NATURE OF ACCOUNTING

COMMERCEIETS 2 COMMENTSON NATURE OF ACCOUNTING POSTED IN11 ACCOUNTANCY, FINANCIAL

ACCOUNTING
Table of Contents
 NATURE OF ACCOUNTING
o QUALITATIVE ATTRIBUTES OF ACCOUNTING

 RELIABILITY
 RELEVANCE
 UNDERSTANDABILITY
 COMPARABILITY
 FAITHFUL REPRESENTATION
o QUANTITATIVE ATTRIBUTES OF ACCOUNTING

 ACCOUNTING IS AN ART AS WELL AS SCIENCE
 RECORDING OF FINANCIAL TRANSACTIONS ONLY
 RECORDING IN TERMS OF MONEY
 CLASSIFYING THE TRANSACTIONS
 SUMMARISING THE TRANSACTIONS
 ANALYSING
 INTERPRETATION OF RESULTS
 COMMUNICATING THE RESULTS

NATURE OF ACCOUNTING
Accounting is art of recording, classifying, summarizing in a significant manner and in
terms of money, transactions and events which are, in part at least, of financial
character and interpreting the results thereof. The Nature of Accounting can be defined
in two ways:
 Quantitative Attributes of Accounting
 Qualitative Attributes of Accounting

QUALITATIVE ATTRIBUTES OF ACCOUNTING

The fundamental nature of financial statements is to provide true and fair view of the
state of affairs and profit or loss for the period. Qualitative attributes simplifies and
expands on the financial figures to ensure easy understanding and comparability of
results. The Qualitative Attributes that describe the Nature of Accounting are as follows:

RELIABILITY
Reliability implies that the information must be factual and verifiable. The accounting
information has said to have verifiability if such information can be verified from source
documents such as cash memos, purchase invoices, sales invoices, correspondence,
agreement, property deeds and other similar documents.
In order to be relied upon, the financial information requires the following attributes:
 Neutrality
 Substance over form i.e. accounting should be based on financial reality and not merely on legal form.
 Prudence
 Completeness
RELEVANCE
Accounting information depicted by financial statements must be relevant to the
objectives of enterprise. Unnecessary and irrelevant information should not be included
in financial statements. The INTERNATIONAL ACCOUNTING
STANDADRDS BOARD (IASB) says that information is relevant “When it
influences the economic decisions of users by helping them evaluate past, present or
future events or confirming or correcting their past evaluations.”
The relevance of information is affected by its nature and materiality. If an item or event
is material, it is probably relevant to the users of financial statements.
For Example: The information regarding the rate of dividend paid by a company in
previous years is relevant information for the investors since it provides a basis for
forecasting future dividends.

UNDERSTANDABILITY
Accounting information should be presented in such a simple and logical manner that
they are understood easily by their users such as investors, lenders, employees etc. A
person who does not have any knowledge of accounting terminology should also be
able to understand them without much difficulty.
This can be done by giving relevant explanatory notes to explain the information given
in financial statements. General topics which can be included in the explanatory notes
are Method of depreciation, method of valuation of inventory, description of contingent
liabilities, explanation of reserves, disclosure of events occurring after balance sheet
date etc, These explanatory notes make the financial statements more useful and
understandable.

COMPARABILITY
Comparability is very useful quality of the accounting. The financial statements should
contain the figures of previous year along with the figures of current year so that the
current performance can be compared with the past performance. Similarly, the
financial statements should be prepared in such a way that the profitability and financial
position of the concern may be compared with the other concerns of the similar type.
Comparison reveals the strong and weak points of the business entity. Comparison is
possible when the different firms in the same industry adopt the same accounting
principles from year to year.
For Example: If diminishing balance method of charging depreciation is selected, it
should not be changed from year to year. Similarly, the method of valuation of stock
should also be consistently the same from year to year.

