, embezzlement, and financial crimes.
- It is used by law enforcement, courts, and investigation agencies.
- The focus is on legal evidence and dispute resolution.
- For Government Accounting, the purpose is to manage public funds and government budgets.
- It is used by central, state, and local government bodies.
- The system is usually cash-based or fund-based accounting.
- For Social Responsibility Accounting, also known as Social Accounting, the purpose is to measure and report on a company's social and environmental impact.
- This includes sustainability reporting and C.S.R reporting.
- Users include the public, N.G.O's, and investors.
Accounting Information
Accounting is a service activity. Its function is to provide qualitative information, primarily financial in nature, about economic entities that is intended to be useful in making economic decisions, according to the Accounting Principle Board.
- Section 1.11.1 covers types of accounting information, which include profit or surplus, financial position, and cash flow.
- Section 1.11.2 outlines the qualitative characteristics of accounting information: reliability, which means it is verifiable and free from bias and material error; relevance for the decision-making of users; understandability; and comparability, which involves comparing financial statements between intra-firm or self-firm and inter-firm or other firm contexts.
- Section 1.12 discusses the users of accounting information, noting that there are internal users and external users.
- In section 1.12.a, internal users are described. For example, owners use this information to decide whether a business is to run or not, based on profit and loss and the business financial position. Additionally, management and employees use this information for decision-making and policy making.
- For job security, bonus, and so on.
1.12.b. External Users
Potential investors want to know if it will invest in business or not.
Regarding the creditability of business, is the business able to repay the loan or not?
Regarding the creditability of business, is the business able to repay the credit purchase amount or not?
For ethical purposes.
For research purposes.
For industry policy making.
For taxation.
For ethical purposes.
1.12.4. Future Investor
1.12.5. Bank
1.12.6. Creditor
1.12.7. Public
1.12.8. Researcher
1.13.9. Government Authority
1.12.10. Customer
Accounting Terms
Ch 2 Accounting Terms
- First, let's discuss the Entity, which is an economic unit that performs economic activities.
Image summary: A table comparing types of entities. Business entities, such as Tata Limited Company and Cello Limited Company, have the objective of earning profit. Non-business entities, such as Ranjan Trust and Tata Charitable Trust, focus on the welfare of society and do not aim to earn profit.
Second, we have Business Transactions. The term transaction is used to mean a business, the performance of an act, or an agreement, while an event is used to mean a happening that occurs as a consequence of transaction or transactions, and as a result.
- Regarding Business Transactions, there are two types. First, a financial transaction or economic event is entered into by two parties that initiates the accounting process of recording. Second, a financial event is expressed in terms of money, which brings change in the financial position of an enterprise.
- The characteristics of business transactions include having a financial value, being supported by source documents, bringing change in the financial position, having an effect on the accounting equation, and having a dual aspect.
Image summary: A simple table highlighting that business transactions are defined by their relationship with the accounting unit and the mode of settlement of value.
Accounting Basics
Image summary: A table comparing transaction types. It lists Internal Transactions or Accounting Transactions, External Transactions or Business Transactions, Cash Transactions, and Credit Transactions, providing examples such as depreciation on fixed assets for internal transactions, and cash or credit purchases for others.
- Section 3 focuses on the Account.
- An account is a record of transactions under a particular head of Account.
- It includes both Debit and Credit entries.
- It shows the amount of the transaction and its effect and direction.
Image summary: A T-account diagram for a Capital Account. It is split into a Debit side and a Credit side, each with columns for Particulars and Amount, showing a structured way to record increases and decreases in capital.
- Section 4 defines the Owner.
- An owner is a person who owns the business and bears all the risk associated with the business.
- Section 5 explains Capital.
- Capital is the claim of the owner or proprietor in the business.
- It is the claim of an amount against the entity or enterprise by the owner.
- It is the amount invested in an enterprise by the proprietor.
Investment and Capital
- Investment forms include cash, bank, and assets, or anything that has monetary value.
- The business is treated as separate from its owner.
- Capital is also known as Owner's Equity or Net Worth.
