Accounting Principles

What is Accounting Principles?
Meaning, Importance, Types

By Mayashree Acharya
|
Updated on: Sep 21st, 2023
|
10 min read
Accounting is one of the significant parts of a business around which all

financial decisions depend. Recording and accounting financial transactions
to not only keep track of the company's revenues and expenses but also
understand the overall financial health and performance.
However, if you do not have a clear knowledge of accounting principles, it

may be difficult for you to record transactions and analyze the financials
effectively. In this article, we will give you comprehensive detail on accounting
principles and their importance for financial analysis.
What Are Accounting Principles?

Accounting principles are the common guidelines and rules
related to accounting transactions that are followed to prepare financial
statements successfully. These principles are the founding guidelines for
preparing and recording financials for proper analysis. These accounting
principles are also known as Generally Accepted Accounting Principles
or GAAP.
These principles guide accountants in financial analysis and ensure that the
quality of financial information a company has is improved as efficiently as
possible. Moreover, the rules prepare an accountant to develop error-free and
consistent accounting data. It also helps organizational stakeholders to
compare the financial data of different companies over the years.
Purpose of Accounting Principles

The main purpose of accounting principles is to guarantee that a business's
financial recordings and statements are consistent and to the point.
Accurate knowledge of accounting principles makes it easy for investors to
extract and analyse necessary information from financial statements.
Furthermore, these rules help mitigate any fraud arising in the accounting
process, thus making business finances transparent. Any red flags in the
company's finances get identified, making it easy to compare the details over
a specific period.
Importance of Accounting Principle

There are a few reasons why accounting principles are considered important
for a business. They are discussed as follows -
 The principles are important to prepare financial statements that

are complete, consistent and fruitful.
 This concept determines the expenses, income, liabilities, profit,
assets and losses for financial reporting.
 Accounting rules help to compare financial information and

statements easily.
 Transparency in the financial system is maintained, and efficient

detection of financial fraud is possible.
 The accounting principles allow investors to analyze and tally

significant information to make financial decisions.
Types of Accounting Principles

There are a number of accounting principles that accountants and investors
follow to implement appropriate financial processes and make informed
decisions. The list is given below.
 Accrual Principle
Accounting's accrual principle recognizes income and costs when they

are generated or spent, regardless of when cash is exchanged. It
guarantees that a company's financial situation and performance are
appropriately reflected in its financial statements at any given moment.
 Conservatism Principle
The conservatism principle directs accountants to be cautious in

recognizing potential gains, only recognizing them when realized while
recognizing potential losses as soon as they are probable. This principal
safeguards against over-optimistic reporting, promoting prudence in financial
statements.
 Cost Principle
Assets are first documented at their historical cost under the cost
principle, assuring financial reporting dependability and impartiality.
Adjustments for depreciation or impairment may occur in the future, but the
concept prioritizes actual transaction values.
 Revenue Recognition Principle
This principle dictates that revenue should be recognized when it is

both earned and realizable. It ensures that revenue is not prematurely
recognized and reflects the actual value a company has generated.
 Economic Entity Principle
The economic entity principle distinguishes between personal and

business finances. It treats the firm as a separate accounting entity, limiting
the mixing of personal and corporate assets and liabilities and improving
financial transparency.
 Consistency Principle
The consistency principle encourages uniformity in accounting methods

from one period to the next. It promotes comparability of financial
statements over time, allowing stakeholders to analyse trends and make
informed decisions.
 Objectivity Principle
According to the objectivity principle, financial information must be reliable

and free of prejudice. It emphasises the need to rely on objective evidence
rather than human judgements to ensure the trustworthiness of financial
data.
 Going Concern Principle
The going concern principle assumes that a company will continue to

operate indefinitely unless there is substantial evidence to the contrary. It
allows for the valuation of assets and liabilities as if the business will continue
to operate, fostering realistic financial reporting.
Characteristics of Accounting
Principles
Before implementing the different types of accounting principles in your
accounting processes, it is important to know the characteristics of such
principles. They are as follows.
 The set of rules focuses on bringing uniformity and easy

understanding of different accounting information.
 The principles are not static in nature. It could change over time as
per changes in government legislations, business practices and
demands of accounting users.
 Accounting principles are generated as per reasons and

experiences. They can vary in different business scenarios and are
not applicable universally.
Features of Accounting Principles

There are three main features of accounting principles. It is discussed
below.
1. Usefulness
A Generally Accepted Accounting Principle (GAAP) will only be useful or

relevant if it satisfies the requirements of its users. These principles provide
necessary and required information to accountants or stakeholders.
2. Feasibility
The principles of accounting are applicable as required. If any cost

continuously changes, suppose due to a change in market prices, it will be
difficult for the bookkeeper to show them in the books. Hence, the rules of
accounting are quite flexible in this regard.
3. Objectivity
Any rule can be justified objectively if it is based on accurate figures and facts.
There are not any personal biases or external influences when it comes to
incorporating accounting figures in the books; if there are, the usefulness of
such values will become limited and may not be as per business
requirements.
Limitations of Accounting
Principles
Even though accounting principles are important during the bookkeeping
process, there are certain limitations of the rules which can affect the
company's financial recordings. Some major limitations of accounting
principles are:
 The recordings are only measured in monetary value. Some

events can affect a business's finances, but if it is not in terms of
money, they are not accounted for.
 Accounting principles are treated as per 'time value of money' and

maintained as per historical cost. The rule ignores current changes
in values, which can fail to exhibit the proper financial position.
 Only past records can be accounted for. GAAP does not provide
any scope of accounting or recording any future events that can
affect business finances in some cases.
 A key limitation of the accounting principle is its importance of form

over substance. This suggests that while preparing the accounts,
importance is given to tables or forms and not to explanations of
substantial information.
Conclusion
Overall, understanding accounting principles before implementing accounting
processes in a business is important. It will help keep a smooth track of the
finances and maintain transparency of financial events. Even if you are a
novice accountant, make sure to have clear ideas of the types and
characteristics of accounting principles to avoid errors in financial recordings
and produce accurate results.

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What is Accounting Principles?

Meaning, Importance, Types

Accounting is one of the significant parts of a business around which all

However, if you do not have a clear knowledge of accounting principles, it

What Are Accounting Principles?

Purpose of Accounting Principles

Importance of Accounting Principle

 The principles are important to prepare financial statements that

 Accounting rules help to compare financial information and

 Transparency in the financial system is maintained, and efficient

 The accounting principles allow investors to analyze and tally

Types of Accounting Principles

Accounting's accrual principle recognizes income and costs when they

The conservatism principle directs accountants to be cautious in

 Revenue Recognition Principle

This principle dictates that revenue should be recognized when it is

 Economic Entity Principle

The economic entity principle distinguishes between personal and

The consistency principle encourages uniformity in accounting methods

According to the objectivity principle, financial information must be reliable

 Going Concern Principle

The going concern principle assumes that a company will continue to

 The set of rules focuses on bringing uniformity and easy

 Accounting principles are generated as per reasons and

Features of Accounting Principles

A Generally Accepted Accounting Principle (GAAP) will only be useful or

The principles of accounting are applicable as required. If any cost

 The recordings are only measured in monetary value. Some

 Accounting principles are treated as per 'time value of money' and

 A key limitation of the accounting principle is its importance of form

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