Generally Accepted Accounting Principles

 GAAP represents a set of rules and procedures that define how corporate accounting should be
done by businesses operating
 GAAP rules ensure that these communications are created in an understandable way using
consistent methods.
 “Ground rules” that assist accounting practitioners in documenting (identifying, evaluating, and
reporting) a company's financial information.

10 primary principles set forth in GAAP standards

The Principle of Consistency ensures that consistent practices are followed in financial
reporting.
The Principle of Permanent Methods refers specifically to accounting techniques and
procedures.
The Principle of Non-Compensation states that no entity should expect extra compensation
for providing accurate reports.
The Principle of Prudence provides accurate and factual reporting, free of speculation.
The Principle of Regularity says that accountants must follow GAAP at all times.
The Principle of Sincerity says accountants adhere to standards of honesty and accuracy in
reporting.
The Principle of Good Faith states that anyone involved in financial reporting (not only
accountants) must act honestly and in good faith.
The Principle of Materiality says reports must clearly disclose a company's genuine financial
health.
The Principle of Continuity states that asset valuations are based on the assumption the
business will continue operations in the future.
The Principle of Periodicity says reports must be generated consistently within common
financial reporting periods, such as monthly, quarterly and annually.
Reporting according to GAAP provides a measure of uniformity so that those examining
financial statements have a foundation from which to compare performance to another
period or another company, or develop financial ratios that use specific GAAP-defined
quantities. The four basic constraints associated with GAAP include objectivity, materiality,
consistency and prudence. Objectivity includes issues such as auditor independence and
that information is verifiable. Materiality refers to the completeness of information included
in financial reporting and whether information would be valuable to outside parties.
Consistency requires that the organization uses the same accounting methods from year to
year. If it chooses to change accounting methods, then it must make that statement in its
financial reporting statements. Prudence requires that auditors and accountants choose
methods that minimize the possibility of overstating either assets or income.
GAAP is important because it helps maintain trust in the financial markets. If not for GAAP,
investors would be more reluctant to trust the information presented to them by
companies because they would have less confidence in its integrity. Without that trust, we
might see fewer transactions, potentially leading to higher transaction costs and a less
robust economy. GAAP also helps investors analyze companies by making it easier to
perform “apples to apples” comparisons between one company and another.

ACCOUNTING ASSUMPTIONS
Accounting assumptions can be defined as a set of rules that ensures the business
operations of an organization and are conducted efficiently and as per the standards
defined by the FASB (Financial Accounting Standards Board) which ultimately helps in laying
the groundwork for consistent, reliable and valuable information and it is based entirely on
the fundamentals like accrual, consistency, reliability and objectivity, monetary unit
assumption, business entity assumption, time period, going concern, historical costs, full
disclosures, and conservatism.
These assumptions are huge for not just the organization and its management but also the
readers of the financial statements. It helps in establishing a robust framework for reliable
as well as consistent information. It enhances the reliability, verifiability, and objectivity of
the financial statements. The purpose of such assumptions is to enable the users of the
financial statements to evaluate and confirm the genuineness of the financial records of an
organization and assess economic wellbeing. It is no doubt that these assumptions help in
the establishment of credibility. These are beneficial for all kinds of investors irrespective of
the fact whether they are potential or existing ones. The investors can assess the
genuineness of the company’s financial statements and accordingly determine the true and
fair view of a company’s financial wellbeing. It enables the investors to make crucial
investment-related decisions based on their reasoning. It saves themselves from being
manipulated by false representation of the transactions in the financial statements of a
company. These are beneficial for the management of an organization too. The
management of an entity gets to know its actual wellbeing, and based on these results; the
former can make appropriate decisions and ensure that the latter does better in the next
time. It helps the companies in the attainment of their long-term and short-term business
goals and objectives.
 BASIC ACCOUNTING ASSUMPTIONS
 Accrual assumption. Transactions are recorded using the accrual basis of
accounting, where the recognition of revenues and expenses arises when earned or
used, respectively. Revenues and expenses should be recognized when earned, but
there is a bias toward earlier recognition of expenses. A company that uses accrual
basis accounting records a sale as soon as it sends an invoice to a customer.
 Monetary unit assumption states that a company must record its business
transactions in dollars or some other unit of currency. Companies use the dollar
since it is stable in value and available everywhere. It also provides a consistent
method of comparing the results of one company with those of another.
 Accounting entity is a clearly defined economic unit that isolates the accounting of
certain transactions from other subdivisions or accounting entities. An accounting
entity can be a corporation or sole proprietorship as well as a subsidiary within a
corporation. However, the accounting entity must have a separate set of books or
records detailing its assets and liabilities from those of the owner.
 Going concern is the assumption that an entity will remain in business for the
foreseeable future. Conversely, this means the entity will not be forced to halt
operations and liquidate its assets in the near term at what may be very low fire-sale
prices. By making this assumption, the accountant is justified in deferring the
recognition of certain expenses until a later period, when the entity will presumably
still be in business and using its assets in the most effective manner possible.
 The time period principle (or time period assumption) is an accounting principle
which states that a business should report their financial statements appropriate to
a specific time period. An accounting period is usually 12 months and may either be
calendar year or fiscal year.

