So the answer is no, your organisation should not reflect the increase in value in its head office building in its accounts. Market values, particularly for property, change often, so allowing organisations to report their assets and liabilities at current values would distort the fabric of accounting, impair comparability and make financial statements unreliable. The concept of historical cost is important. However, any permanent impairment in value of an asset is recognised in the accounts. If that asset subsequently appreciates in value, the increase isn’t reflected in the financial statements, except where allowed or required by accounting standards. Historic cost is defined as the actual value of a resource, such as cash given up or a liability incurred to secure an asset. This principle requires organisations to record their transactions at their historic cost. To achieve this, financial statements normally adopt the historic cost principle. Should it reflect this in the accounts?Īccounting is concerned with past events, so requires consistency and comparability. Your organisation’s head office building increases slightly in value as a consequence of general increases in property values. So, your organisation should spread the cost of the equipment equally over the 24 quarters. This means you should recognise your expenses in the same periods as those in which you’re earning revenues from them – and vice versa. The matching principle aims to align revenues and expenses. When does the expenditure actually take place for the purpose of its accounts? Your organisation buys production equipment in one quarter and uses it for the next 24 quarters. So, in the example above, the sale would be recorded in your organisation’s accounts in the accounting period for the date it shipped the goods to the customer. Recognition of transactions in financial statements is tied to when the relevant business activities take place, not the date when money changes hands. Recognise expenses when you incur them, regardless of when you pay them.Recognise income when it’s earned, regardless of when you receive it and.When should it record the sale in its accounts?Īccording to the accrual principle, you should: Your organisation ships goods to a customer in one accounting period but receives payment for them in the following accounting period. However, when accountants prepare financial statements, they generally adhere to these five principles. The statute and regulations that govern the preparation of financial statements extend to many hundreds of pages. It will also help you to understand and manage around the many areas of legal work in-house where legal and accounting principles touch on the same business issue but deal with it differently. Strict legal frameworks govern accounting practices, yet many grey areas remain.īeing aware of these and having a working knowledge of general accounting principles will help you support your colleagues in finance.

3 basic accounting principles