FAITHFUL REPRESENTATION
Accounting aims at preparing those financial statements that depict the true and fair
view of profitability, liquidity and solvency position of an enterprise. Application of
appropriate Accounting Standards normally results in financial statements portraying
true and fair view of information of an enterprise.
QUANTITATIVE ATTRIBUTES OF
ACCOUNTING
The Quantitative attributes explaining Nature of Accounting are as follows:

ACCOUNTING IS AN ART AS WELL AS SCIENCE

Accounting is an Art of recording, classifying, summarizing, analyzing and interpreting
the accounting records with a view to ascertain the net profit/ loss and financial position
of the business.
Accounting as a Science is an organized body of knowledge that contains some
underlying principles and rules that are followed while maintaining accounts. However,
Accounting is not a pure science as it does not establish cause and effect relationship.

RECORDING OF FINANCIAL TRANSACTIONS ONLY

Accounting records only those transactions and events that are expressed in monetary
terms or in quantitative form. For instance, the transactions like sale of goods for ₹5,000
will be recorded in the books of accounts.
However, there are so many events which are very important for business but cannot be
recorded in the books of accounts because such events cannot be expressed in
quantitative or monetary form. For example: Loyalty of Employees, Resignation by an
able and experienced manager, Strike by employees, Quarrel between employee and
employer etc. but these events have a large impact and direct bearing on the business
of the firm.

RECORDING IN TERMS OF MONEY

The accounting records only those transactions which can be expressed in terms of
money only. It implies that a business man will not record the purchase of 5 chairs and
5 tables, he will record the purchase of 5 chairs costing ₹2,500 and 5 tables costing
₹5,000.
Also the recording is done in the book of the journal which is the primary book of
recording the transactions in the chronological order.
In small business houses, the recording of transactions is generally done in the book of
Journal whereas in big business houses the recording of transactions is done in the
subsidiary books such as:
 Cash Book
 Purchase Book
 Sales Book
 Purchase Return Book
 Sale Return Book
 Bills Receivable Book
 Bills Payable Book
 Journal Proper
The number of subsidiary books to be maintained depends upon the nature and size
and needs or requirements of the business.

CLASSIFYING THE TRANSACTIONS

One of the Features of Accounting is that it classifies all the transactions recorded in
the book of the Journal. Classification refers to grouping the transactions of same
nature at one place, in a separate account. Classification of transactions is done in the
books of ‘Ledger’. All the accounts related to creditors, debtors, capital, assets,
liabilities, incomes and expenses are separately opened in the Ledger Book. Example:
Wages Account, Ram Account, Advertisement Account, Cash Account, Bank Overdraft
Account etc.
SUMMARISING THE TRANSACTIONS
Summarizing is the art of presenting the classified data in a manner which is
understandable and useful to management and other users of such data. It involves:
 Balancing of Ledger Accounts
 Preparation of Trial Balance
 Preparation of Trading and Profit & Loss A/c
 Preparation of Balance Sheet
Trial Balance is a summary of all the ledger accounts and is maintained to check the
arithmetical accuracy of accounts. Trading Account is prepared to find out the Gross
Profit or Gross Loss while Profit & Loss Account helps in knowing Net Profit or Net
Loss. Balance Sheet prepared at the end of accounting year helps in knowing the
financial position of the concern. It shows the Profitability, Solvency as well as Liquidity
position of the business.

ANALYSING
Analyzing is concerned with the establishment of relationship between the various items
or groups of items taken from Income Statement or Balance Sheet or both. Purpose of
analysis is to identify he financial strengths and weaknesses of the enterprise. It
provides the base for analysis.

INTERPRETATION OF RESULTS
Another feature of accounting is interpretation of results. Interpretation of results is
concerned with explaining the meaning and significance of the relationship so
established by the analysis. Interpretation of results requires high degree of knowledge
and skills. The accountant should answer:
 What has happened?
 Why is happened?
 What is likely to happen under specified conditions?
COMMUNICATING THE RESULTS
Accounting is so featured that it will provide the analyzed and interpreted results to its
users such as Management, Employees, Creditors, Research Scholars, Debtors,
Financial Institutions, Competitors, Bankers, Income Tax Authorities etc. The results are
communicated by preparing final accounts, ratios, graphs, diagrams, charts, fund flow
statement, cash flow statement etc.
What Are the Functions of Accounting? (Definition and Types)
The functions of accounting include the systemic tracking, storing, recording,
analysing, summarising and reporting of a company's financial transactions. Through the
functions of the accounting department, the company can maintain a fiscal history that they can
make accessible for audits.Sep 13, 2021

