Module – I – Introduction to Accounting

• Need and Forms of Accounting,

• Users of Accounting,
• concepts and conventions of Accounting,
• Accounting Standards,
• Relation of accounting with other disciplines,
• Accounting Cycle,
• Capital and revenue expenditure and receipts
Meaning and definition of Accounting
 Accounting is the language of finance. It conveys the financial position of the firm or
business to anyone who wants to know. It helps to translate the workings of a firm into
tangible reports that can be compared. So it is essential that we know the meaning of
accounting. Accounting is called as language of business.
 Account is summary of relevant business transactions at one place relating to a person,
asset, expense or revenue named.
 Accounting can be defined as keeping records of all financial transactions related to an
individual or an entity. And then there are pre-defined rules and procedures in the way a
transaction should be accounted for. This is what we call debit or credit, income or
expenditure, asset or liability. There are then rules on whether it would be an asset or an
expenditure and so on.
 Accounting is all about the process that helps to record, summarize, analyze, and report
data that concerns financial transactions. Accounting is a process of identifying and
measuring quantitative financial activities and communicates these financial reports to
the decision-makers.
Definition
 According to A. W. Johnson; “Accounting may be defined as the collection, compilation
and systematic recording of business transactions in terms of money, the preparation of
financial reports, the analysis and interpretation of these reports and the use of these
reports for the information and guidance of management”.
 According to the American Institute of Certified Public Accountants [AICPA];
“Accounting is the art of recording, classifying and summarizing in a significant manner
and terms of money, transactions and events, which are, in part at least, of a financial
character and interpreting the result thereof”.
Functions of Accounting
 Recording
 The first and foremost function that accounting looks forward to achieving is the
recording of the different transactions that are made within the firm. This can also be
referred to as book-keeping which is a process of recognizing the transactions and
setting them up as records.
 Book-keeping is only concerned with the recording segment and nothing else.
Accounting maintains a few books for the cause of recording. The maintenance of the
procedure happens in a systematic manner.
 The three different ways of recording are:
 Putting up a system that will help in maintaining the records.
 Tracking financial transactions.
 Aggregating the reports to present a final set of financial reports.
 Summarizing
 Raw data is generally the result of recording transactions. However, these raw data are
not of much significance to the organization. They have no part to play in the decision-
making process. As a result of this, the accountants divide these raw data into several
categories. So the recording of the transactions is then followed up by summarizing.
 Reporting
 The affairs in any company are the responsibility of the management. The owners must
know about the various operations happening within the firm using their money.
Therefore, to take care of this, owners receive reports. They receive these reports
quarterly and at the end, they receive an annual report that summarizes all their
performances.
 Analyzing
 Finally, there is an analysis of all the results so far. After recording and summary, it is
very important to draw conclusions. It is the responsibility of the management to check
for the positive and negative points.
 Therefore, to analyze all of this, accounting introduces the concept of comparison.
Comparing profits, sales, equity, and so on with one another to determine and analyze
the performance and growth of an organization.
 Objectives and Scope of Accounting
  To keep systematic records: Accounting is done to keep systematic record of financial transactions.
The primary objective of accounting is to help us collect financial data and to record it systematically to
derive correct and useful results of financial statements.
  To ascertain profitability: With the help of accounting, we can evaluate the profits and losses incurred
during a specific accounting period. With the help of a Trading and Profit & Loss Account, we can easily
determine the profit or loss of a firm.
  To ascertain the financial position of the business: A balance sheet or a statement of affairs indicates
the financial position of a company as on a particular date. A properly drawn balance sheet gives us an
indication of the class and value of assets, the nature and value of liability, and also the capital position of
the firm. With the help of that, we can easily ascertain the soundness of any business entity.
  To assist in decision-making: To take decisions for the future, one requires accurate financial
statements. One of the main objectives of accounting is to take right decisions at right time. Thus,
accounting gives you the platform to plan for the future with the help of past records.
  To fulfill compliance of Law: Business entities such as companies, trusts, and societies are being run
and governed according to different legislative acts. Similarly, different taxation laws (direct indirect tax)
are also applicable to every business house. Everyone has to keep and maintain different types of accounts
and records as prescribed by corresponding laws of the land. Accounting helps in running a business in
compliance with the law.
Types of Accounting
 Financial accounting.
 Managerial accounting.
 Cost accounting.
 Auditing.
 Tax accounting.
 Accounting information systems.
 Forensic accounting.
 Public accounting.
