Accounting Equation Effects Test 34

The correct concept of double entry book keeping states that for every debit entry, there must be a corresponding credit entry

The concept of the business entity states that the businessman is considered separate from the business. Therefore, the owner personal property shall not form part of business and vice versa.
Therefore, due to Business Entity Concept, the personal residence of the owners is not in the preparation of financial Statement.

There are certain principles on which the whole accounting system is based. These principles are commonly known as generally accepted accounting principles. There are various concepts which includes:

Real account is an record of an asset. An asset can be current asset such as cash, a fixed asset such as building and intangible asset such as goodwill. Real account relate to the assets & liabilities of a business.

Double entry system is based 'on scientific principles therefore, it is used by most of the business houses. This system recognizes the fact that every transaction has two aspects and records both aspects of each and every transaction. For every debit there will be a credit and vice a versa.

Monetary Unit Assumption
In accounting we can communicate only those business transactions and other events which can be expressed in monetary units. This is called monetary unit assumption. Non monetary events like death, dispute etc. may have a great influence on the organization but these factors will not form the part of accounts as they can be calculated on monetary basis. According to this concept each & every accounting transaction is to be recorded in books of accounts in terms of money.

Business Entity Concept:
In accounting business organization and owners are two different identity. Thus business has its own existence separate from owners, creditors etc. This concept is called business entity concept. It means that personal transactions of owners are treated separately from those of the business. Therefore any personal expenses incurred by owners of a business will not appear in the income statement of the entity.

The cost concept requires that all assets are recorded in the book of accounts at their purchase price, which includes cost of acquisition, transportation, installation and making the asset ready to use.

For example, an old plant was purchased for Rs. 50 lakh, which is into the business of manufacturing detergent powder. The following were the other expenses incurred for its installation:

1. Transporting the plant to the factory site- Rs. 10,000 

2. Repairs for bringing the plant into running position- Rs. 15,000

3. Installation- Rs. 25,000 

The total amount at which the plant will be recorded in the books of account would be the sum of all these, i.e. Rs. 50,50,000.

The concept of cost is historical in nature as it is something, which has been paid on the date of acquisition and does not change year after year. This cost is also called as original cost or historical cost.

The convention of conservatism mean that the convention of caution, or the policy of playing safe. This principle requires that in the situation of uncertainty and doubt, the business transactions should be recorded in such a manner that the profits and assets are not overstated and losses and liabilities are not understated. The following are some examples:

1. Closing stock is valued at cost price or Net realisable value, whichever is lower.

2. Joint life insurance policy  is shown only at surrender value as against the amount paid.

3. Provision for doubtful debt is created in anticipation of bad debts etc.

4. Provision for pending law suit against the firm, which may either be decided in its favour.