Accounting is a system evolved to achieve a set of objectives. The objectives identify the goals and purposes of financial record keeping and reporting. The term 'concept' means an idea or thought. Basic accounting concepts are the fundamental ideas or basic assumptions underlying the theory and practice of financial accounting. These concepts are also termed as 'Generally Accepted Accounting Principles’. The working rules of accounting activities are evolved (and are still evolving) over a period in response to the changing business environment and the specific needs of the users of accounting information. The concepts guide the identification of events and transactions to be accounted for, their measurement and recording, and the method of summarizing and reporting to interested parties. The concepts, thus, help in bringing about uniformity in the practice accounting.

These concepts may be classified into two broad groups:

•Concepts to be observed at the recording stage i.e., while recording the transactions

•Concepts to be observed at the reporting stage, i.e., at the time of preparing the final accounts. 

The following concepts will guide us in identifying, measuring and recording transactions.

Business Entity Concept:

•Business entity means a unit of organized business activity.

•A provision store, a cloth dealer, an industrial establishment, an electricity supply undertaking, a bank, a school, a hospital, etc. are all business entities.

•From the accounting point of view every business enterprise is an entity separate and distinct from its proprietor(s)/owner(s).

•The accounting system gives information only about the business and not its owner.

•Those transactions are recorded in the books of account which relate only to the business.

•The owner's personal affairs (his expenditure on housing, food, clothing, etc.) will not appear in the books of account of his business.

However, when personal expenditure of the owner is met from business funds it shall also be recorded in the business books as drawings by the proprietor.

•Another implication of business entity concept is that the owner of business is to be treated as a creditor who also has a claim over the assets of the business.

•As such, the amount invested by him (capital) is regarded as a liability for the business.

•The business entity concept is applicable to all forms of business organizations.

•This distinction can be easily maintained in the case of a limited company because the company has a legal entity of its own.

•Such distinction becomes difficult in case of a sole proprietorship or partnership because in the eyes of the law the partner or the sole proprietor are not considered separate entities. They are personally liable for all business transactions.

•But for accounting purposes they are to be treated as separate entities. This enables them to ascertain the profit or loss of business more conveniently and accurately.

Money Measurement Concept:

•Business deals in a variety of items having different physical units such as kilograms, quintals, tons, meters, liters, etc.

•If the sales and purchases of different items are recorded in terms of their physical units, adding them together will pose problems. But, if these are recorded in a common denomination, their total becomes homogeneous and meaningful.

•Money is used as the common unit of measurement for the purpose of accounting.

•All recording, therefore, is done in terms of the standard currency of the country where business is set up.

•Another implication of money measurement concept is that only those transactions and events are to be recorded in the books of account which can be expressed in terms of money such as purchases, sales, payment of salaries, goods lost in accident, etc.

•Happenings (non- monetary) like death of an efficient manager or the appointment of an accountant, howsoever important they may be, are not recorded in the books of account. This is because their effect is not measurable of quantifiable in terms of money.

•The drawback of this approach is that value of money chances over a period of time.

•The value of rupee today is much less than what it was in 1961. Such a change is nowhere reflected in accounts.

•This is the reason why the accounting data does not reflect the true and fair view of the affairs of the business.

•Now-a-days, it is considered desirable to provide additional data showing the effect of changes in the price level on the reported income and the assets and liabilities of the business.

Objective Evidence Concept:

•The term objectivity refers to being free from bias or free from subjectivity.

•Accounting measurements are to be unbiased and verifiable independently.

•All accounting transactions should be evidenced and supported by documents such as bills, invoices, receipts, cash memos, etc.

•These supporting documents (vouchers) form the basis for making entries in the books of account and for their verification by auditors afterwards.

•As for the items like depreciation and the provision for doubtful debts where no documentary evidence is available the policy statements made by management are treated as the necessary evidence.

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Historical Record Concept:

After identifying the transactions and measuring them in terms of money we record them in the books of account.

According to the historical record concept, we record only those transactions which have actually taken place and not those which my take place (future transactions). It is because accounting record presupposes that the transactions are to be identified and objectively evidenced.