 Types of Accounting
 1. Financial Accounting
 This accounting is also termed as financial reporting as it is the procedure of generating financial
information for internal as well as external use in the form of financial statements. The financial
statements of every company reflect its past performance and present situation according to accounting
standards specified by the authority. The process of financial accounting involves certain accounting
conventions and rules and regulations which are supposed to implement by the accountant of the
company in preparation of financial statements.
 2. Management Accounting
 This accounting is majorly focused on the management of the company. It is primarily made for
internal use by the management of an organization and provided information shall be more detailed
than the information needed for the external use. This accounting helps in enabling effective control
and the fulfilment of the strategies made for the development of the company. Generally, this
accounting includes forecasting and budgeting of the projects for better results and profit maximization
in the company with the effective utilization of resources available in the company. It also includes the
report of past performance and its result. This accounting is mostly used by the corporates to deal with
its management while implementing new budgets and future policies.
 3. Public Accounting
 It is also known as Government accounting and it refers to the accounting which is used in the
public sector at large. Government accounting is necessary for the public companies because it has
different objectives according to state or central government and privately owned institutions.
Public accounting ensures the financial structure of the government as well as public sector
companies with the budgeted system provided under some money constraints. This accounting
shows the financial position of the public sector companies and shows the comparative analysis of
past performance with the current performance.
 4. Tax Accounting
 This is the type of accounting that is related to the matters of taxation. It is governed by the
jurisdiction of tax laws and prescribed rules and regulations. The taxation rules are varying from
the GAAP rules to support the differences. Tax accountants are generally prepared the financial
statements according to prescribed accounting regulations concerning taxation laws. The
information from this accounting is beneficial for the tax professionals to analyze the tax planning
and estimate the tax liability of the entities with tax implications added thereon.
 5. Forensic Accounting
 It is a different kind of accounting which is related to some investigation techniques. These
professionals are known as the Sherlock Holmes of the accounting world. They use an authentic
way of accounting by investigation and auditing in cases of litigation or accounting fraud or
disputes related to laws and regulations. The accountants of forensic accounting considered
experts in matters involving litigations or financial frauds.
 6. Project Accounting
 Project Accounting is an important constituent of project management. Accounting of these
projects is done through the accounting system in which there is a track of the financial progress
of a project via frequent financial reporting. It is a specialized branch of accounting and it
provides a competitive edge to the projects of the company. For project-oriented business it the
must accounting system as it provides good results.
 7. Social Accounting
 It is also called as Sustainability and Corporate Social Responsibility
Reporting. It is the process of analyzing the implication of ecological and
social environment factors that are related to the company. It is the form of
reporting in which environmental reports are prepared to be accompanying the
annual accounting reports of the companies.
 It refers to the process of accounting which deals with corporate social
responsibility and other environmental factors that are constituting the
company and evaluation of external environment factors that are necessary to
report to keep the track record of the changes with the past reports. However,
this accounting is new in the business era but is considered to be implemented
for good corporate governance. It is considered as the growing environmental
consciousness between the society at large.
Users of Accounting
 Internal users (primary users) – If a user of the information is part of the business itself then
he/she is considered as one of the internal or primary users of accounting information.
 For example, management, owners, employees, etc. The branch of accounting which deals with
internal users is called management accounting.
 External users (secondary users) – If a user of the information is an external party and is not
related to the business then he/she is considered as one of the external or secondary users of
accounting information.
 For example, potential investors, lenders, vendors, customers, legal and tax authorities, etc.
Basic Terms of Accounting
1. Entity : An entity is something that maintains a separate and distinct existence. In
business, an entity is an organizational structure that has its own goals, processes
and records. Examples of entities are sole proprietorships, partnerships, and
corporations.
2. Business Transaction : A Business Transaction is an economic event involving the
movement of money, goods, or services, usually between two or more parties.
These events must always be measurable in monetary terms so that the company can
record them for accounting purposes.
3. Assets: An asset is a resource with economic value that an individual, corporation, or
country owns or controls with the expectation that it will provide a future benefit.
Assets are reported on a company's balance sheet. They're classified as current,
fixed, financial, and intangible. They are bought or created to increase a firm's value or
benefit the firm's operations. An asset can be thought of as something that, in the
future, can generate cash flow, reduce expenses, or improve sales, regardless of
whether it's manufacturing equipment or a patent.