What Are the Functions of

Accounting?
By Indeed Editorial Team

July 23, 2021

Management, employees, clients and investors are all interested in

how well a business handles its money. Accounting is the part of a
business that is responsible for the company's finances.
Understanding the function of accounting will help you manage and
analyze monetary resources. In this article, we explain the functions of
accounting and the types of work performed by an accountant.

Functions of accounting

All companies use accounting to report, track, execute and predict

financial transactions. The main functions of accounting are to store
and analyze financial information and oversee monetary transactions.
Accounting is used to prepare financial statements for a company's
employees, leaders, and investors. Accounting also functions to
ensure the payment of funds into and out of a company.

Accounting creates a fiscal history for any company. It is used to track

expenditures from business operations as well as a company's profits.
It can also be utilized to predict financial success and the future needs
of a company to create budgets and take advantage of new growth
opportunities. Accountants use this information to prepare financial
statements used by business professionals and government officials.
The functions of accounting in a business include the following:

Business Costs and Revenue

An important function of accounting is to track business spending in

relation to income. Just like managing your personal finances,
accountants record expenses and payments to keep an accurate and
up to date record of the company's funds.

Accounts Receivable

Proper accounting ensures the company receives any payment they

are due. An accountant tracks the profits of a business to ensure that
revenue is continually flowing into their bank account.

Accounts Payable

Accounts payable functions to pay the company's bills. They ensure

the business pays for any money they owe and check that it is a
legitimate charge. They also help set the due dates for payments so a
company can best manage their own funds based on when money is
coming in.

Payroll

Accountants deduct employee wages from company funds for

paychecks. They are also in charge of managing employee benefits if
they are paid out of an employee's income. Accounting may help
decide how employees are compensated for their work based on how
wages affect the company's profits.

Financial Reporting

Accountants use digital systems to store and calculate data. If a

company is publicly owned, it must also prepare both quarterly and
yearly reports for shareholders detailing the assets, profits and losses
of the business. Privately-owned companies also utilize fiscal reports
like these to understand the financial resources of their firm.
Financial Analysis

Companies use accounting to perform regular analysis of how well the

business is performing. Either an outside consultant or internal
personnel will look at the business as a whole to determine what
functions can be made more efficient based on financial outcomes.
They may suggest changes to employee departments or streamlined
costs for production to reduce waste.

Taxes and Compliance

A business must comply with government laws and standards from the
Internal Revenue Service and the Securities and Exchange
Commission, among other regulations. States also enforce monetary
guidelines for businesses. Accounting is responsible for reporting the
financial workings of the company and making sure they conform to all
local and national laws and guidelines.

Budgeting

Accounting is in charge of setting a company's budget. They use

financial data from the past as well as projections for future income to
compose annual budgets. Accountants also prepare budgets for
individual departments and special projects within the company.

Related: What Is Cost Accounting?

Fraud

Accounting makes sure money is not mismanaged or wasted within

the company. They seek to protect the company's assets from internal
and external fraud, specifically through cybersecurity. An accountant
may specialize in securing digital financial data or hire an outside
business to protect the company's funds. They also scrutinize financial
data to make sure an employee is not mismanaging or embezzling
funds for company or personal gain.

What is an accountant?

An accountant is a business professional responsible for processing

and tracking financial data within a company. Accountants store and
analyze financial information. They actively track all funds entering
and exiting a company, making sure everything is documented and
accurate. They may work individually or as a team depending on the
size and needs of a business.

Accountants are involved in daily monetary functions like payroll and

invoicing. They also plan for future business decisions based on
financial reports and analysis by creating budgets. An accountant
works closely with management to evaluate business functions. They
may suggest changes to employee workflow to increase productivity
or point out a way to make a process more cost-effective.

