Accounting is the language of business.

Businesses ride on good accounting. Accountants are the silent foot soldiers who engage in the real battle from letting the camp lose. They prevent the ship from sinking and the captain from going down with the ship.

The process of recording financial transactions in a business is called accounting. This includes documenting, tracking, summarizing, analyzing, and reporting these transactions to the management of the company for effective decision-making.

The Basic Accounting Concepts

Accounting
Branches of Accounting. | Source: IndiaMART

If you are looking to pursue a career in accounting, then you need to first understand the basic accounting rules, concepts, standards, and principles.

Entity Concept

This is the most popular accounting concept and to avoid confusion between personal and business accounts. Here, assets and liabilities are documented and reported separately. The transactions and expenses of the business are also separated to ensure they do not get mixed with the owner's personal accounts. This is particularly helpful in calculating the tax liabilities of the company. 

Accruals Concept

An accrual is a journal entry, used to document and recognize revenues and expenses that have been earned and spent, respectively. The defining factor of this concept is that the related cash amounts that have been obtained or spent are yet to be received or paid out. 

Going Concern Concept

This is a one-of-a-kind accounting concept. It works on the assumption that companies will stay in business for an indefinite period of time, and will function according to current plans. Companies use this assumption to their advantage to spread the cost of an asset over this expected company life cycle instead of having to accelerate expenses immediately. This is again done using another assumption that the company will successfully meet its financial obligations with the help of its existing assets.

Conservatism Concept

The essential accounting concept is most beneficial if you are drawing up your risk mitigation plans. It prepares you for a phase of anticipatory loss or zero profits. This is useful in ensuring that financial statements do not overstate the entity's financial position or prosperity.

Realization Concept

Also called the recognition concept indicates the amount of revenue that should be recorded from a specific sale. It is similar to the conservatism concept in that it only accounts for revenue when money for goods and services sold, is actually received by the seller.

Matching Concept

Used as a major concept in cost accounting, the matching idea requires costs to be paired with revenues earned by the company. It comes with a qualification requirement that the realization concept must have been applied before the matching is done.

Materiality Concept

Not every financial transaction needs to be recorded by an accountant. The materiality concept allows for this. According to many accounting experts and laws, an accountant does not have to record any material or object that is considered immaterial.

Consistency Concept

Once a business decides on the most relevant and appropriate accounting concept, it must ensure consistency in its financial accounting process to avoid discrepancies in the future.

Dual-Aspect Concept

This concept involves the double-entry bookkeeping system. This requires that every single business transaction must be recorded in at least two different accounts. This can be understood using the following equation:

Assets = Liabilities + Equity

Cost Concept

The cost concept requires accountants to record an asset, liability, or equity at the original acquisition cost. The problem with this concept is that these assets change their market values over time. In case the company wants to liquidate any of these assets, it is a difficult task to ascertain the precise value of the asset at the point in time.

Find out more about the basic accounting concepts.

Accounting Definition and Key Terms

Accounting
Accounting is one of the most sought-after professions in the world. | Source: FreeEducator

Assets

An asset is any resource owned by a business or an economic entity. A company, as soon as it is set up, comes to own a significant number of assets. These are resources that have future value, implying those that can be liquidated against any legal currency.

Balance Sheets

A balance sheet is a glimpse or summary of the assets, liabilities, and the capital of a business at a particular point in time, detailing the income and expenditure flow over the preceding period.

General Ledger

A ledger is a system of record-keeping of a company's financial data with debit and credit accounts validated by a trial balance, during the entire life of an operating company.

Credits and Debits

Every single business transaction is either a credit or a debit flow, and an account ledger requires both. You will find the debits on the left and credits on the right of a balance sheet. The account where the money is coming from is credited on the right-hand side, and the money where the transaction is going is debited on the left-hand side.

Revenue

Revenue can be defined as the total sum of money that flows into a company over a certain period of time. It is used to calculate net profits, which can either be positive (meaning the company has profited) or negative (meaning the company has incurred losses).

Capital

Simply put, the wealth of a company, either in the form of money or other assets, constitutes its capital. The financial well-being of a business is hugely dependent on the proportion of its capital at any given point in time.

Cash Flow

Cash flow can be defined as the total amount of money flowing in and out of a business.

Find out more about accounting and its key terms. 

What is Double Entry Bookkeeping?

Double entry, a fundamental concept underlying present-day bookkeeping and accounting, states that every financial transaction has equal and opposite effects in at least two different accounts.

An accountant has to follow certain steps in order to complete the system of double-entry bookkeeping:

  1. Journal entry: The first step is to record the transaction. This is done in bookkeeping journals every time a transaction takes place.
  2. Ledger entry: This step requires the classification of the transactions. While the journal records all sorts of transactions, the ledger is a more streamlined record of categories of transactions. This smoothens the process of reading financial data later.
  3. Trial balance: The ledger step helps in arriving at the closing balance. This is then transferred to the trial balance for summarization.
  4. Final accounts: This is the final step in the double-entry bookkeeping system. This is essentially the reporting of accounts that capture a holistic view of the financial well-being of the company. Note that this last step is also critical to management decision-making.

What is the Best Accounting Software?

smart business
Accounting software has ushered in a new era of financial efficiency in business.

Busy is one of the topmost accounting software in the world. The Busy accounting software has more than 3,00,000 licenses sold worldwide and is easily the leader in the Indian market. It offers excellent features, custom-made for Indian businesses. It offers services in the following domains:

  • Multi-currency financial accounting.
  • Multi-location inventory management.
  • Material production or bill.
  • Purchase or sales quotations. 
  • Sales or purchase order processing.
  • Complete user-configuring invoices.
  • Letters or other documents with user-configuring option.
  • GST invoicing and reports.
  • Tax documentation and reporting.
  • Support in MIS report and analysis. 

Know more about other accounting software available in the market.

Understanding Profit and Loss Account and Balance Sheet in Accounting

A profit and loss statement or a profit and loss account in the balance sheet summarises the revenues, costs, and expenses that were incurred by a company in a specific fiscal period, usually a year or a quarter. This account is very important in analyzing the business's earning potential and feasibility for sustenance in the future. 

There are other common terms assigned to a profit and loss account like an income statement, or statement of operations, or statement of financial results, or an income and expense statement. All of them refer to the one and the same thing.

Find out how to read a profit and loss account statement.

Financial Accounting Definition and Key Concepts

Among the many branches of accounting, financial accounting is arguably the most popular. Financial accounting is the process of tracking and accurately documenting financial records in a company. This process allows you to account for an organization's revenues, receivables, and expenses. They are finally consolidated and drafted in the financial statement, to be presented to the management for decision-making regarding company strategies.

This process is extremely important to allow businesses to meet legal compliances and helps companies adhere to fiscal and statutory requirements as mandated by domestic laws. For business owners, this is the key to informed and effective decision-making.

Do you wish to pursue a career in financial accounting? If yes, then find out more about what financial accounting is all about.

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Pragnajyoti

Doctor, dog lover, traveler..