Meaning and Scope of Accounting – CA Foundation, CPT notes, PDF
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This article is about the meaning and scope of Accounting for CA foundation CPT students. we also provide pdf file at the end.
According to AICPA, “Accounting” is the art of recording, classifying and summarizing in a significant manner and in terms of money, transactions, and events which are, in part at least, of a financial character, and interpreting the results thereof.
From the above, it is clear that accounting refers to:
- A procedure for writing financial transactions and events.
- A system of recording, classifying, summarizing, analyzing, interpreting and reporting periodically, in terms of money, which provides necessary financial information.
The said financial information is used for taking necessary and proper decisions about the allocation of economic resources and running the organization successfully.
Accounting accumulates data systematically and supplies the necessary information to the users of financial statements by which the users can take proper economic decisions and also may make proper predictions, i.e., in short, it conveys financial information about an entity for a specified period.
1.1 BRANCHES OF ACCOUNTING:
Accounting has basically three branches:
(a) Financial Accounting:
♦ It is concerned with the maintenance of books of account of an enterprise,
♦ Recording & classifying all its financial transactions and events with a view to preparing Annual Financial Accounts,
♦ To be used by various interest groups (i.e. General Purpose Financial Statement).
The Subject of your study and this Whole Book is on this Branch of Accounting only.
(b) Management Accounting:
♦ It refers to the use of accounting data with Proper analysis in reporting, so as to serve the need of management.
♦ To help them in decision making and exercising proper controls.
♦ It may not have separate Books of account but uses the data from financial accounts & cost accounts and
♦ Properly analyze it, compares it, calculate ratios, etc. and present it to management periodically.
(c) Scope of Cost Accounting:
♦ Generally, manufacturing concerns maintains cost accounts.
♦ With a view to ascertaining the cost of goods manufactured or services rendered with the proper break-up of cost.
♦ Also providing useful data to management for effective cost control and
♦ Govt. also has prescribed maintenance of cost records by specific industries.
(d) Social Responsibility Accounting:
♦ Concerned with measurement and reporting of the impact of the operations of an organization of the society.
♦ Attempts to disclose the costs incurred
♦ Benefits accrued to society as a consequence of the activities of the organization.
(e) Human Resource Accounting:
♦ It is the process of measuring the amount of investments done in the human resource of an enterprise.
♦ It also reports the information regarding the activities related to human resource performed by the organization
♦ The end results of the human resource-related activities to the stakeholders.
1.2 NEED AND USE OF ACCOUNTING:
♦ In order to solve the day-to-day financial and operational problems, it becomes necessary to have the knowledge and/or information about the past and present economic events.
♦ Accounting is developed out of the need for communicating necessary information about the events.
♦ This fulfills the requirement of the statute. Like Companies Act requires every company to maintain books of account.
♦ This helps to ascertain tax liabilities under various laws like Income-tax, VAT, Excise, etc.
♦ The recorded information can be used as per need because all attributes of an event are not equally useful and important to the users.
♦ In a Medium and Large size organization, many persons will be handling all financial transactions and events hence it all needs to be recorded in one place in a systematic manner.
1.3 BASIC CARE TO BE TAKEN IN MAINTENANCE OF ACCOUNT TO MAKE IT USEFUL:
♦ The events are to be recorded in such a manner as they could easily be explained.
♦ At the same time, such records may also be used as evidences of the events in the future.
♦ At first, subject matters are to be classified and divided according to their needs in such a way, so that desired information can easily be collected and
♦ In order to avoid ambiguity of the recorded evidence, a clear-cut explanation becomes necessary.
Student should remember while learning that basic objective of maintenance of books of account is to give all required & useful information, correctly and fully. Use for statutory and Tax purposes is only incidental to it.
1.4 LIMITATIONS OF ACCOUNTING:
♦ Accounting is not an exact science.
♦ It is based on many assumptions & conventions.
♦ It involves many estimations which results into subjectiveness.
♦ There are different alternatives possible for the same item which gives scope for manipulation to get desired result.
