What are the Fundamental Accounting Assumptions?
Fundamentals accounting assumptions are the underlying assumptions that are presumed to have been followed while preparing financial statements.
There are three fundamental regards to accounting assumptions:
- Going concerned
If there is nothing mentioned about the fundamental accounting assumptions in the financial statements, then it shall be presumed that these assumptions have been followed in the preparation of the financial statement. However, if there is a departure from any of the above accounting assumptions, a separate note should be given in the audit report of the company or the business enterprise.
The fundamental accounting assumptions guide accountants in the recording and reporting of financial information. These assumptions are important because they ensure that financial information is recorded and reported consistently and reliably.
Accounting aims to keep systematic records to ascertain an entity’s financial performance and financial position and to communicate the relevant financial information to interesting user groups.
The financial statements are a basic means through which an entity’s management makes public communication of the financial information along with selected quantitative details. It is also called the formal records of financial activities. To have a record of all the transactions and also to determine whether all these transactions resulted in profit or loss for the period, all business entities prepare financial statements. The main parts of the financial statements are the Balance Sheet, Profit and Loss A/c and Cash Flow Statement.
Qualitative Attributes of Financial Statements
There must be a few qualitative attributes in financial statements which make them useful to the users of the financial information; some of them are as follows:
Understandability – An essential quality of the information must be readily understandable by users. It is assumed that users possess a reasonable knowledge of the business and economic activities and accounting and study the information with reasonable diligence.
Relevance – information must be reasonable to the users of the financial statements for decision-making needs. Information about the financial position and past performance are frequently used as the basis for decision-making.
Reliability – to be useful, information should be reliable. Information is supposed to be reliable and free from material errors and biases.
Comparability – users must be able to compare the financial statement of an enterprise over time to identify trends in its financial position, performance and cash flows. Users must also be able to compare the financial statement of different enterprises to evaluate their relative financial position.
Materiality – The materiality of the information has an effect on how relevant the financial statement is. A misstatement of the information is considered to be substantial if it has the potential to affect the choice made by the user. The concept of materiality is highly subjective and varies greatly from one company to the next.
Faithful representation –Information must represent the transactions and other events faithfully if either purport to be represented or could reasonably be expected to represent. Only then will it be called financial statement is faithfully represented. Thus, a balance sheet should faithfully represent the transactions and other events that consequence the business enterprise’s assets, liabilities and equity on the reporting date.
Substance over form – In accounting, substance over form means that the economic substance of a transaction should be respected over its legal form. For example, if a company sells a product to a customer and immediately leases it back, the transaction should be accounted for as a sale, not as a financing arrangement.
Neutrality –the information contained in the financial statement should be free from error and bias. Financial statements are not neutral if, by the presentation of information, they affect the decision of the user to achieve the predetermined result.
Prudence – It follows the conservatism principle. Accordingly, accountants should not account for potential profit but must provide for probable losses.
Full, fair and adequate disclosure– The financial statement must disclose all reliable and relevant information about the business enterprise to the management and external users, which would help them make appropriate decisions. The principle of full disclosure implies that no matter should be omitted.
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