4. Liabilities : Liabilities are a company’s financial obligations, like the money a business
owes its suppliers, wages payable and loans owing, which can be found on a
business’s balance sheet. Examples of liabilities are - Bank debt, Mortgage debt,
Money owed to suppliers (accounts payable),Wages owed,Taxes owed.
5. Capital: The capital means the assets and cash in a business. Capital may either be cash,
machinery, receivable accounts, property, or houses. Capital may also reflect the capital gained in a
business or the assets of the owner in a company.
6.Drawings: A drawing account is an accounting record maintained to track money and other
assets withdrawn from a business by its owners. A drawing account is used primarily for businesses
that are taxed as sole proprietorships or partnerships.
7.Debtor : A Debtor is one of the major terms of accounting. A debtor is a person or an entity that
owes money to another, which could be any individual or institution (including the government). In
most cases, the debtor has to pay interest on debt along with the principal debt.
8.Creditor : A term used in accounting, 'creditor' refers to the party that has delivered a product,
service or loan, and is owed money by one or more debtors. A debtor is the opposite of a creditor –
it refers to the person or entity who owes money.
9. Net Worth: he amount by which the value of the assets exceed the liabilities is the net worth
(equity) of the business. The net worth reflects the amount of ownership of the business by the owners.
The formula for computing net worth is. Assets - Liabilities = Net Worth.
Net worth is the value of everything you own, both your financial and non-financial assets, minus any
debts you owe.
 10.Purchases :Goods bought for resale are called purchases. This may be in form of raw material or
finished goods. Purchase of assets is not called purchases because assets are not purchased for resale.
 Eg: If furniture are purchased for company then it is an asset and if it used for dealer in furniture then it is
an expenses….
 11.Purchases return :Goods once purchased by the business, are returned back due to any reason is
called purchase return or return outwards.
 12.Sales: When purchase goods are sold in order to earn a profit are called sales. When goods are sold
for cash it is called cash sales and goods sold on credit are called credit sales.
 13.Sales Return : Goods once sold to the customer when are returned back by them due to any reason
then such goods are called as sales returns or return inwards.
 14.Stock: These are those goods which are left unsold in the business at the end of the year. The goods
unsold at the end of the accounting year are called closing stock. The same stock is called opening
stock at the beginning of a new accounting year.
 15.Expenses and losses: The cost which business incurs for producing goods and services or for using
services is called expenses. These include payments made for wages, salaries, freight, advertisement,
rent, insurance etc. In other words, we can say that the cost of earning revenue is an expense.
 Loss: When expenses incurred are more than revenue then this excess of expenses is called loss. This
reduces the capital of the business.
 16.Income and Gains: That amount which increases the capital of the business is called income.
The excess of revenue over expenses is also called income.
 Income = Revenue - Expenses
 17.Profit :It is an excess amount of revenues over the related cost or expenses.
 Profit = Total revenues – Expenses
 18.Journal : An accounting journal is a detailed account of all the financial transactions of a
business. It’s also known as the book of original entry as it’s the first place where transactions are
recorded. The entries in an accounting journal are used to create the general ledger which is then
used to create the financial statements of a business.
 19.Ledger: A ledger is a book or digital record containing bookkeeping entries. Ledgers may
contain detailed transaction information for one account, one type of transaction, or—in the case of
a general ledger—summarized information for all of a company’s financial transactions over a
period. Ledgers are also known as the second book of entry. Ledgers contain the necessary
information to prepare financial statements.
 20.Posting: Posting means transferring the entries from the Journal to the Ledger accounts.
Recording of a transaction in the Journal is termed as Journalizing. Thus, when entries are posted
or transferred to the respective ledger accounts, this process is termed as posting
 21.Debiting and crediting: In double-entry accounting, debits refer to incoming money, and credits refer
to outgoing money. For every debit in one account, another account must have a corresponding credit of
equal value.
 A debit is an accounting entry that either increases an asset or expense account, or decreases a liability or
equity account. It is positioned to the left in an accounting entry.
 A credit is an accounting entry that either increases a liability or equity account, or decreases an asset or
expense account. It is positioned to the right in an accounting entry.
 22.Equity: Equity is the amount of money that a company's owner has put into it or owns. On a
company's balance sheet, the difference between its liabilities and assets shows how much equity the company
has. The share price or a value set by valuation experts or investors is used to figure out the equity value.
 23. Balance Sheet :A Balance Sheet is a reconciliation of assets (current and fixed) and liabilities (current and
noncurrent), and capital invested in an organization. Stakeholders such as creditors, shareholders, and
banks, which have granted loans to the organization and government, use the Balance Sheet to analyze the
financial position, growth, and stability.