An accountant directs funds for employee use and wages. They make
sure invoices are sent and paid. If a question arises about financial
resources, an accountant works to find the answer. Their overall goal
is to see that more money is coming in than going out of a company's
funds.

Accountants who earn a Certified Public Accountant (CPA)

certification can conduct audits of businesses or act as a consultant
and trainer to others in their field.

Related: What Is a CPA?

Types of accounting

Financial accounting

Financial accountants handle the daily use of funds within a company.

They are responsible for tracking all the money that flows in and out of
a business. They are in charge of making, receiving and documenting
payments.

Financial accounting departments use data from the past to analyze a

company's expenses. Accountants who work in this field create
statements intended for public use. They maintain structures for
reporting and filing all the financial transactions a business makes.
Accountants then use these systems to analyze how a business is
handling its finances. They report profits and losses so managers and
investors can see how a business is functioning.
Related: 16 Accounting Jobs That Pay Well

Managerial accounting

Managerial accounting departments analyze how internal processes

impact the finances of a business. They are interested in the future
and work to make financial predictions that benefit a company. They
take a look at the business as a whole to report trends that impact the
expenses and financial stability of a firm.

Managerial accountants generate reports to help a business increase

productivity and impact financial growth. Since managerial accounting
isn't for public view, accountants working in this field can use their
own methods and select data to advise company leaders regarding
trends and output.

Jobs in accounting

If you're interested in a career in accounting, you can choose from a

variety of jobs to start your career. Here are 10 possibilities for you to
consider:

1. [Certified Public Accountant (CPA)](https://www.indeed.com/q-

Certified-Public-Accountant-jobs.html)

2. Auditor

3. Investment accountant

4. Staff accountant

5. Financial planner

6. [Chief financial officer (CFO)](https://www.indeed.com/q-Chief-

Financial-Officer-jobs.html)

7. Tax manager

8. Cost accountant manager

9. Financial analyst
10. Accounting manager
Fra Luca Bartolomeo de Pacioli (sometimes Paccioli or Paciolo; c. 1447 – 19 June 1517)[3] was an
Italian mathematician, Franciscan friar, collaborator with Leonardo da Vinci, and an early contributor
to the field now known as accounting. He is referred to as "The Father of Accounting and
Bookkeeping" in Europe and he was the first person to publish a work on the double-entry system of
book-keeping on the continent.[4][a] He was also called Luca di Borgo after his birthplace, Borgo
Sansepolcro, Tuscany.

LIFE
Luca Pacioli was born between 1446 and 1448 in the Tuscan town of Sansepolcro where he
received an abbaco education. This was education in the vernacular (i.e., the local tongue) rather
than Latin and focused on the knowledge required of merchants. His father was Bartolomeo Pacioli;
however, Luca Pacioli was said to have lived with the Befolci family as a child in his birth town
Sansepolcro.[6] He moved to Venice around 1464, where he continued his own education while
working as a tutor to the three sons of a merchant. It was during this period that he wrote his first
book, a treatise on arithmetic for the boys he was tutoring. Between 1472 and 1475, he became
a Franciscan friar.[6] Thus, he could be referred to as Fra ('Friar') Luca.
In 1475, he started teaching in Perugia as a private teacher before becoming first chair in
mathematics in 1477. During this time, he wrote a comprehensive textbook in the vernacular for his
students. He continued to work as a private tutor of mathematics and was instructed to stop teaching
at this level in Sansepolcro in 1491. In 1494, his first book, Summa de arithmetica, geometria,
Proportioni et proportionalita, was published in Venice. In 1497, he accepted an invitation from
Duke Ludovico Sforza to work in Milan. There he met, taught mathematics to, collaborated, and lived
with Leonardo da Vinci. In 1499, Pacioli and Leonardo were forced to flee Milan when Louis XII of
France seized the city and drove out their patron. Their paths appear to have finally separated
around 1506. Pacioli died at about the age of 70 on 19 June 1517, most likely in Sansepolcro, where
it is thought that he had spent much of his final years.[6]

HOW ACCOUNTING STARTED?