This is possible only in the case of past (actually happened) transactions. The future transactions can hardly be identified and measured accurately.

All transactions are to be recorded in chronological (date wise) order. This leads to the preparation of a historical record of all transactions.

qWe make provision for some expected losses such as doubtful debts. This may be contrary to what is stated in historical record concept. But this is done only at the time of ascertaining the profit or loss of the business.

•After identifying the transactions and measuring them in terms of money we record them in the books of account.

•According to the historical record concept, we record only those transactions which have actually taken place and not those which my take place (future transactions). It is because accounting record presupposes that the transactions are to be identified and objectively evidenced.

•This is possible only in the case of past (actually happened) transactions. The future transactions can hardly be identified and measured accurately.

•All transactions are to be recorded in chronological (date wise) order. This leads to the preparation of a historical record of all transactions.

•We make provision for some expected losses such as doubtful debts. This may be contrary to what is stated in historical record concept. But this is done only at the time of ascertaining the profit or loss of the business.

Cost Concept:

•Business activity, in essence, is an exchange of money.

•The price paid (or agreed to be paid in case of a credit transaction) at the time of purchase is called cost.

•According to the cost concept, all assets are recorded in books at their original purchase price. This cost also forms an appropriate basis for all subsequent accounting for the assets. For example, if the business buys a machine for Rs. 80,000 it would be recorded in books at Rs. 80,000. In case its market value increases later on to Rs. 1,00,000 (or decreases to Rs. 50,000) it will continue to be. shown at Rs. 80,000 and not at its market value.

•With passage of time the value of an asset decreases.

•Hence it may systematically be reduced from year to year by charging depreciation and the asset be shown in the balance sheet at the depreciated value. 

•The depreciation is usually charged as a fixed percentage of cost. It bears no relationship with changes in its market value.

•In other words, the value at which the assets are shown in the balance sheet has no relevance to its market value. This, no doubt, makes it difficult to assess the true financial position of the business. It is, therefore, regarded as an important limitation of the cost concept.

•This approach is preferred because, firstly it is difficult and time consuming to ascertain the market values, and secondly there will be too much of subjectivity in assessing the current values. However, this limitation has been overcome with the help of inflation accounting. 

Dual Aspect Concept

•According to this concept every business transaction has a two-fold effect.

•In commercial context it is a famous dictum that "every receiver is also a giver and every giver is also a receiver".

•Example, if you purchase a machine for Rs. 8.000 you receive machine on the one hand and give Rs. 8,000 on the other. Thus, this transaction has a two-fold effect i.e., (i) increase in one asset and (ii) decrease in another. Similarly, if you buy goods worth Rs. 500 on credit it will increase an asset (stock of goods) on the one hand and increase a liability (creditors) on the other.

•Thus every business transaction involves two aspects: (i) the receiving aspect, and (ii) the giving aspect.

• In case of the first example you find that the receiving aspect is machinery and the giving aspect is cash. 

•In the second example the receiving aspect is goods and the giving aspect is the creditor. If complete record of transactions is to be made, it would be necessary to record both the aspects in books of account.

•The initial funds (capital) required by the business are contributed by the owner. If necessary, additional funds are provided by the outsiders (creditors).

•As per the dual aspect concept all these receipts create corresponding obligations for their repayment. In other words, a contribution to the business, either in cash or kind, not only increases its resources (assets), but also its obligations (liabilities/equities) correspondingly.

•At any given point of time, the total assets and the total liabilities must be equal.

•This equality is called 'balance sheet equation' or 'accounting equation'. It is stated as under:

Liabilities (Equities) = Assets

Capital + Outside Liabilities = Assets

•The term 'assets' denotes the resources (property) owned by the business while the term 'equities' denotes the claims of various parties against the business assets.

•Equities are of two types:

Owners' equity: Owners' equity called capital is the claim of the owners against the assets of the business.

Outsiders' equity: Outsiders' equity called liabilities is the claim of outside parties like creditors, bank, etc. against the assets of the business.

•Thus, all assets of the. business are claimed either by the owners or by the outsiders. Hence, the total assets of a business will always be equal to its liabilities.