♦ It is a post mortem exercise and the information about entities performance and financial position are available quite late i.e. after a year.
♦ It cannot record the effect of many important events that cannot be measured in terms of money like the value of human resources which an enterprise has.
♦ It does not consider the effect of inflation on income, expense, assets & liabilities (known as Inflation Accounting).
1.5 FUNCTIONS OF ACCOUNTING DATA:
Accounting data serves the following functions:
(i) Measurement: Account data helps to measure the performance & financial position of the enterprise. It measures Assets, liabilities, Expenses & Incomes.
(ii) Forecasting: On the basis of past accounting data, forecasting about future plans are made.
(iii) Decision Making: Various decisions require timely &i correct information which is provided by accounts.
(iv) Evaluation: Evaluation of an enterprise’s performance & financial health is done from accounting data.
(v) Control: By adopting various accounting techniques, checks balances the activity of the enterprise is controlled.
(vi) Stewardship: The management, manages the money of shareholders/owners, on their behalf.
(vii) Govt. Regulation & Taxation: Accounting data serves the various requirements of Govt. regulations & to assess proper tax liability.
1.6 THE USERS OF FINANCIAL STATEMENT & THEIR INFORMATION NEEDS:
|Sr. No.||Users||Their information needs|
|1||Investors (providers of risk capital and their advisors)||Information to determine whether they should buy, hold or sell, the shares of the company. The owners of proprietary/ partnership concerns wants to assess performance & financial health, to decide the continuance of such unit.|
|2||Employees (Employees and their representative groups i.e. unions)||Information that enables them to assess the ability of the enterprise to provide remuneration, retirement benefits and employment opportunities.To assess their Bonus & other claims.|
|3||Lenders||Information that enables them to determine whether their loans and the interest thereon, will be paid when due.|
|4||Suppliers and other trade creditors||Information that enables them to determine whether the amounts owing to them will be paid when due.|
|5||Customers||Information about the continuance of an enterprise especially when they have a long-term involvement with, or are dependent on the enterprise.|
|6||Government and their agencies||Information to regulate the activities of enterprises, to determine taxation policies and as the basis of national income and similar statistics.|
|7||Public||Information about the trends and recent developments in the prosperity of the enterprise and the range of its activities.|
1.7 QUALITATIVE CHARACTERISTICS OF FINANCIAL STATEMENT:
♦ Qualitative Characteristics are the attributes (features) that makes the information provided by financial statement useful to the users.
♦ Qualitative Characteristics are as follows. There are four main qualities & some sub-qualities.
(i) Understandability: The information should be readily understandable to those who have a reasonable knowledge of business & economic activity.
(ii) Relevance: Information has relevance when it influences the users’ decision making. Nature of information & materiality will be considered to decide relevance.
(a) Materiality: An information is a material (significant) if its misstatement or non-statement can influence decision-makers.
Ex: Small expenses are clubbed under one head like Office exp/General exp. etc. or
Stationery, postage such items are treated as an expense and generally no stock is ascertained & adjusted.
(iii) Reliability: Information is reliable if it is error-free, it is unbiased (neutrality) & gives faithful representation.
(a) Neutrality: If it influences users into predetermined actions, then it is not neutral (then information is biased).
(b) Faithful Representation: To be reliable it should give information about what it purports to give.
Ex. If an asset is shown in the Balance Sheet entity must have it.
Substance over form: Substance of transactions & not merely its legal form should be reflected by information.
Ex : Item purchased under the hire-purchase system is treated as an asset from the beginning and depreciation charged even though legal ownership will be transferred only when the last installment is paid.
(c) Prudence : Application of prudence will make information neutral & consequently reliable.
(d) Completeness : To be reliable information should be complete.
(iv) Comparability: It should be comparable with its own past data &. also with other similar enterprises.
1.8 ROLE OF ACCOUNTANT IN THE SOCIETY:
♦ An accountant with his education, training, analytical mind and experience is best qualified to provide multiple need-based services to the ever-growing society.