How humans invented this

thing called accounting (a
brief history)
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


Everyone needs an accountant, or so the saying goes.
But why would that be? Accounting’s history can be
traced back thousands of years to the cradle of
civilisation in Mesopotamia and is said to have
developed alongside writing, counting and money. The
early Egyptians and Babylonians created auditing
systems, while the Romans collated detailed financial
information.
Some of the first accountants were employed around 300 BC in Iran, where tokens and
bookkeeping scripts were discovered. Around the first millennium the Phoenicians invented
an alphabetic system for bookkeeping, while the ancient Egyptians may have even
assigned someone the role of comptroller.

Italian roots

But the father of modern accounting is Italian Luca Pacioli, who in 1494 first described the
system of double-entry bookkeeping used by Venetian merchants in his Summa de
Arithmetica, Geometria, Proportioni et Proportionalita. While he was not the inventor of
accounting, Pacioli was the first to describe the system of debits and credits in journals and
ledgers that is still the basis of today's accounting systems.

With the onset of the industrial revolution in 1760, there was a proliferation of companies
and the need for more advanced accounting systems. The development of corporations
also created larger groups of investors, and more complex structures of ownership, all
requiring accounting systems to adapt.

Scotland modernises accounting

The modern profession also has its roots in Scotland in the mid-1800s when the Institute of
Accountants in Glasgow petitioned Queen Victoria for a Royal Charter, so accountants
could distinguish themselves from solicitors, as for a long time accountants had belonged to
associations of solicitors, which would offer accounting in addition to a firm’s legal services.
In 1854 the institute adopted ‘chartered accountant’ for its members, a term and
demarcation that still carries legal weight globally today.

The petition was signed by 49 Glaswegian accountants, and it argued that the accounting
profession had long existed in Scotland as a distinct profession of great respectability and
that the small number of practitioners had been rapidly increasing. The petition further
highlighted the varied skills required to be a professional accountant – in addition to
mathematical skills, an accountant needed to be acquainted with general legal principles, as
they were often employed by the courts to give evidence on financial matters – as they still
are today.

Industrial revolution

By the mid-1800s, the industrial revolution in Britain was well underway and London was
the financial centre of the world. With the growth of the limited liability company and large-
scale manufacturing and logistics, demand surged for more technically proficient
accountants capable of handling the growingly complex world of global transactions.

The increasing importance of accountants helped to transform accounting into a profession,

first in the UK and then in the US. In 1904 eight people formed the London Association of
Accountants to open the profession to a wider audience of people than was available
through the UK’s older associations. After several name changes the London Association of
Accountants adopted the name the Association of Chartered Certified Accountants (ACCA)
in 1996.

Importance of ethics

It’s not all been plain-sailing for the accountancy profession. The 21st century has seen
some dubious actions by accountants causing large-scale scandals. The Enron scandals in
2001 shook the accounting industry, for example. Arthur Andersen, one of the world’s
largest accounting firms at the time, went out of business. Subsequently, under the newly
introduced Sarbanes-Oxley Act, accountants now face harsher restrictions on their
consulting engagements. Yet ironically, since Enron and the financial crisis in 2008,
accountants have been greatly in demand, as corporate regulations have increased and
more expertise is required to fulfil reporting requirements.

HOW PEOPLE FROM EARLIER PERIOD MADE USE OF

ACCOUNTING?
Earliest Record of Accounting

At the time, people relied on accounting to keep a record of crop and herd growth.
They used accounting techniques that are still used today to determine if there was a
surplus or shortage after crops were harvested each season.
What is primitive accounting?

Primitive accounting methods crop up, in one form or another, in most major early
civilizations. The Phoenicians used primitive accounting to keep track of trade. Early
accounting methods also played a role in monitoring taxation and public spending
among the Greeks, Romans and Egyptians.

TYPES OF ACCOUNT

3 Different types of accounts in accounting are Real, Personal and

Nominal Account. Real account is then classified in two subcategories –
Intangible real account, Tangible real account. Also, three different sub-
types of Personal account are Natural, Representative and Artificial. In
this article, we will see the 3 golden rules of accounting with examples.
Let’s begin.

