BASIC ACCOUNTANCY PROCEDURES | AFB IMP NOTES 2023
The post is on the Accounting Procedures, a very important topic of AFB paper for JAIIB Exams of NOV 2023.
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Let me introduce you to our topic…. Like there are several rules to follow while walking or driving on the road to allow smooth traffic, similarly, there are accounting rules that an accountant should follow when recording business transactions. They can be also be called as accounting concepts which get applied in basic accounting procedures.
So it can rightly be said that:
“The term accounting concepts refers to the basic rules, assumptions and principles that act as the primary standard for recording business transactions and keeping books of accounts”.
OBJECTIVES: Here are the objectives of the accounting concept that are always seen among the accounting procedures:
- PROVIDE PRINCIPLES: Accounting concepts act as a basic principle that helps accountants in preparing and maintaining business records.
- UNIFORM APPROACH: The primary goal of accounting is to maintain uniformity and regularity in the preparation of financial statements.
- SIMPLIFICATION: The goal is to understand the business rules and regulations that all types of business entities must comply with, thereby simplifying detailed and comparable financial information.
We will discuss the following Accounting concepts:
- Going Concern Entities;
- Double entry system;
- The principle of conservatism;
- revenue accounting and realization;
- Accrual and cash basis.
The concept of “going concern” says that one should assume that their business is in good financial health and that it will remain in business for the foreseeable future. This sometimes allows companies to defer the recognition of certain costs to future accounting periods.
Of course, the accountant or auditor may come to a different conclusion if there is evidence that the business cannot repay its loan or meet other obligations. In such a case, the company may begin to consider the liquidation value of the assets.
THE PRINCIPLE OF CONSERVATISM
Under the concept of conservatism, income and expenditure are treated differently. Businesses should only record revenue when there is reasonable certainty that it will be recognized, such as through a purchase order or signed invoice.
However, businesses should recognize expenses earlier when there is even a reasonable possibility that they will occur. This weighs in favor of financial statements which are more conservative. For cash flow purposes, it’s better to overestimate your expenses than your income.
ACCRUAL AND CASH BASIS: There are 2 main accounting methods you can use: accrual accounting and cash accounting.
Accrual Basis: Financial statements relate revenues and expenses to the periods in which they were incurred. For example, the accrual method would account for receivables as soon as the invoice is sent – regardless of when the invoice is actually paid.
Cash Basis: Financial statements in this case reflect income and expenses only when they are actually received or paid. For example, this method would not take accounts receivable into account. Instead, revenue would be recorded only after the invoice is paid.
Many businesses start out with cash-basis accounting, but accrual-basis financial statements give you a much better understanding of business’s financial situation. Additionally, generally accepted accounting principles, or better known as GAAP, require public companies to use accrual accounting.
DOUBLE ENTRY SYSTEM:
In basic accounting, each & every transaction has two effects. (implied for accounting procedures)
For example, if someone makes a purchase of a drink at a local store, they pay the merchant in cash and receive a bottle of the drink in return. This simple transaction has 2 effects from the buyer and the seller’s perspective. The buyer’s cash balance would be reduced by the amount of the purchase cost, while on the other hand he would get a bottle of the drink.
Accounting records both effects of a transaction or event on an entity’s financial statements. This is an application of the double entry concept. Without the use of the double-entry bookkeeping concept, the accounting records would reflect only a partial view of the company’s affairs.
Traditionally, the two effects of an accounting entry are referred to as Debit (Dr) and Credit (Cr). The accounting system is based on the principle that for every Debit entry there will always be the same Credit entry. This is known as the principle of duality.
Debit items are those that take into account the following effects:
- Increase in assets
- Cost increase
- Diminished liability
- Reduction of equity capital
- Decrease in income
Credit items are those that take into account the following effects:
- Decrease in assets
- Decrease in expense
- Increase in liability
- Increase in equity
- Increase in income
Accounting Equation comes is the working of Double entry system too:
Assets = Liabilities + Equity
- Any increase in expenses (Dr) will be offset by a decrease in assets (Cr) or
- increase in liability or equity (Cr) and vice-versa.
Hence, the accounting equation will still be in equilibrium.
As the formula shows, assets are on the left side of the equation and are subtracted. In the same way, the assets will be moved to the left side of your general ledger. For example, if you receive cash, your accounting software would pull your cash account behind the scenes.
Liabilities and equity are presented on the right side of the equation and are credited in the account ledger. Similarly, assets are located on the right side of a ledger account with debit balance. For example, if a company issues shares of common stock, your software will credit that amount to the owner’s equity account.
The realization principle is the concept that revenue can only be recognized after the underlying goods or services associated with the revenue have been delivered or rendered. Thus, revenues can only be recognized after they have been earned. Violation of the principle of realization most often occurs when a company wants to present higher revenues, and thus recognizes revenues ahead of time.
Example: Payment in advance for goods or services – suppose a customer pays 6,000 upfront for a full year of legal fee. The advisor will not realize 6,000 in revenue until he or she has done the work on the case or done his/her obligations.
So, I hope, you understood these important concepts that are essential in the accounting procedures of AFB for your upcoming JAIIB Exam 2023. I wish you all the best for exams! Do well!
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