Top Basic Accounting Principles | Summary | GAAP
There are four basic accounting principles, four accounting assumptions and four accounting constraints in accounting rules that businesses use to record and report their financial information.
These set of rules is called GAAP
(Generally Accepted Accounting Principles)
GAAP is the foundation we use to help in handling the different accounting issues we face as business owners.
These rules are accounting standards and guidelines to help us make our financial presentations more consistent, comparable, meaningful, and informative. Not every U.S based business is required to comply with GAAP, with the exception of publicly traded companies (or those that plan to some day).
Who Sets GAAP?
GAAP standards are issued by the FASB (Financial Accounting Standards Board) in response to the 1929 stock market crash. After that time, the FASB eventually came to be and in 1973, these new standards were adopted. The board wanted to create a standardized set of accounting practices in order for more transparency of financial records between publicly traded companies. Accounting principles are generally accepted only when enforced by law and the Securities and Exchange Commission (SEC) who regulates public companies, requires public companies to use GAAP. Private businesses have also for the most part adopted these rules, largely due to pressure from lenders and investors so they have access to the information they need to make sound business decisions.
4 Basic Accounting Principles:
- The Historical Cost PrincipleThis principle states that we are required to record most of our assets at their original costs with no adjustments for increases in market value. This accounting principle makes sure we don’t put our own perceived value on our assets.
- The Revenue Recognition PrincipleThis accounting principle is the basis for accrual accounting. It requires us to record revenue when the goods have been sold or the service has been provided.
- The Matching PrincipleThis basic accounting principle requires us to use accrual accounting also. It requires us to match our expenses with our revenues. A very common example of this accounting principle is to report employees’ wages in the week the employees worked not in the week they are paid.
- The Disclosure PrincipleThis accounting principle requires us to disclose all pertinent financial information about our business in an understandable form. This information is presented in the main body of our financial statements, in the footnotes of our financial statements, or as supplementary information.
Four Accounting Assumptions:
There would be no way to cover all the principles, assumptions, and constraints that make up GAAPS on this one page, but I did want to mention a few assumptions that I think are very important to our small businesses…
- The Business or Economic Entity AssumptionThis assumption requires us as small business owners to keep all of our business transactions separate from our personal transactions. One of the first things you should do when you start your small business is open up a business checking account and only use it to pay and record all of your business transactions.
- Monetary AssumptionThis assumption requires us to record and present all business transactions in a monetary unit such as the dollar.
- Time Period AssumptionThis accounting principle assumes that all of our business operations can be recorded and separated in to different time periods such as months, quarters, and years.
- Going Concern AssumptionAssumes that our business will continue operating and will not be closed or sold in the foreseeable future.