Capital equals Assets minus Liabilities.
Image summary: A table shows business types and their corresponding owner titles. Sole Proprietorships have a Proprietor, Partnership Firms have Partners, and Companies have Shareholders.
Image summary: A small table explains capital changes. Capital increases with additional capital and profit earned, while it decreases with the withdrawal of capital or when a loss is incurred.
6. Drawings
- Drawings are amounts, goods, or assets taken by the proprietor for personal use.
Image summary: A table defines the value of drawings. Goods are valued at their purchase price, and assets are valued at book value or transfer price.
- Drawings reduce the investment.
7. Liabilities
- Claim of amount against the entity or enterprise.
- Amount owed, or payable, by the business.
- Company Act 2013 Schedule 3.
- Internal Liabilities are liabilities towards the owners of the business.
- External Liabilities are liabilities towards the outsider.
- Further Classification includes:
- Non Current Liabilities are payable after 12 months from the date of the balance sheet.
- Current Liabilities are payable within 12 months from the date of the balance sheet.
8. Assets
- Economic resources of the entity which will give benefit in the future.
- Company Act 2013 Schedule 3.
- Assets are classified into:
- Non Current Assets, which include Fixed Assets.
- Fixed Assets consist of Tangible Assets and Intangible Assets.
- Current Assets.
- Fictitious Assets.
Receipt
9. Expenditure
10. Revenue
- Unearned Income or Advance Income.
- Accrued Income.
Accounting Terms
- Outstanding Expense.
- Prepaid Expenses.
- Eleven, Expenses.
- Twelve, Income.
- Thirteen, Profit.
- Fourteen, Gain.
- Fifteen, Loss.
- Sixteen, Purchase and Purchase Return.
- Purchase is the purchase of goods for resale or raw material for manufacturing of goods.
- Purchase Return refers to goods purchased that may be returned to the seller for any reason.
- Seventeen, Sales and Sales Return.
- Sale is the sale of goods.
- Sale Return refers to goods sold when returned by the purchaser.
- Eighteen, Revenue from Operation.
- Amount received or receivable from the sale of goods and or service or both.
- Revenue earned by an enterprise, such as a firm or company, from its operating activities.
- Net Sale of Return.
- Nineteen, Goods and Stock.
- Goods purchased for resale or manufacturing products, also known as stock in trade.
- Stock or Inventory refers to goods remaining unsold or unused in manufacturing of product as on a particular date.
- It is a current asset.
- Stock may be categorized as Opening Stock and Closing Stock.
- Opening Stock is the stock in hand at the beginning of the accounting year or stock in hand at the end of the previous accounting year.
- Closing Stock is the stock in hand at the end of the current accounting period.
- Stock may be of the following kinds: Stock of Goods, which in the case of a Trading concern comprises stock of goods remaining unsold; Stock of Work in Progress, which is in the process of being finished; and Stock in Raw Materials, which is used for manufacturing of goods lying unused.
20. Trade Receivables
This is the amount receivable against sales of goods and or service.
The definition is according to Companies Act 2013 Schedule Three.
T.R. is the sum of Total Debtors and Total B.R.
Debtors are persons or entities to whom goods are sold and or services rendered on credit, whether oral or on credit.
Bills Receivable are acceptances, such as a Bill of Exchange, received from a debtor, written on credit.
21. Trade Payable
This is the amount payable against purchase of goods and or service or both.
The definition is according to Companies Act 2013 Schedule Three.
T.P. is the sum of Total Creditor and Total B.P.
Creditors are persons or entities to whom an amount is payable against purchase of goods and or services on credit, whether oral or on credit.
Bills Payable are acceptances, such as a Bill of Exchange, given to a debtor, written on credit.
22. Cost
- This includes expense on purchasing and or manufacturing goods.
- This also includes amount of expenditure incurred on or attributable to a specific article, product or activity.
Voucher
- Evidence of a transaction having taken place.
- Types include source documents, which are evidence of business transactions, such as cash memos, invoices, or bills, and accounting vouchers, which are prepared from the source vouchers showing the account heads for debit and credit.