Types of Accounts – Real, Personal and Nominal

Account
Accounting is a process of recording, classifying and summarizing
financial transactions in a significant manner and interpreting results
thereof. Accounting is both science and art.
For every type of entity, whether it is large in size or small in size, it is
very important to have a proper system of accounting for proper
management of an entity’s business operations. An accountant must
have a good understanding of the terms used in accounting and types of
accounts.

An account is the systematic presentation of all the transactions related

to a particular head. An account shows the summarized records of
transactions related to a concerned person or thing.

For Example: when the entity deals with various suppliers and
customers, each of the suppliers and customers will be a separate
account.

An account may be related to things which can be tangible as well as

intangible. For example – land, building, furniture, etc. are things.

An account is expressed in a statement form. It has two sides. The left-

hand side of an account is called a Debit side whereas right-hand side is
called as Credit side. The debit is denoted as ‘Dr’ and credit is denoted
as ‘Cr’.
Classification of Accounts in Accounting

 Personal Account
 Real Account
o Tangible Real Account
o Intangible Real Account
 Nominal Account
Personal Account
These accounts types are related to persons. These persons may be
natural persons like Raj’s account, Rajesh’s account, Ramesh’s account,
Suresh’s account, etc.

These persons can also be artificial persons like partnership firms,

companies, bodies corporate, an association of persons, etc.

For example – Rajesh and Suresh trading Co., Charitable trusts, XYZ
Bank Ltd, C company Ltd, etc.
There can be personal representative accounts as well.

For example – In the case of Salary, when it is payable to employees, it

is known how much amount is payable to each of the employee. But
collectively it is called as ‘Salary payable A/c’.

Rule for this Account

Debit the receiver.

Credit the Giver.

For Example – Goods sold to Suresh. In this transaction, Suresh is a

personal account as being a natural person. His account will be debited
in the entry as the receiver.

Learn more about Accounting here in detail

Real Accounts
These account types are related to assets or properties. They are further
classified as Tangible real account and Intangible real accounts.

Learn more about Accounting Cycle here in detail.

Tangible Real Accounts

These include assets that have a physical existence and can be touched.
For example – Building A/c, cash A/c, stationery A/c, inventory A/c,
etc.
Intangible Real Accounts

These assets do not have any physical existence and cannot be touched.
However, these can be measured in terms of money and have value. For
Example – Goodwill, Patent, Copyright, Trademark, etc.

Real Account Rules

Debit what comes into the business.

Credit what goes out of business.

For Example – Furniture purchased by an entity in cash. Debit

furniture A/c and credit cash A/c.

Learn more about Classification of Accounting here in detail

Nominal Account
These accounts types are related to income or gains and expenses or
losses. For example: – Rent A/c, commission received A/c, salary A/c,
wages A/c, conveyance A/c, etc.

Rules

Debit all the expenses and losses of the business.

Credit the incomes and gains of business.

For Example – Salary paid to employees of the entity. Salary A/c will
be debited when the expenses are incurred. Whereas, when an entity
receives any interest, discount, etc these are credited whenever these are
received by the entity.
There are some other accounts in accounting as well:

 Cash Account – This account is used for keeping the records of

payments done by cash, withdrawals, and deposits.
 Income Account – Purpose of this account is to keep the record of
the income sources of business.
 Expense Account – This account tracks the expenditure of the
business.
 Liabilities – If there is any debt or loan then that amount comes
under liabilities.
 Equities – If there is an investment of the account owner or
common stocks, retained earnings then these will fall under equities.

Examples on Types of Accounts

Write the accounts affected and applicable rule in the below-
mentioned transactions.

1. Goods purchased for cash.

2. Cash Sales.
3. Sale of fixed assets
4. Payment of expenses.
Answer –

1. Debit Purchase account and credit cash account.

Rule Applicable: – Debit increase in expense or an asset. Credit

decrease in assets.
2. Debit Cash account and credit sales account.

Rule Applicable: – Debit Increase in assets. Credit Decrease in revenue

or assets.

3. Debit Expenses account and credit cash/bank account.

Rule Applicable: -Debit Increase in expense. Credit Decrease in assets.