 24. Income Statement
 The Income statement forms part of the financial statements and tells us the exact position of our gross and
net profit at a particular cut-off date. It is done by recording all the direct incomes and closing stock on the
credit side and all direct expenses and opening stock on the debit side to find the gross profit and all the
indirect incomes and indirect expenses similarly to find out the net profit.
Profit and loss account
Balance sheet: is a statement of assets and liabilities to know financial performance of
the company.

 A balance sheet presents a listing of an organization’s assets and liabilities at a

certain point in time.
 The difference between assets and liabilities is called equity.
 The balance sheet is designed using the basic accounting equation:
 Assets = Liabilities + Owners’ Equity…
Balance sheet for the year ending 31/3/2018…
Accounting Cycle/Process
The following table lists down the steps followed in an accounting process:

1. Collecting and Analyzing Accounting It is a very important step in which you examine
Documents the source documents and analyze them. For
example, cash, bank, sales, and purchase
related documents. This is a continuous process
throughout the accounting period
2. Posting in Journal On the basis of the above documents, you pass
journal entries using double entry system in which
debit and credit balance remains equal. This
process is repeated throughout the accounting
period.
3.Posting in Ledger Accounts Debit and credit balance of all the above accounts
affected through journal entries are posted in ledger
accounts. A ledger is simply a collection of all
accounts. Usually, this is also a continuous process
for the whole accounting period.
4. Preparation of Trial Balance As the name suggests, trial balance is a summary of
all the balances of ledger accounts irrespective of
whether they carry debit balance or credit balance.
Since we follow double entry system of accounts,
the total of all the debit and credit balance as
appeared in trial balance remains equal. Usually,
you need to prepare trial balance at the end of the
said accounting period.
5. Posting of Adjustment Entries In this step, the adjustment entries are first passed
through the journal, followed by posting in ledger
accounts, and finally in the trial balance. Since in most
of the cases, we used accrual basis of accounting to
find out the correct value of revenue, expenses, assets
and liabilities accounts, we need to do these adjustment
entries. This process is performed at the end of each
accounting period.

6. Adjusted Trial Balance Taking into account the above adjustment entries, we create
adjusted trial balance. Adjusted trial balance is a platform to
prepare the financial statements of a company

7. Preparation of Financial Statements Financial statements are the set of statements like Income
and Expenditure Account or Trading and Profit & Loss
Account, Cash Flow Statement, Fund Flow Statement,
Balance Sheet or Statement of Affairs Account. With the
help of trial balance, we put all the information into financial
statements. Financial statements clearly show the financial
health of a firm by depicting its profits or losses.

8. Post-Closing Entries All the different accounts of revenue and expenditure of the
firm are transferred to the Trading and Profit & Loss
account. With the result of these entries, the balance of all
the accounts of income and expenditure accounts come to
NIL. The net balance of these entries represents the profit or
loss of the company, which is finally transferred to the
owner’s equity or capital account. We pass these entries
only at the end of accounting period
 Accounting Concepts
 Accounting concept refers to the basic assumptions and rules and principles which
work as the basis of recording of business transactions and preparing accounts. The
main objective is to maintain uniformity and consistency in accounting records.
These concepts constitute the very basis of accounting. All the concepts have been
developed over the years from experience and thus they are universally accepted
rules. Following are the various accounting concepts that have been discussed in the
following sections :
 Business entity concept
 Money measurement concept
 Going concern concept
 Accounting period concept
 Accounting cost concept
 Duality aspect concept
 Realization concept
 Accrual concept
 Matching concept
1.Business entity Concept
 This concept assumes that, for accounting purposes, the business enterprise and its owners are
two separate independent entities. Thus, the business and personal transactions of its owner are
separate. For example, when the owner invests money in the business, it is recorded as liability of
the business to the owner. Similarly, when the owner takes away from the business cash/goods for
his/her personal use, it is not treated as business expense.
 Suppose Mr. Sajid ,started business investing Rs.1,00,000. He purchased goods for Rs.40,000,
Furniture for Rs.20,000 and plant and machinery of Rs.30,000. Rs.10,000 remains in hand. These
are the assets of the business and not of the owner.
 According to the business entity concept Rs.1,00,000 will be treated by business as capital i.e. a
liability of business towards the owner of the business. Now suppose, he takes away Rs.5000 cash
or goods worth Rs.5000 for his domestic purposes.
