Contents
What Is Accounting?
Basic Accounting Concepts
Basic Accounting Statements
Assets
Liabilities
Owners’ Equity
Income and Expenses
Basic Accounting Decisions
Managerial Accounting
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Basic Accounting Concepts
Accounting is based on a number of fundamental concepts that are applied universally.
Historical Cost
All amounts recorded on the company’s balance sheet are made at recorded cost. With certain exceptions, historical cost amounts are not adjusted to fair market value or net present value. These amounts continue at historical cost until they are either sold, disposed of, fully depreciated, or written down due to impairment.
Matching of Revenues and Expenses
The objective of accrual-based accounting is to provide the most accurate matching of a company’s revenues and expenses. To the extent that expense or revenue accruals can be made in a current period to match their corresponding costs or income, a company’s financial performance for the period is presented more accurately.
International Standards
Accounting standards vary widely abroad. International standards are overseen by the International Accounting
Standards Board (IASB).
- Foreign currency: Exchange rates between the United States and foreign countries can fluctuate wildly. These fluctuations can significantly affect transactions made between companies in different countries.
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Taxes and inflation: Income tax laws and reporting of inflation differ between countries.
- Discussion of adjustments for inflation is not required in the United States but is common internationally.
- In the United States, tax reporting and shareholder reporting are different: a company’s financial statements, based on generally accepted accounting standards, are often different from its tax statements and returns. In other countries, however, the tax and accounting rules are much more consistent. Therefore, when reading a company’s financial statements, it is imperative to be aware of any relevant foreign regulations.
Double-Entry General Ledger System
The foundation of modern accounting lies in the double-
entry general ledger system. In this system, every transaction must be in the form of a two-sided journal entry, in which each debit (on the left side of the entry) is matched by an equal, offsetting credit (on the right side). Throughout the accounting period, the general ledger accumulates all the matching debits and credits to each respective account,
with the year-end aggregate balances resulting in the amounts entered on the company’s financial statements.
- T-accounts: Double-entry accounts are illustrated in what’s called a T-account, due to its appearance. Journal entries are made to T-accounts by entering debits to the left side of the T-account and credits to the right side.
- Journal entries: All of a company’s transactions are entered into its general ledger in the form of journal entries. A journal entry records a transaction in the form of offsetting debits and credits, which accumulate throughout the accounting year in T-accounts.
- Debits and credits: Debits (dr) are entries on the left side of a T-account, whereas credits (cr) are entries to the right side. Debits increase asset and expense accounts and decrease liability and revenue accounts. Conversely, credits increase liability and revenue accounts and decrease asset and expense accounts.
- General ledger: The general ledger is the comprehensive format through which all journal entries are recorded and accumulated throughout the year.
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Trial balance: A trial balance shows the beginning and ending balances of all accounts, as well as changes from year to year. It is used to check that the postings have been done correctly and to summarize all account balances in order to produce financial statements.
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