Discount
- A reduction in the price of goods sold or in the amount by or the seller to the purchaser.
- This is allowed by the seller and received by the purchaser.
- Types of discounts include trade discount, which occurs when purchasers buy goods of a certain quantity; cash discount, which is due to timely payment or to promote cash payment; and rebates, which are due to poor quality.
Bad Debts
- The amount owed to the business is written off because of it becoming irrecoverable.
Balance Sheet
- A statement of balance of assets and liabilities.
Book Value & Market Value
- Book value is the value of assets as existing in the book of account.
- Market value is the value of assets in the market.
Books of Account
- Books in which transactions are recorded or transferred.
- These include the Journal and Ledger.
Debit & Credit
- The left side of an account is the debit side.
- Cr. refers to the right side of an account, which is the Credit side.
- Item 30, Depreciation, is the decrease in book value of an asset due to its use or efflux of time or obsolescence.
- Due to the use of fixed assets, the value of these assets decreases every year; this fall in value is called Depreciation.
- Item 31, Entry, is the recording of business transactions in the book of account.
- Item 32, Solvent and Insolvent. Solvent refers to a person or entity unable to pay his or its debts.
- Insolvent refers to a person or entity who is in a position to pay his or its debts.
- Item 3, Financial Statements or Final Account, are statements prepared at the end of the accounting period to determine Financial Performance and Financial Position.
Theory Base of Accounting
Ch 3 Theory Base of Accounting
Section 3.1 covers Fundamental Accounting Principles.
Section 3.1.1 explains the meaning of accounting principles. Accounting principles are the basic rules, guidelines, and standards that govern how financial transactions are recorded, classified, and reported in the books of accounts.
They act like the grammar of accounting, ensuring that everyone records and interprets financial information in the same way.
- Key points about accounting principles include that they provide a framework for preparing financial statements.
- They ensure uniformity, consistency, and comparability of accounting records.
- They are based on two things: accounting concepts, which are fundamental assumptions such as going concern and money measurement, and accounting conventions, which are practices developed through customs such as conservatism and consistency.
- Together, these form the basis of Generally Accepted Accounting Principles, or GAAP.
Section 3.1.2 outlines the characteristics of accounting principles in short.
- One, they are universally accepted and followed by all for uniformity.
- Two, they are consistent and applied regularly over time for comparability.
- Three, they are relevant and provide useful financial information for decision making.
- Four, they are reliable and objective, based on evidence and not personal bias.
- Five, they are practical and can be applied in real business situations.
- Six, they are flexible and can evolve with changes in business and law.
- Seven, they are simple and easy to understand and apply.
- Eight, they are feasible.
- Nine, they are made by humans.
Section 3.1.3 discusses the difference between accounting concepts and accounting conventions in simple terms.
Concepts are the basic rules, which are the theory of accounting. Conventions are the practices based on customs, which are the practical usage of accounting.
Image summary: A table compares basic concepts and conventions of accounting across six dimensions: meaning, nature, objective, authorities, examples, and application. The main takeaway is that concepts represent the theoretical, compulsory foundation of accounting, while conventions are practical, generally followed guidelines evolved from usage.
- First, the Business Entity Principle states that the business is treated as separate from its owner.
- Personal transactions of the owner are not mixed with business accounts.
- The owner is treated as a creditor.
Accounting Principles
- Only transactions that can be expressed in monetary terms are recorded.
- Non-financial factors, such as employee skill and reputation, are not shown in the books.
- The Money Measurement Principle is the second principle.
- It is assumed that the business will continue operations in the foreseeable future.
- Assets are recorded at cost, rather than liquidation value.
- The third principle is the Going Concern Principle.
- Assets are recorded at their original purchase price, not their current market value.
- The fourth is the Cost Principle, also known as Historical Cost.
- Every transaction has two aspects: Debit and Credit.
- Lucas Pasiouli van Italy, a mathematician from 1494, is considered the Father of Modern Accounting.
- This forms the basis of the double-entry accounting system.
- The fifth principle is the Dual Aspect Principle.