 This withdrawal of cash/goods by the owner from the business is his private expense and not an
expense of the business. It is termed as Drawings. Thus, the business entity concept states that
business and the owner are two separate/distinct persons. Accordingly, any expenses incurred by
owner for himself or his family from business will be considered as expenses and it will be shown
as drawings.
 2.Money measurement Concept
 In accounting, everything is recorded in terms of money. Events or transactions which cannot
be expressed in terms of money are not recorded in the books of accounts, even if they are
very important or useful for the business. Purchase and sale of goods, payment for expenses
and receipt of income are monetary transactions which find place in accounting.
 Death of an executive, resignation of a manager, integrity of persons are the events which
cannot be expressed in money. These are not included in accounting systems. Transactions
which affect business materially but not convertible in money cannot be recorded in the
books of accounts.
 To assess financial health of business it is necessary to decide total value of assets &
liabilities. e.g. A business concern has a big building constructed on a plot of 1000 sq. ft.,
furniture consisting of 20 chairs, 10 tables and 10 Godrej cupboards, amount to be received
from the customers for 5000 units sold on credit, amount payable to supplier for 300 units
purchased. From the above details it is very difficult to assess financial health unless the
above items are expressed in terms of money.
 It is clear that non‐monetary events cannot be recorded in the books of accounts. The
transactions, events or assets which are expressed in terms of equivalent monetary value
are recorded in the books of accounts.
 3.Going Concern Concept: (CONTINUITY OF ACTIVITY)
 Enterprise is normally viewed as a going concern that is continuing in operation for the
foreseeable future. It is assumed that the enterprise has neither the intention nor the
necessity of liquidation of curtailing materially the scale of the operation. It is assumed that
the business concern will continue for a fairly long time, unless & until it has entered into a
state of liquidation.
 It does not imply permanent existence but simply stability & continuity for a period
sufficient to carry business plans. It implies that assets are acquired for utilization & not for
sale. Similarly, depreciation on assets is provided on the basis of expected lives of the
assets rather than on their market values.
 e.g. :‐ If book value of a machine is Rs.1,00,000/‐ and net realizable value is Rs.80,000/‐
businessman will ignore realizable value and provide depreciation on book value.
 This is an important assumption of accounting, as it provides a basis for showing the value
of assets in the balance sheet. For example, a company purchases a plant and machinery
of Rs.1,00,000 and its life span is 10 years. According to this concept every year some
amount will be shown as expenses and the balance amount as an asset.
 Thus, if an amount is spent on an item which will be used in business for many years, it
will not be proper to charge the amount from the revenues of the year in which the item is
acquired. Only a part of the value is shown as expense in the year of purchase and the
remaining balance is shown as an asset.
 4.Accounting Period Concept
 All the transactions are recorded in the books of accounts on the assumption that profits
on these transactions are to be ascertained for a specified period. This is known as
accounting period concept. Thus, this concept requires that a balance sheet and profit
and loss account should be prepared at regular intervals. This is necessary for different
purposes like, calculation of profit, ascertaining financial position, tax computation etc.
 Further, this concept assumes that, indefinite life of business is divided into parts. These
parts are known as Accounting Period. It may be of one year, six months, three months,
one month, etc. But usually one year is taken as one accounting period which may be a
calendar year or a financial year.
 As per accounting period concept, all the transactions are recorded in the books of
accounts for a specified period of time. Hence, goods purchased and sold during the
period, rent, salaries etc. paid for the period are accounted for and against that period
only.
 5.Accounting Cost Concept
 Accounting cost concept states that all assets are recorded in the books of accounts at
their purchase price, which includes cost of acquisition, transportation and installation
and not at its market price. It means that fixed assets like building, plant and machinery,
furniture etc are recorded in the books of accounts at a price paid for them.
 For example, a machine was purchased by XYZ Limited for Rs.5,00,000, for
manufacturing shoes. An amount of Rs.1,000 were spent on transporting the machine to
the factory site. In addition, Rs.2000 were spent on its installation. The total amount at
which the machine will be recorded in the books of accounts would be the sum of all
these items i.e. Rs.5,03,000. This cost is also known as historical cost.
 Suppose the market price of the same is now Rs 90,000 it will not be shown at this
value. Further, it may be clarified that cost means original or acquisition cost only for
new assets and for the used ones, cost means original cost less depreciation. The cost
concept is also known as historical cost concept.
