ACCOunllng

1.7

Generally Accepted Accounting Principles (GAAP)

The riles and guidelines used in
preparing accounting reporis are termed as Generally
Accepted Accounting Principles (GAAP). There are certain guidelines and
are followed while recording transactions and in practices that
preparing financial statements. Such
guidelines and practices have been developed on the basis of globally
standards. The Generally Accepted
accepted accounting
Accounting Principles are:
i. Accounting assumptions ii. Accounting principles
ii. Modifying principles iv. Accounting standards
The
following chart enables a better understanding of GAAP.
Generally Accepted Accounting Principles (GAAP)
Assumptions Principles Modifying principles |Accounting Standards
1. Accounting entity 1. Dual aspect
1. Materiality Issued by Accounting
2. Money measurement 2. Varifiability and 2. Consistency Standards Board
objectivity of evidence
3. Going concern 3. Historial cost 3. Prudence
4. Accounting period4. Revenue recognition 4. Timeliness
[Link] 5. Substance over form
6. Full disclosure |6. Variation in
accounting practices
I. Accounting Assumptions or Concepts
ACcounting assumptions or concepts refer to certain necessary assumptions or
conditions on which the accounting
system is based. Assumptions provide a foundation for
the accounting
process. The following are some of the major and generally accepted
assumptions.
1. Accounting Entity Concept
Under this concept, it is assumed that business unit is distinct and
completely separate
from its owners. The business is treated as a unit or entity separate from the persons who
Own it.
 Financial Accounting

1.8

2. Money measurement concept

this concept,
concept of monetary expression. As per
This is also known as the
recorded in the books of
transactions that can be measured in terms of money only are

record different kinds of economic

activities on a uniform basis.
count. This helps to

3. Going Concern Concept

have an indefinite life. It is decmed
As per this concept the business unit is assumed to
that there is no intention or necessity to wind up the business activity in the immediate

future. Hence, the firm is treated as a 'continuing one for long.

4. Accounting Period

The period
ofintervalfor which account is kept for ascertaining the result ofbusiness
during the period is called "accounting period". Usually a period of 365 days or 52 weeks
is considered as fair interval.

I. Accounting Conventions or Principles

Accounting conventions or principles refer to an accounting procedure followed by
accountants all over the world. The following are the major principles used in the accounting
procedure:

I. Dual Aspect
This is the basic
principle of Accounting. This is also known as Accounting
Equivalence concept. According to this concept each and every business transaction has
two aspectS -a giving
aspect and a receiving aspect. This accounting equation is
on the
developed
strength of dual aspect concept which says that "for every debit there is an
equal
and corresponding credit"

2. Verifiability and Objectivity principle

This principle states that the accounting data
provided in the books ofaccounts should
be verifiable and dependable. The figures exhibited in the financial statements should
have supportive evidences such as bills, vouchers etc. which constitute the source
documents
Introduction to Accounting 1.9

3. Historical Cost
Historical cost principle requires that all transactions should be recorded at their

acquisition cost. The cost of acquisition refers to the cost of purchasing the asset and

expenses incurred in bringing the assets to the intended condition and location of use.

4. Revenue Recognition Principle

Revenue is the amount which a business earns through sale of goods or services.
the seller to the
Revenue is recorded at the time when the ownership of goods passes from

buyer.
5. Matching Principle
As per the matching concept only those expenses pertaining to the current accounting
period. It that the
period must be matched against the revenue relating to the
same means

incomes and expenses taken should be of the same period.

6. Convention of disclosure
This convention suggests that all accounting statements must be prepared honestly
and must contain all relevant material information. It implies that the published financial
the concern for
statements mustfully disclose the true and fiar view of the state of afairs of
a particular period or on a particular date.

I I Modifying Principles
The principles which give due consideration to the users and which are used along
with the general and basic principles and assumptions are termed as modifying principles.
The following are important among them,
1. Principle of Materiality
statemenis.
AS per the principle all material facts should be disclosed in the financial
American
Naturally a what is material and what is immaterial.
question arises as to
AccOuntants Association (AAA) states that "An item should be regarded as material y
there is reason to believe that knowledge of it would influence the decision of informed
included ir tne
nvestors." As such, an item, though it is of a meagre amount, should be
iS not
Same
influence the decision of the users. On the other hand if a piece of information
as it
SDrTicienty important to influence the decision making process that can be avoided is
immaterial.
 Financial Accounting
1.10

2. Principle of consistency
methods, practices and policies
According to the principle of consistency the same

the financial statements comparable

should be followed from one period to another to make

3. Prudence
may lead to
objectionable
The excessive dependence to the convention ofconservatism
in applying accounting
exercise caution and discretion
Tesults. Hence, the accountant should
convention of conservatism.
methods and policies. He must not give undue emphasis on the

4. Timeliness
made available on time. Information
It states that accounting information should be

delayed is information denied. Financial

statements prepared belatedly will not serve any

purpose. iain lew quwrkly

aNAle.
5. Substance overform and legality
This principles states that transactions and financial events are accounted for and

presented in accordance with their substance and economic reality and not merely in
their legal form. When assets are purchased on hire purchase basis, the property is
transferred to the buyer on the payment of last instalment only. However, the buyer for
all practical purposes uses the assets as if he is the owner of goods from the date of
acquisition. This aspect is reflected in the books of the buyer by recording the asset at its
cash price at the time of down payment.
6. Variation in
accounting practices
Certain industries may deviate form GAAP because of the
and
peculiarity of its operation
practice. For
example, Banking companies are governed by Banking
Insurance companies are governed Regulation Act,
by the Insurance Act. These Acts give
and guidelines for the specific format
preparation their final accounts.
of
 Introduction to Accounting 1.11

ACCOUNTING STANDARDS
Financial statements such as Profit and Loss Accounts, Balance Sheet, Cash Flow
Statement, Funds Flow Statement, etc. become meaningful and useful only if they are
comparable with those of different years of the same firm or those with other firms. To
achieve this objective of comparability of financial statements, there should be standardised
Hence, accounting standards are formulated to maintain
accounting policies and practices.
uniformity in accounting principles to be observed in the preparation of financial statements
the world to make them sophisticated and reliable.
throughout

Meaning and definition of Accounting Standards

An Accounting Standard is a selected set of accounting policies or broad guidelines
regarding the principles and methods to be chosen out of several alternatives. Standards
conform to applicable laws, customs, usages and business environment. These are written
documents issued by expert accounting bodies or Government or other regulatory body

covering the aspect of recognition, measurement, treatment, presentation and disclosure

of accounting transactions in financial statements.
According to T.P. Ghosh "Accounting standards are the policy documents issued by
the recognised expert accountancy body relating to various aspects of measurement,
treatment and disclosure of accounting transactions and events".

Procedure for setting various Accounting Standards in India

The function of seting the accounting standard is vested with the Institute of Chartered
Accounts ofIndia (ICAI). Recognising the need to harmonise the diverse accounting policies
and practices, the ICAI constituted an Accounting Standards Board (ASB) on April 21,
1977. The main function of ASB is to formulate accounting standards so that such standards

may be mandated by the Council of ICAWhile formulating the standards in India, ASB
will take into consideration the applicable laws, customs, usages and business environment.
The following are the steps for setting accounting standards:
1. Accounting Standard Broad (ASB) shall determine the broad areas in which Accounting
Standards need to be formulated and the priority in regard to the selection therco.