- The life of a business is divided into time periods, such as monthly, quarterly, or yearly, for reporting purposes.
- The sixth principle is the Accounting Period Principle.
- Revenue is recorded when it is earned, which is not necessarily when cash is received.
- This can happen at the time of receipt of a customer order.
- The seventh principle is the Revenue Recognition or Realisation Principle.
Accrual Concept, Matching Principle, Full Disclosure Principle, Materiality Principle, and Consistency Principle
- Revenue is recognized at the time of delivery of goods to the customer or at the time of receipt of payment from the customer.
- There are exceptions, such as the recognition of revenue on completion of production like gold, in the case of long term contracts where revenue is recognized before completion of production, and in cases of uncertainty of income received like goods payments in installments, where revenue is recognized when all installments are received.
- According to the accrual concept, transactions are recorded when they occur, not when cash is received or paid.
- Income is recognized when earned and expenses are recognized when incurred, regardless of actual cash flow.
- This gives a true and fair view of profit and financial position.
- Under the matching principle, expenses should be matched with the revenues they help to generate in the same accounting period.
- The full disclosure principle states that all significant financial information must be disclosed in financial statements.
- Regarding the materiality principle, only items that are significant enough to affect decisions need to be recorded or disclosed.
- For example, tools are not treated as fixed assets but are treated as current assets.
- Finally, there is the consistency principle.
- The same accounting methods should be applied from one period to another for comparability.
13. Conservatism (Prudence) Principle
- When in doubt, record expenses and liabilities earlier, but recognize revenues only when certain.
- Examples include Provision of Doubtful Debt and Stock Value on Market cost.
- Do not anticipate profits, but provide for all losses.
14. Conventions of Observation of law
- Meet current legal requirements.
B.Com. Accounting Standards: Development and Growth.
1. Mean and Characteristics of I.F.R.S
- I.F.R.S is a worldwide accepted single set of accounting standards, that is a series of procurement issued by I.A.S.B explaining how various types of business transactions and events should be reported in a Financial Statement.
- It also includes guidelines and interpretations approved by I.A.S.B.
- The I.F.R.S objective is to provide International Concepts and Comparison at a Global Level.
Features:
- It is Principle Based Accounting, not Ruled Base Accounting.
- It is drafted in a simple and clear language and is easy to understand and applicable.
- It is emphasized that the accounting treatment of various transactions should be based on their economic substance rather than their legal form for instance.
- Under the I.F.R.S:
2. Need for I.F.R.S & Ind A.S
- Easy access to world level capital markets.
- Lower cost of raising funds.
- Easy comparison at Global Level.
- The true and fair valuation of assets and liabilities.
- Better quality of financial reporting.
- Reliable Information.
- Difficulty to commit errors and fraud.
- Avoidance of multiple reports.
3. Benefits Indian Accounting Standards.
- Benefit to Economy: Encouragement of flow of foreign capital into the country.
- Transparency and Comparability.
- Benefits for Investor.
- Easy access to the Global Capital Markets.
- Lower cost of Capital.
- Beneficial for Industries.
- Eliminate Multiple Reports.
- Beneficial for companies.
- Beneficial for accounting professionals.
- Beneficial or new markets.
4. Procedure of Adoption and Conversion of I.F.R.S
There are two alternative procedure available to accounting for compliance and implementation of I.F.R.S Namely
- Adoption.
Convergence
Meaning of Adoption:
- Accepting and Endorsing an I.F.R.S in its Original Form.
- It does not permit any change in the language or formats of I.F.R.S framed by the International Accounting Standards Board.
Meaning of Convergence:
- To achieve harmony or coordination with International Financial Reporting Standards. It will not be accepted I.F.R.S in toto.
- Concerned countries can change their Accounting Standards as per legal socio and economic environment.
- India decided to converge, but not fully adopt, I.F.R.S from 2015 to 2016.
- Convergence by the Accounting Standards Board. This was approved by the Council of the Institute of Chartered Accountants of India and notified by the Ministry of Corporate Affairs as Indian Accounting Standards.
- Indian Accounting Standards are I.F.R.S-converged standards.