 The effect of cost concept is that if the business entity does not pay anything for
acquiring an asset this item would not appear in the books of accounts. Thus, goodwill
appears in the accounts only if the entity has purchased this intangible asset for a price.
 6.Dual Aspect Concept
 As per this concept, every business transaction has a dual effect. According to Dual
Aspect
 Concept, every transaction has two aspects :‐
 1) It increases one asset and decreases another asset.
 2) It increases an asset and simultaneously increases liability.
 3) It decreases an asset and increases another asset.
 4) It decreases an asset and decreases a liability.
 5) It increases one liability and decreases another liability.
 6) It increases a liability and increases an asset.
 7) It decreases liability and increases other liability.
 8) It decreases a liability and decreases an asset.
 Example:‐If goods are purchased on cash basis for Rs.1,00,000 then stock of goods is
increased and balance of cash is decreased.
7.Realisation Concept
 This concept states that revenue from any business transaction should be included in the
accounting records only when it is realized. The term realization means creation of legal
right to receive money. Selling goods is realization, receiving order is not.
 In other words, it can be said that, Revenue is said to have been realized when cash has
been received or right to receive cash on the sale of goods or services or both has been
created.
 Consider a case where a company receives an order in April, posts the goods in May, and
receives payment in June.
 In this case, under the realization principle, revenue is earned in May (i.e., when the
transfer took place, notwithstanding the fact that the order was received in April and cash
was received in June).
 As another example, consider that Mr. A sells goods worth Rs.2,000 to Mr. B. The latter
consents that the goods will be transferred after 15 days. Upon receiving the goods, Mr. B
makes the payment after 10 days.
 In this second example, according to the realization principle of accounting, sales are
considered when the goods are transferred from Mr. A to Mr. B.
8.Accural Concept
 Accrual concept is the most fundamental principle of accounting which requires
recording of revenues when they are earned and not when they are received in cash and
recording of expenses when they are incurred and not when they are paid.
 GAAP allows preparation of financial statements on accrual basis only (and not on cash
basis). This is because under accrual concept revenues and expenses are recorded in
the period to which they relate and not when they are received or paid.
 Application of accrual concept results in accurate reporting of net income, assets,
liabilities and retained earnings which improves analysis of the company’s financial
performance and financial position over different periods.
 At the end of each reporting period, companies pass adjusting journal entries to record
any accruals, for example accrual of utilities expense, interest expense, accrual of
wages and salaries, adjustment of prepayments, etc.
9.Matching Concept
 As per this concept, expenses of a period should be matched with the revenues of that
period.
 It says, the cost incurred to earn the revenue should be recognized as expenses in the
period when revenue is recognized.
 Matching principle requires that all revenues earned during an accounting year, whether
received or not and all cost incurred, whether paid or not, have to be taken into account
while preparing Profit/Loss Account.
 In the same manner all amounts received or paid during the current year but pertaining
to the previous year or the next year should be excluded from current year’s revenue
and cost.
 The term matching means appropriate association of related revenues and expenses.
 Accounting Conventions
 Accounting conventions are standards, customs or guidelines regarding the
application of accounting rules. Accounting conventions provide a standardized
methodology that creates a reliable means of comparing financial results from
industry to industry and from year to year.
 1.Convention of Consistency
 To compare the results of different years, it is necessary that accounting rules,
principles, conventions and accounting concepts for similar transactions are
followed consistently and continuously. Reliability of financial statements may be
lost, if frequent changes are observed in accounting treatment. For example, if a
firm chooses cost or market price whichever is lower method for stock valuation
and written down value method for depreciation to fixed assets, it should be
followed consistently and continuously.
 Consistency also states that if a change becomes necessary, the change and its
effects on profit or loss and on the financial position of the company should be
clearly mentioned.
 2.Convention of Disclosure
 The Companies Act, 1956, prescribed a format in which financial statements
must be prepared. Every company that fall under this category has to follow
this practice. Various provisions are made by the Companies Act to prepare
these financial statements. The purpose of these provisions is to disclose all
essential information so that the view of financial statements should be true
and fair. However, the term ‘disclosure’ does not mean all information. It means
disclosure of information that is significance to the users of these financial
statements, such as investors, owner, and creditors.
 This is also known as the “Full disclosure” principle.
 According to this convention, all significant information should be fully and
fairly disclosed in the financial statements.
 Ensuring this convention increases the relevance and reliability of financial
statements. The companies act make ample provision for disclosure of
essential information.
