Accounting Convention
| Accounting Convention |
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Accounting Convention create a methodology that allows to compare financial results in the same industry and from year to year in a reliable way. Thanks to this accounting conversions show how annual, quarterly and monthly statements are created. Convention is not created on the basis of any law but it results from accounting principles.
This is a generally accepted convocation based on regulations that is intended to help accountants overcome problems arising during the preparation of financial statements. Typically, convention is used in situations where there is no legal guidance in accounting standards that relate to a particular situation (Weil, R.L., 2014, s.24).
Types of Accounting Convention
Accounting Convention it act like guide to select and apply procedure. The 4 most important convenvtions are shown below (Rajasekaran V., 2011, s.23-29):
- Convention of Disclosure - Accounting reports must be prepared in a fair manner and any relevant information should be disclosed. When making accounting entries, you must exercise due care to present all relevant information. the emphasis in this convention is to put the relevant information and not those assets. In order to present the company's image as accurately as possible, the balance sheet and profit and loss account forms are attached to the Accounting Act so that no relevant information can be omitted.
- Convention of Consistency - The practices and accounting rules must be constantly observed and applied in the same way. This allows you to draw conclusions about the functioning of the company for many years, provided that the practices and methods of accounting have remained unchanged in individual periods. Comparisons are only possible if a consistent accounting policy is followed. It allows the accuracy and comparability of accounting information. In the event of any change, its effect should be justified in the financial statements.
- Convention of Conservatism - refers to the policy of choosing a procedure that relates to understatements in terms of over-or under-inflating income or resources. For example, closing stock is valued at cost or market price whichever is lower. This is a convention of caution or playing safe and is adhered to while preparing financial statements.
- Convention of Materiality - The economic significance of the item affects how it will be posted. Some non-essential items are omitted in the financial statements or attached to others. an object considered important for one company may be completely irrelevant to the other.
Purpose of Accounting Convention
Convention, which is widely used when saving business transactions. If there is no final ecism within accounting standards, accounting convention is applied that regulates a particular situation. Accounting conventions are used to supplement ambiguities that have not yet been included in accounting standards.
The use of accounting conventions is necessary in the work of every accountant. Transactions recorded in exactly the same way by many organizations allow for a reliable comparison of the financial results of the vast majority of organizations.
Definitely more accounting conventions can be found in industry accounts. This is due to the fact that many of them have not yet been defined in the accounting standards. With the increase in the scope and detail of accounting standards, there are fewer areas where accounting conventions can still be used (May, G.O. 2007, s.74-79).
Examples of Accounting Convention
- Accrual Basis: Accrual basis is a method of accounting in which revenue and expenses are recorded in the period in which they are incurred, rather than when they are paid or received.
- Matching Principle: The matching principle is an accounting concept which states that expenses should be reported in the same period as the related revenues. This ensures that the expenses are recorded in the same period as the revenues they helped generate.
- Going Concern: The going concern principle is an accounting principle which states that a business should continue to operate for the foreseeable future. This means that a business should not be liquidated or cease operations unless there is no reasonable alternative.
- Conservatism: Conservatism is an accounting principle which states that assets and liabilities should be recorded at the lower of their actual or estimated values. This principle helps to ensure that losses are recorded promptly, while gains are only recorded when they are certain.
- Consistency: Consistency is an accounting principle which states that an entity should use the same accounting methods and principles each period. This helps to ensure that financial statements are comparable from period to period and helps to prevent the manipulation of financial statements.
Advantages of Accounting Convention
An introduction to the advantages of Accounting Convention is that it helps create a reliable way to compare financial results in the same industry and from year to year. The following are the main advantages of Accounting Convention:
- It helps standardize financial reporting, making it easier to compare different companies and periods.
- It provides a consistent basis for financial statements that can be relied upon by investors, creditors, and other stakeholders.
- It helps protect the public interest by providing transparency and consistency in financial reporting.
- It enables companies to adjust their financial statements to comply with changing regulations and to reflect their true financial position.
- It enables companies to better manage their finances, by providing a reliable basis for budgeting, planning, and forecasting.
- It helps companies assess their performance and make informed decisions.
- It helps enhance the credibility of financial statements.
Limitations of Accounting Convention
Introduction:
The following are some of the limitations of the accounting convention:
- The accounting conventions are not legally binding and can be changed with the change in the business environment. This can result in different financial results for companies which were previously following the same set of conventions.
- Accounting conventions are based on the assumption that all transactions are recorded accurately and in a timely manner. This can be difficult to maintain if there are frequent changes in the accounting department or if the accounting system is not up to date.
- Accounting conventions are based on the assumption that all transactions are accounted for in the same way. This can be difficult to maintain if different accounting standards are being used in different parts of the world.
- Accounting conventions are based on the assumption that all assets and liabilities are recorded at their historical cost. This can be difficult to maintain if inflation or other factors cause the value of assets and liabilities to change over time.
- Accounting conventions are based on the assumption that all transactions are recorded using accrual accounting. This can be difficult to maintain if some transactions are recorded using cash basis accounting.
- Accounting conventions are based on the assumption that all transactions are recorded using the same accounting period. This can be difficult to maintain if transactions are recorded using different accounting periods.
Introduction: Apart from Accounting Convention, there are several other approaches related to accounting. These approaches are:
- Generally Accepted Accounting Principles (GAAP): GAAP is a set of standards and guidelines for recording and reporting financial information. It is used by auditors and accountants to ensure that financial statements are in accordance with accepted rules and conventions.
- International Financial Reporting Standards (IFRS): IFRS is a set of international standards and guidelines developed by the International Accounting Standards Board (IASB). It is a more rigorous approach to accounting than GAAP, and is used to create financial statements that are more reliable and consistent across different countries.
- Financial Accounting Standards Board (FASB): FASB is a private organization in the United States responsible for developing and issuing accounting standards. It is the primary source of US GAAP, and its standards are often adopted by other countries.
- Accounting Principles Board (APB): APB is an independent board established by the American Institute of Certified Public Accountants (AICPA) to provide guidance on accounting principles and practices. It was replaced by the FASB in 1973.
Summary: In addition to Accounting Convention, there are several other approaches related to accounting such as Generally Accepted Accounting Principles (GAAP), International Financial Reporting Standards (IFRS), Financial Accounting Standards Board (FASB) and Accounting Principles Board (APB). These approaches provide guidance on how to record and report financial information and create financial statements that are reliable and consistent across different countries.
References
- May, G.O., (2007). Financial Accouting. Smith Press, s.74-79.
- Rajasekaran V., Lalitha, R., (2011). Financial Accounting. New Delhi, s. 23-29.
- Weil R.L., Schipper K., Francis J. (2014). Financial Accounting: An Introduction to Concepts, Methods and Uses. Mason, USA. s. 24.
Author: Beata Kocyłowska