Process of implementing and Convergence of I.F.R.S
Image summary: A table listing Indian Accounting Standards and their corresponding International Accounting Standards. It shows the mapping between specific Ind AS numbers and their IAS counterparts, such as Ind AS 1 mapping to IAS 1 for the Presentation of Financial Statements.
Challenges for the adoption of Ind A.S
Image summary: A table maps Indian Accounting Standards, known as Ind AS, to their corresponding International Accounting Standards, IAS, and International Financial Reporting Standards, IFRS. The table lists various standards covering topics such as Related Party Disclosures, Business Combinations, and Leases, showing the direct alignment between Indian and international standards.
- The first challenge is the Conceptual Problem.
- I.F.R.S provides flexibility in the preparation of Financial Statements.
- Ind A.S provides flexibility in terms of the legal, social, and economic environment. They are rule based and the choice of reasonable judgments is absent.
Short Notes
- Statutory and Legal Requirements: under Ind A.S, legal requirements get priority or preference over investors' needs.
- Structure: I.F.R.S provides a wide framework for financial reporting where clear guidelines for setting standards have been provided.
- True and Fair Concept: I.F.R.S uses a fair value concept, while Ind A.S uses historical cost.
- Presentation according to International Accounting Standards 1.
In addition to the above, the following points must also be seriously considered for the proper implementation of Ind A.S: communication, training, taxes, information system, and distribution profits.
Accounting standards are guidelines that regulate how financial transactions should be recorded, presented, and disclosed. Their development has taken place gradually to improve comparability, transparency, and reliability of financial statements.
- In the early stage before the 1970s, there was a need for standards because before formal standards existed, companies used different accounting methods, leading to manipulation.
- A lack of uniform rules caused inconsistency and confusion.
- Investors, lenders, and regulators demanded more reliable reporting. This created the need for standardised principles.
- This leads to the birth of accounting standards in the 1970s.
During the 1970s, many countries realized the importance of common rules.
Internationally, the International Accounting Standards Committee was formed in England in 1973.
- It issued International Accounting Standards.
- The aim was to develop global standards for consistency across countries.
In India, the Institute of Chartered Accountants of India formed the Accounting Standards Board in 1977.
- The purpose was to develop and issue accounting standards suitable for the Indian environment.
3. Development Phase (1980 to 2000)
Globally, many International Accounting Standards were issued.
- Countries began adopting or aligning their national standards with these international standards.
In India, the Institute of Chartered Accountants of India issued Accounting Standards one through twenty-nine.
- The Companies Act made several standards mandatory.
- This led to improved transparency and corporate governance.
4. Major Transformation - I.F.R.S Era (2000 onwards)
Internationally, the International Accounting Standards Committee was replaced by the International Accounting Standards Board in 2001.
- The board introduced International Financial Reporting Standards.
- International Financial Reporting Standards became the global benchmark.
More than one hundred and forty countries have adopted these standards.
Why was the International Financial Reporting Standards needed?
- It was needed due to the globalization of business.
- There was a need for common reporting rules across countries.
Growth of Accounting Standards in India Ind A.S (2015 onwards)
- Easier comparison for global investors.
- India decided to converge, though not fully adopt, I.F.R.S from 2015 to 2016.
- The Ministry of Corporate Affairs notified Ind A.S, which are the Indian Accounting Standards.
- Ind A.S are I.F.R.S-converged standards.
These are mandatory for:
- Listed companies.
- Companies with net worth above 250 crore rupees.
- Banks, Non-Banking Financial Companies, and insurance companies, which are being phased in.
The impact includes:
- Better comparability with global companies.
- More transparent financial reporting.
- Improved investor confidence.
Present Scenario
Today India has two sets of standards:
- Large and listed companies use Ind A.S.
- Small and medium companies use A.S Revised.
Future Growth
- Increasing adoption of I.F.R.S worldwide.
- More digital reporting using X.B.R.L.
- Better focus on sustainability reporting, including I.F.R.S S.1, S.2, and E.S.G standards.
- Greater international harmonisation.