 3.Convention of Materiality
 If the disclosure or non-disclosure of an information might influence
the decision of the users of financial statements, then that information
should be disclosed.
 According to the convention of materiality, accountant should record
only those items which are material and ignore all insignificant items.
 An item is said to be material if it is likely to influence the decision of
the users. (like investors etc.)
 Judgement of materiality depends from organization to organization
and on the basis of professional experience and judgement.
4.Conservation or Prudence
 The concept of conservatism states that we should not anticipate a profit
but should provide for all possible losses while preparing financial
statements.
 It enables the financial statements to show a realistic picture of the state
of affairs of the enterprise.
 This convention understates the assets and overestimates the liabilities.
 Financial statement are usually drawn up on a conservative basis.
 Choice between two method of valuing an asset the accountant should
choose a method which leads to lesser value.
 Example:
 Valuing stock at lower of cost or market value, making provision for
doubtful debts in anticipation of debts becoming bad, are done to comply
with the convention of conservatism.
 Accounting Standards
 An accounting standard is a standardized guiding principle that determines the policies and
practices of financial accounting. Accounting standards not only improve the transparency of
financial reporting but also facilitates financial accountability.
 An accounting standard is relevant to a company’s financial reporting. Some common examples of
accounting standards are segment reporting, goodwill accounting, an allowable method for
depreciation, business combination, lease classification, a measure of outstanding share, and
revenue recognition.
 The Generally Accepted Accounting Principles (GAAP) is the primary accounting standard adopted
by the U.S. Securities and Exchange Commission (SEC). GAAPs were designated in the United
States and form the basis of accepted accounting standards for preparing and reporting financial
statements across the world.
 The International Accounting Standards Board (IASB) provides rule-based and principle-based
accounting guidelines for international companies that are based outside the U.S. The International
Accounting Standards (IAS) are intended to achieve the uniformity of approach and identity of
meaning. Accounting standards of a specific country are strongly influenced by its governance
arrangement and tax policy.
 These Accounting Standards (AS) are issued by an accounting body or a regulatory
board or sometimes by the government directly. In India, the Indian Accounting
Standards are issued by the Institute of Chartered Accountants of India (ICAI).
 Accounting Standards mainly deal with four major issues of accounting, namely
 Recognition of financial events
 Measurement of financial transactions
 Presentation of financial statements in a fair manner
 Disclosure requirement of companies to ensure stakeholders are not misinformed
 All aspects of a company which are included in financial statements and reports are
bound by the accounting standards for the state in which the company operates. While
international companies follow International Financial Reporting Standards, non-
international companies adhere to the accounting standards of their respective states.
 All aspects pertaining to a company's finance are regulated by accounting standards,
these include; the company's assets, liabilities, revenue, equity, among others. There are
different accounting standards to suit different forms of finance. Allowable methods for
depreciation, asset classification and revenue recognition are some examples of
accounting standards.
Types of Accounting
 Accounting is a vast and dynamic profession and is constantly adapting itself to the specific and
varying needs of its users. Over the past few decades, accountancy has branched out into
different types of accounting to cater for the diversity of needs of its users.
 Financial Accounting, or financial reporting, is the process of producing information for external
use usually in the form of financial statements. Financial Statements reflect an entity's past
performance and current position based on a set of standards and guidelines known as GAAP
(Generally Accepted Accounting Principles). GAAP refers to the standard framework of guideline
for financial accounting used in any given jurisdiction. This generally includes accounting
standards (e.g. International Financial Reporting Standards), accounting conventions, and rules
and regulations that accountants must follow in the preparation of the financial statements.
 Management Accounting produces information primarily for internal use by the company's
management. The information produced is generally more detailed than that produced for
external use to enable effective organization control and the fulfillment of the strategic aims and
objectives of the entity. Information may be in the form budgets and forecasts, enabling an
enterprise to plan effectively for its future or may include an assessment based on its past
performance and results. The form and content of any report produced in the process is purely
upon management's discretion
 Governmental Accounting, also known as public accounting or federal accounting, refers to the
type of accounting information system used in the public sector. This is a slight deviation from the
financial accounting system used in the private sector. The need to have a separate accounting
system for the public sector arises because of the different aims and objectives of the state owned
and privately owned institutions. Governmental accounting ensures the financial position and
performance of the public sector institutions are set in budgetary context since financial
constraints are often a major concern of many governments. Separate rules are followed in many
jurisdictions to account for the transactions and events of public entities.
