Accounting Assumption

9 September 2016

An economic entity can be any organization or unit in society. It may be a company, government unit, a municipality, a school district, or a church. The economic entity assumption requires that the activities of the entity be kept separate and distinct from the activities of its owner and all other economic entities (Weygandt, Kimmel, & Kieso, Financial Accounting). The accounting profession has developed standards that are generally accepted and university practiced.

This common set of standards are called generally accepted accounting principles (GAAP), indicate how to report economic events. The Securities and Exchange Commission (SEC) is the agency of the United States government that oversees U. S. financial markets and accounting standard-setting bodies. There are four principles of accounting. They are the cost principle. Business are required to record and report assets based on the actual cost incurred to acquire them rather than the free market value of the acquired asset themselves.

Accounting Assumption Essay Example

The idea behind this principle is that this method of recording and reporting is reliable and lessens the opportunity for factors such as biased market values to interfere with the accounting. However, this method may be viewed as irrelevant as it relates to the actual value of assets. The second principle is the accrual principle. Businesses are required to record and report revenue at the time it is earned and realized by the business, not when the cash for the revenue is received by the business.

This method is known as accrual basis accounting. The purpose of this principle is to actually show what work has been completed and not what is to be done in the future. The third principle is the matching principle. This principle allows for real time analysis of the expenses and revenues. Using this principle will show just how well the business has done financially and how effective it was. Somewhat like the accrual principle, expenses in this case can only be recorded and reported when revenue is to which such expenses are related was earned.

The fourth principle is the Disclosure Principle. The accounting records of a business must be disclosed so that judgment about the financial status of a business can be easily made. However, the disclosure of accounting and financial information should not cause the business to accrue unreasonable expenses or cause erroneous opinions (ezinearticle. com). The constraints of accounting refer to the limitations to providing financial information that exist in the financial reporting environment.

Financial reporting must follow the generally accepted accounting principles or GAAP. The constraints of accounting permit certain variations from the basic accounting principles in reporting a company’s financial information. Financial reporting is not cost free because companies must spend time and money to collect, process, analyze, and disseminate relevant information. In deciding what to include in a financial reporting, companies must weigh the costs of providing particular information against the benefits that can be derived from using this information.

Therefore, companies may not require particular accounting measurements or disclosures if the cost of implementing them exceeds the benefits accrued to users of the information. The GAAP does depend on principles, assumptions and constraints for sound financial reporting. The GAAP uses these accounting principles because such standards were needed to be established for the purpose of holding organizations responsible for truthful and relevant documentation and records.

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