Before 1970, there were no uniform rules, so no need was felt.
In 1973, the I.A.S.C was formed and International Accounting Standards were introduced.
In 1977, the Accounting Standards Board was formed in India and the Accounting Standards were issued.
In 2001, the I.A.S.B replaced the I.A.S.C and International Financial Reporting Standards were introduced.
In 2015, India adopted Ind A.S based on the International Financial Reporting Standards.
Today, Ind A.S is used for large companies and A.S is used for small companies.
The following is a list of Accounting Standards and their names.
- A.S 1 is Disclosure of Accounting Policies.
- A.S 2 is Valuation of Inventories.
- A.S 3 is Cash Flow Statements.
- A.S 4 is Contingencies and Events Occurring After the Balance Sheet Date.
- A.S 5 is Net Profit or Loss for the Period, Prior Period items and Changes in Accounting Policies.
- A.S 7 is Construction Contracts.
- A.S 9 is Revenue Recognition.
- A.S 10 is Property, Plant and Equipment.
- A.S 11 is The Effects of Changes in Foreign Exchange Rates.
- A.S 12 is Accounting for Government Grants.
- A.S 13 is Accounting for Investments.
- A.S 14 is Accounting for Amalgamations.
- A.S 15 is Employee Benefits.
- A.S 16 is Borrowing Costs.
- A.S 17 is Segment Reporting.
- A.S 18 is Related Party Disclosures.
- A.S 19 is Leases.
- A.S 20 is Earnings Per Share.
- A.S 21 is Consolidated Financial Statements.
- A.S 22 is Accounting for Taxes on Income.
- A.S 23 is Accounting for Investments in Associates.
- A.S 24 is Discontinuing Operations.
- A.S 25 is Interim Financial Reporting.
- A.S 26 is Intangible Assets.
- A.S 27 is Financial Reporting of Joint Ventures.
A.S 28 : Impairment of Assets and A.S 29 : Provisions, Contingent Liabilities and Contingent Assets
Development and growth of accounting standards.
Image summary: A flow chart illustrating the chronological development of accounting standards. It starts with the period before the 1970s, moving down to the formation of the IASC in 1973, and continuing to the formation of the ASB in India in 1977.
- Before the 1970s, there were no uniform rules, different methods were used, and there was a need for standards.
- In 1973, the International Accounting Standards Committee, known as the I.A.S.C, was formed, which issued I.A.S as the first global effort.
- In 1977, the Accounting Standards Board, or A.S.B, was formed in India by the I.C.A.I, which issued A.S 1 to A.S 29 as the first Indian standards.
Image summary: A vertical flowchart timeline depicting the evolution of accounting standards. It shows three stages moving downward from 2001 to the present and future.
- In 2001, the International Accounting Standards Board, or I.A.S.B, was formed, replacing the I.A.S.C. This period saw the introduction of I.F.R.S and the beginning of global convergence.
- In 2015, I.N.D A.S was introduced in India. These are I.F.R.S converged standards that are mandatory for large or listed firms.
- In the present and future, we see Ind A.S and Revised A.S in India, growing I.F.R.S adoption, and a rise in digital and sustainability reporting, also known as E.S.G reporting.
Accounting Equation
Ch 4 Accounting Equation & Golden Rules Accounting Procedures
4.1. Accounting Equation
4.2 Golden Rule. Transactions are affected by two aspects: number one, Debit, and number two, Credit.
Both words are from the Latin language. Dr means owned by business, and Cr means owed by business.
According to the Entity Concept, the business and owner are both separate persons.
Accounting Recording is done in the view of the business.
Accounts are divided on the two rules: first, Britain Rule or Traditional Rule, and second, American Rule or Modern Rule.
4.2.1 Traditional Rule. Accounts are divided into the following:
Image summary: A table detailing Personal Accounts, divided into Natural Personal Accounts, which refer to persons who are creations of gods such as Ram or Geeta, and Artificial Personal Accounts, which refer to persons recognized by law or business dealings such as firms, companies, or trusts.
