ACCOUNTING CONVENTIONS
1. Convention of Materiality.
Materiality concept states that items of small significance need not be given strict theoretically correct treatment. Infact, there are many events in business which are insignificant in nature. The cost of recording and showing in financial statement such events may not be well justified by the utility derived from that information. For example, an ordinary calculator costing Rs. 100 may last for ten years. However, the effort involved in allocating its cost over the ten year period is not worth the benefit that can be derived from this operation. The cost incurred on calculator may be treated as the expense of the period in which it is purchased. Similarly, when a statement of outstanding debtors is prepared for sending to top management, figures may be rounded to the nearest ten or hundred.
2. Convention of Conservatism.
This concept requires that the accountants must follow the policy of ‘’playing safe” while recording business transactions and events. That is why, the accountant follow the rule anticipate no profit but provide for all possible losses, while recording the business events. This rule means that an accountant should record lowest possible value for assets and revenues, and the highest possible value for liabilities and expenses. According to this concept, revenues or gains should be recognised only when they are realised in the form of cash or assets (i.e. debts) the ultimate cash realisation of which can be assessed with reasonable certainty. Further, provision must be made for all known liabilities, expenses and losses, Probable losses regarding all contingencies should also be provided for. ‘Valuing the stock in trade at market price or cost price whichever is less’, ‘making the provision for doubtful debts on debtors in anticipation of actual bad debts’, ‘adopting written down value method of depreciation as against straight-line method’, not providing for discount on creditors but providing for discount on debtors’, are some of the examples of the application of the convention of conservatism.
3. Convention of Consistency.
The convention of consistency requires that once a firm decided on certain accounting policies and methods and has used these for some time, it should continue to follow the same methods or procedures for all subsequent similar events and transactions unless it has a sound reason to do otherwise. In other worlds, accounting practices should remain unchanged from one period to another. For example, if depreciation is charged on fixed assets according to straight line method, this method should be followed year after year. Analogously, if stock is valued at ‘cost or market price whichever is less’, this principle should be applied in each subsequent year.
1. Convention of Materiality.
Materiality concept states that items of small significance need not be given strict theoretically correct treatment. Infact, there are many events in business which are insignificant in nature. The cost of recording and showing in financial statement such events may not be well justified by the utility derived from that information. For example, an ordinary calculator costing Rs. 100 may last for ten years. However, the effort involved in allocating its cost over the ten year period is not worth the benefit that can be derived from this operation. The cost incurred on calculator may be treated as the expense of the period in which it is purchased. Similarly, when a statement of outstanding debtors is prepared for sending to top management, figures may be rounded to the nearest ten or hundred.
2. Convention of Conservatism.
This concept requires that the accountants must follow the policy of ‘’playing safe” while recording business transactions and events. That is why, the accountant follow the rule anticipate no profit but provide for all possible losses, while recording the business events. This rule means that an accountant should record lowest possible value for assets and revenues, and the highest possible value for liabilities and expenses. According to this concept, revenues or gains should be recognised only when they are realised in the form of cash or assets (i.e. debts) the ultimate cash realisation of which can be assessed with reasonable certainty. Further, provision must be made for all known liabilities, expenses and losses, Probable losses regarding all contingencies should also be provided for. ‘Valuing the stock in trade at market price or cost price whichever is less’, ‘making the provision for doubtful debts on debtors in anticipation of actual bad debts’, ‘adopting written down value method of depreciation as against straight-line method’, not providing for discount on creditors but providing for discount on debtors’, are some of the examples of the application of the convention of conservatism.
3. Convention of Consistency.
The convention of consistency requires that once a firm decided on certain accounting policies and methods and has used these for some time, it should continue to follow the same methods or procedures for all subsequent similar events and transactions unless it has a sound reason to do otherwise. In other worlds, accounting practices should remain unchanged from one period to another. For example, if depreciation is charged on fixed assets according to straight line method, this method should be followed year after year. Analogously, if stock is valued at ‘cost or market price whichever is less’, this principle should be applied in each subsequent year.