3.15.2015

Basic Financial Accounting Concepts

In this post today we will learn Basic Financial Accounting Concepts, Basic Accounting Principles, rules and other basic Financial accounting terms which will help in better understanding of Accounting Standards.

Meaning of Accounting: According to American Accounting Association Accounting is the process of identifying, measuring and communicating information to permit judgment and decisions by the users of accounts.

Users of Accounts: Generally 2 types.
1. Internal management. 
2. External users or Outsiders- Investors, Employees, Lenders, Customers, Government and other agencies, Public. 

Sub-fields of Accounting:

  • Book-keeping: It covers procedural aspects of accounting work and embraces record keeping function. 
  • Financial accounting: It covers the preparation and interpretation of financial statements. 
  • Management accounting: It covers the generation of accounting information for management decisions. 
  • Social responsibility accounting: It covers the accounting of social costs incurred by the enterprise.


 Fundamental Accounting equation:


 Assets = Capital+ Liabilities
Capital = Assets - Liabilities

Accounting elements: The elements directly related to the measurement of financial position i.e., for the preparation of balance sheet are Assets, Liabilities and Equity. The elements directly related to the measurements of performance in the profit & loss account are income and expenses.

Four phases of accounting process: 

  • Journalisation of transactions 
  • Ledger positioning and balancing 
  • Preparation of trail balance 
  • Preparation of final accounts. 

Basic Accounting principles and Concepts :

  • Accounting principles are built on a foundation of some basic concepts.
  • Accounting foundation consists of a set called Generally Accepted Accounting Principles (GAAP)
  • Concepts widely Accepted and Applied in practice.
Basic Accounting Rules for Debit and Credit :
In Accounting double entry, Every accounting transaction has two aspects both of which are recoreded.
Every transaction has two sides
  1. DEBIT
  2. CREDIT
DEBIT: It is one of the aspect in a transaction ,which arises in the following Situations.

  • Receipt of cash: cash must be debited.
  • Expenses must be debited.
  • Increase in assets: assets must be debited.

CREDIT: It is another part of the transaction ,which arises in the following Situations.

  • Payment of cash:cash must be credited
  • Incomes must be credited
  • Increases in liability:liability has to be credited.

EXAMPLES:
1)CASH PAID TO Mr.X
Mr.X a/c…………DR xxxxx …………
TO cash a/c …….. xxxxxx
[here cash account is credited for payment]

2)ASSEST PURCHASED FOR 1000000
ASSEST a/c…………..DR 1000000 ……………
TO cash a/c ……………. 1000000
[here assest a/c is debited for increasing it is value]

Basic Accounting Concepts :
Concepts are necessary assumptions and conditions upon which accounting is based. 
  • Business entity concept: In accounting, business is treated as separate entity from its owners. While recording the transactions in books, it should be noted that business and owners are separate entities. In the transactions of business, personal transactions of the owners should not be mixed.                For example: - Insurance premium of the owner etc...
  • Going concern concept: Accounts are recorded and assumed that the business will continue for a long time. It is useful for assessment of goodwill. 
  • Consistency concept: It means that same accounting policies are followed from one period to another. 
  • Accrual concept: It means that financial statements are prepared on mercantile system 
In this post We have summarized basic financial accounting rule for debit and credit , basic accounting concepts and principles. Also read accounting standard 1, Disclosure of Accounting Policies.