Accounts Rules
Image summary: A table outlining basic account rules, categorizing accounts into Representative Personal, Real, and Nominal. It shows that personal accounts track the receiver and giver, real accounts track what comes in and goes out, and nominal accounts track expenses, losses, income, and gains.
- The rules for accounts are as follows.
Image summary: A summary table of account types and their corresponding debit and credit rules. Personal Accounts are debited for the receiver and credited for the giver; Real Accounts are debited for what comes in and credited for what goes out; and Nominal Accounts are debited for expenses and losses and credited for income and gain.
4.2.2 Modern Rule
- Next, we look at accounts and their rules.
Image summary: A table detailing the modern rules for Assets, Liabilities, Capital, and Income. It indicates that Assets increase with a debit and decrease with a credit, while Liabilities and Capital increase with a credit and decrease with a debit. Income increases with a credit, specifically in exchange for bearing risk in business, such as when a borrower pays received interest.
Image summary: A table showing financial preferences and accounting entries. For item five, an expense owned by the entity, the preference shares are equal to dividends, and the owner is equal to income or profit, with a corresponding debit entry.
Origin of Transactions
Ch 5 Origin of Transactions: Source Documents and Preparation of Vouchers
Journal
Ch 6 Journal
6.1. Journal Meaning
- A journal is a book of Primary Entry or Original Entry in which transactions are first recorded in a chronological order from the accounting voucher that are prepared on the basis of source documents like cash memos, invoices, and purchase bills.
- According to M. J. Kelly, a journal is a chronological record of financial transactions of a business.
6.2 Terms
- A Book of Original Entry or Primary Entry is the journal.
- A journal entry is an entry recorded in the journal.
- Journalising is the process of recording a transaction in a journal.
- Posting is the transfer of a journal entry to the ledger account.
6.3 Function
- Maintaining a chronological record of transactions.
- Analysing the transactions.
- Providing the basis of ledger posting.
6.3. Characteristics
- Accounting data is in chronological order.
- It is a book of original entry.
- Both aspects of a transaction are recorded.
- It includes a narration.
- It shows the complete detail of a transaction in one entry.
6.4. Advantage
- It provides accounting data in chronological order.
- The possibility of error is reduced.
- It provides an explanation of the transactions.
6.5. Limitations
- First, it is not suitable for large volumes of transactions, but this limitation can be overcome by maintaining Subsidiary Books.
- Second, the cash balance is not revealed, but this limitation can be overcome by maintaining a Cash Book.
- Third, it is not a substitute for a Ledger.
6.6. Format
Image summary: A table showing the format for a journal entry with columns for Date, Particular, Ledger Folio, and Amount, split into Debit and Credit columns.
6.7 Steps of Journalising
- Step 1 is the determination of the accounts to be Debited and Credited in the transactions.
- Step 2 is to determine the nature of the account to be Debited or Credited.
- Step 3 is applying the Rule of Debit and Credit on accounts.
- Step 4 is to determine the amount by which accounts are to be Debited or Credited.
- Step 5 is to record the date and month of the transactions in the date column and the year at the top.
- Step 6 is to record in the particular column.
- The account to be Debited is written along with the name of the account and the abbreviation 'Dr'.
- The account to be Credited is written in the next line preceded by the word 'To'.
- The word 'To' is written towards the right after leaving a little space.
- Finally, record a brief description of the transactions starting from the next line.
- Draw a line across the particular column.
- Step 7 is Totaling, also known as Casting, and Carry Forward.
- When the page is ended in the last, the total of debit and credit is written in the Amount Column as Total carried forward.
- In the next page, the total of debit and credit in the Amount Column is written as Total brought forward.
6.8 Recording in Journal
- Transactions are recorded in the journal from the viewpoint of Business because of the Business Entity Concept.
- Transactions are recorded on the basis of Accounting Vouchers prepared from Source Documents.
Types of Journal Entry
One, Simple Journal Entry. This is an entry in which one account is debited and another account is credited with an equal amount. For example, the purchase of goods for 5,000 rupees. In this case, the Purchase account is debited by 5,000 and the Cash account is credited by 5,000, with the narration being Being Purchase of goods.