ACCOUNTING PRINCIPLES
 Cost principle is an accounting principle that requires assets, liabilities, and equity
investments to be recorded on financial records at their original cost.
 Matching principle is an accounting concept that dictates that companies report
expenses at the same time as the revenues they are related to. Revenues and expenses
are matched on the income statement for a period of time (e.g., a year, quarter, or
month). The matching principle is a part of the accrual accounting method and presents
a more accurate picture of a company’s operations on the income statement.
 Expense recognition principle states that expenses should be recognized in the same
period as the revenues to which they relate. If this were not the case, expenses would
 likely be recognized as incurred, which might predate or follow the period in which the
related amount of revenue is recognized.

Associating cause and effect: Some costs are recognized as expenses on the basis of a
presumed direct association with specific revenue.

Systematic and rational allocation: In the absence of a direct means of associating cause
and effect, some costs are associated with specific accounting periods as expenses on
the basis of an attempt to allocate costs in a systematic and rational manner among the
periods in which benefits are provided.

Immediate recognition: Some costs are associated with the current accounting period
as expenses because (1) costs incurred during the period provide no discernible future
benefits, (2) cost recorded as assets in prior periods no longer provide discernible
benefits, or (3) allocated costs either on the basis of association with revenue or among
several accounting periods is considered to serve no useful purpose.

 The revenue recognition principle, a feature of accrual accounting, requires that

revenues are recognized on the income statement in the period when realized and
earned—not necessarily when cash is received. Realizable means that goods or services
have been received by the customer, but payment for the good or service is expected
later. Earned revenue accounts for goods or services that have been provided or
performed, respectively.
 The materiality principle states that an accounting standard can be ignored if the net
impact of doing so has such a small impact on the financial statements that a reader of
the financial statements would not be misled. Under generally accepted accounting
principles (GAAP), you do not have to implement the provisions of an accounting
standard if an item is immaterial. This definition does not provide definitive guidance in
distinguishing material information from immaterial information, so it is necessary to
exercise judgment in deciding if a transaction is material.
 Objectivity principle states that you should use only factual, verifiable data in the books,
never a subjective measurement of values. Even if the subjective data seems better than
the verifiable data, the verifiable data should always be used.
 Conservatism principle is the general concept of recognizing expenses and liabilities as
soon as possible when there is uncertainty about the outcome, but to only recognize
revenues and assets when they are assured of being received.
 Consistency principle states that, once you adopt an accounting principle or method,
continue to follow it consistently in future accounting periods so that the results
reported from period to period are comparable.
  Full disclosure principle states that all information should be included in an entity's
financial statements that would affect a reader's understanding of those statements.
The interpretation of this principle is highly judgmental, since the amount of
information that can be provided is potentially massive.

The general acceptance of an accounting principles usually, depends on how well it

meets the following requirements:

1. Principle of Relevance - ensuring the generated data is relevant and helpful to

people who need to know anything about the current state of a certain organization
2. Principle of Objectivity - ensure the information obtained is not tainted by the bias
or judgment of those who provide it. Objectivity is associated with dependability and
trustworthiness. It also implies verifiability, which implies that the information may
be checked to see if it is accurate and correct.
3. Principle of Feasibility - it can be done without undue difficulty or expense These
criteria are in contradiction with one another, and the one that is least objective and
feasible to settle is favor.
A conceptual framework can be defined as a system of ideas and objectives that lead to the
creation of a consistent set of rules and standards. Specifically in accounting, the rule and
standards set the nature, function and limits of financial accounting and financial statements.