 Tax Accounting refers to accounting for the tax related matters. It is governed by the tax rules
prescribed by the tax laws of a jurisdiction. Often these rules are different from the rules that
govern the preparation of financial statements for public use (i.e. GAAP). Tax accountants
therefore adjust the financial statements prepared under financial accounting principles to account
for the differences with rules prescribed by the tax laws. Information is then used by tax
professionals to estimate tax liability of a company and for tax planning purposes.
 Forensic Accounting is the use of accounting, auditing and investigative techniques in cases of
litigation or disputes. Forensic accountants act as expert witnesses in courts of law in civil and
criminal disputes that require an assessment of the financial effects of a loss or the detection of a
financial fraud. Common litigations where forensic accountants are hired include insurance
claims, personal injury claims, suspected fraud and claims of professional negligence in a
financial matter (e.g. business valuation).
 Project Accounting refers to the use of accounting system to track the financial progress of a
project through frequent financial reports. Project accounting is a vital component of project
management. It is a specialized branch of management accounting with a prime focus on
ensuring the financial success of company projects such as the launch of a new product. Project
accounting can be a source of competitive advantage for project-oriented businesses such as
construction firms.
 Social Accounting, also known as Corporate Social Responsibility Reporting and Sustainability
Accounting, refers to the process of reporting implications of an organization's activities on its
ecological and social environment. Social Accounting is primarily reported in the form of
Environmental Reports accompanying the annual reports of companies. Social Accounting is still
in the early stages of development and is considered to be a response to the growing
environmental consciousness amongst the public at large.
Classification and Types of Accounts
 We record business transactions in accounts. Thus, an account is an individual and a
formal record of a person, firm, company, asset, liability, goods, incomes and expenses.
We need to prepare one account for each type of asset, liability, income or expense.
 For Example: we record all the transactions related to a particular item in its account. For
example, all-cash transactions whether receipts or payments will be recorded in the
Cash A/c. After this, we will calculate the balance of Cash A/c.
 The classification of accounts is important.
 I. Personal Accounts
 We further classify these as:
 Natural Personal Accounts
 Artificial Personal Accounts
 Representative Personal Accounts
Let us study these accounts in detail.

 Natural Personal Accounts: Natural Persons are human beings. Therefore, we include the
accounts belonging to them under this head. For instance, Debtors, Creditors, Capital A/c,
Drawings A/c, etc.
 Artificial Personal Accounts: Artificial persons are not human beings but can act and work
like humans. They have a separate identity in the eyes of law and are capable to enter into
agreements. These include H.U.F, partnership firms, insurance companies, co-operative
societies, companies, municipal corporations, hospitals, banks, government bodies, etc.
For example, Bank of Baroda, Oriental Insurance Co,
 Representative Personal Accounts: These accounts represent the accounts of natural or
artificial persons. When the expenses become outstanding or pre-paid and incomes
become accrued or unearned, they fall under this category. For example, Outstanding
Salary A/c, Pre-paid Rent A/c, Accrued Interest A/c, Unearned Brokerage A/c, etc.
II. Impersonal Accounts: are further classified as

 I. Real Accounts:
 II. Nominal Accounts
 I. Real Accounts: These are the accounts of all the assets and liabilities of the
organization. We do not close these accounts at the end of the accounting year and
appear in the Balance Sheet. Thus, we carry forward the balances of these accounts to
the next accounting year. Therefore, we can also say that these are permanent accounts.
We can further classify these into:
 Tangible Real Account: It consists of assets, properties or possessions that can be
touched, seen and measured. For example, Plant A/c, Furniture and Fixtures A/c, Cash
A/c, etc.
 Intangible Real Account: It consists of assets or possessions that cannot be touched, seen
and measured but possess a monetary value and thus can be purchased and sold also.
For example, Goodwill, Patents, Copyrights, etc.
 II. Nominal Accounts: Nominal Accounts are the accounts relating to the expenses,
losses, incomes, and gains. These are temporary accounts and thus we need to transfer
their balances to Trading and Profit and Loss A/c at the end of the accounting year.
Therefore, these accounts have no balance to be carried forward next year as they are
closed.
 Rules for Debit and Credit for all types of accounts:

 Personal Account:
 Debit the Receiver
 Credit the Giver
 Real Account:
 Debit what comes in
 Credit what goes out
 Nominal Account:
 Debit all expenses and losses
 Credit all incomes and gains
 Representative Personal Account:
 Debit the Debtor
 Credit the Creditor