Two, Compound Journal Entry. This is an entry in which one or more accounts are debited and one or more accounts are credited. For example, 10 started a business with 500,000 in cash and a building worth 300,000. In this case, the Cash account is debited for 500,000 and the Building account is debited for 300,000, while the Capital account is credited for a total of 800,000. The narration is Being X started business.
Financial Transaction Ledger Record
Image summary: A financial table detailing accounting entries with columns for Date, Particular, Ledger Folio, Debit amount in Rupees, and Credit amount in Rupees. The table records transactions including capital introduction by Ram via cash and cheque, asset contributions, additional capital, drawings for personal use, and cash transfers between bank and cash accounts.
Journal Entries
Image summary: A table showing a series of accounting journal entries. It includes columns for entry numbers, accounts debited and credited with their descriptions, debit amounts, and credit amounts, tracking transactions related to purchases, returns, payments, and sales.
Journal Entries
Image summary: A table detailing accounting journal entries. It lists transactions including sales on credit to Krishna, sales returns from Krishna, a dishonored cheque from Ramesh, and cash received from Ramesh and Krishna with a discount allowed.
- Note number one covers different ways to introduce capital or commencement of business, and withdrawn capital.
- Note number two covers deposits and withdrawal of cash.
- Note number three is related to goods purchased, returns, and payment paid.
- Note number four is related to goods sale, return, and payment received.
- If any assets are introduced as capital, then the representative assets account name is written in the entry. All assets that are introduced separately are open in their own accounts.
- When goods are withdrawn for personal use, then the purchase account is affected.
- If questions regarding transactions related to sale or purchase appear, follow these rules: if no name is given for any person, or it is not given that it is a cash or credit transaction, assume it is in cash. If a name is given and it is a cash transaction, it is a cash transaction. If only a name is given, it is a credit transaction.
Accounting of Discount and Rebate
Discount is an allowance given by the seller of goods and can be of three types.
- Trade Discount.
- Cash Discount.
- Rebates.
- First, accounting of trade discount.
- Second, accounting of cash discount.
- Third, accounting of rebate.
Accounting Entry of Some Specific Transaction
Banking Transactions
Adjustment Entries
Adjustment Entries are passed at the end of the year to make the Adjustment account so that the Final Account shows the true and fair performance and position of the business.
Image summary: A table listing five types of adjustment entries with their definitions and accounting treatments. It covers closing stock, outstanding expenses, prepaid or unexpired expenses, accrued income, and income received in advance, showing which accounts are debited and credited for each.
- To Advance Income account, being advance income received.
- Item 6: Depreciation. Due to the use of fixed assets, the value of these assets decreases every year. This fall in value is called depreciation.
- Depreciation account, debit. To Fixed Assets account, being depreciation charged on fixed assets.
- Item 7: Interest on Capital. Interest is allowed on capital to determine the correct profit and loss of the business.
- Interest on Capital account, debit. To Capital account, being interest paid on capital.
- Item 8: Interest on Drawings. Interest is charged on drawings to determine the correct profit and loss of the business. Drawings against capital result in the withdrawal of capital, affecting interest on capital. Drawings against profit result in the withdrawal against profit, affecting interest on drawings.
- Capital account, debit. To Interest on Drawings account, being interest charged against drawings.
- Opening Entries. Example: Balance Sheet.
Image summary: A balance sheet table comparing liabilities and assets. On the liabilities side, Sundry creditor is 5,600 and Capital is 20,000, totaling 25,600. On the assets side, Cash in hand is 430, Cash in bank is 2,675, Sundry Debtors is 7,495, Closing Stock is 9,000, and Machinery is 6,000, also totaling 25,600.
Based on the above balance sheet , the opening entries will be :-
Image summary: A table showing opening journal entries. It lists several debit entries including cash for 430, bank for 2,675, sundry debtors for 7,495, stock for 9,000, and machinery for 6,000. These are balanced by credit entries to capital for 20,000 and sundry creditors for 5,600, with a final note that the balance of assets and liabilities and capital are brought forward.