♦ The accountants of today can do lull justice not only to matters relating to taxation, costing, management accounting, financial planning, company law, and procedures but they can act in the fields relating to financial policies, budgetary’ policies, information technology, Software development, and even economic principles.
♦ The services rendered by accountants to the society include the following:
(a) To maintain the Books of Account in a systematic manner.
(b) To act as a Statutory Auditor (for example under the Companies Act, Income Tax Act, Co-operative Societies Act).
(c) To act as an Internal Auditor.
(d) To act as Social Auditor.
(e) To act as Taxation Advisor.
(f) To act as a Management Accountant.
(g) To act as Financial Advisor.
(h) To provide Management Consultancy Services.
(i) To act as Company Law Advisor.
(j) To act as Liquidator.
(k) To act as Arbitrator.
(l) To act as a Management Information System Consultant.
(m) To act in the field of software development.
1.9 DISCUSS ACCOUNTING AS A SOCIAL SCIENCE:
♦ Social responsibility accounting is in the formative process which aims at accounting for the social cost incurred by the business as well as social benefits created by it.
♦ It emerges from the growing social awareness about the undesirable by-product of economic activities.
♦ While earning a profit, an enterprise may cause numerous social problems.
♦ Also, it creates a lot of social benefits by way of production, employment, earning foreign exchange, etc.
♦ So it is demanded that the accounting system is to produce a report measuring the social cost incurred and social benefits generated.
♦ Social science study man as a member of society; they concern about the social process and the results and consequences of social relationships.
♦ The usefulness of accounting to Society as a whole is the fundamental criterion to treat it as a social science.
♦ Although individuals may benefit from the availability of accounting information, the accounting system generates information for social good, social purposes, it contributes to social progress; also it is being adapted to keep pace with social progress.
♦ So accounting is treated as a social science.
1.10 RELATIONSHIP OF ACCOUNTING WITH OTHERS:
Relationship of Accounting with other Disciplines like:
1.10.1 Accounting and Economics:
♦ Economics is viewed as a science of rational decision making about the use of scarce resources.
♦ It is concerned with the analysis of the efficient use of scarce resources for satisfying human wants.
♦ Accounting is viewed as a system that provides data to the users to permit informed judgment and decisions.
♦ Accounting overlaps economics in many respects and contributes a lot in improving the management decision making process.
♦ However, there exists a wide gulf between economists’ and accountants’ concepts of income and capital.
♦ Accountants got the ideas of value, income and capital maintenance from economists, but brushed suitably to make them usable in practical circumstances.
♦ Accountants developed the valuation, measurement and decision making techniques which may owe to the economic theorems for origin but these are moulded in the work environment and suitably tempered with reference to relevance, variability, freedom from bias, timelines, comparability, reliability, and understandability.
♦ At the macro-level, accounting provides the database over which the economic decision models have been developed; micro-level data arranged by the accounting system is summed up to get macro-level database.
1.10.2 Accounting and Statistics:
♦ The use of statistics in accounting can be appreciated better in the context of the nature of accounting records.
♦ Accounting information is very precise, it is exact to the last paisa.
♦ But such precision is not essential for making business decisions and hence statistical approximations are sought.
♦ In accounts, all values are important individually because they relate to business transactions.
♦ As against this, statistics is concerned with the typical value, behavior or trend over a period of time or the degree of variation over a series of observations.
♦ Therefore, wherever a need arises for only broad generalizations or the average of relationships, statistical methods have to be applied to accounting data.
♦ Accounting records generally take a short-term view of events and are confined to a year while statistical analysis is more useful if a longer view is taken for the purpose of decision making.
♦ Statistical methods are helpful in developing accounting data and in their interpretation & are useful even in valuation.
♦ Therefore, the study and application of statistical methods would add an extra edge to the accounting data.
1.10.3 Accounting and Mathematics:
♦ Knowledge of arithmetic and algebra is a pre-requisite for accounting computation and measurements.
♦ The fundamental dual aspect concept of accounting is expressed in the form of a mathematical equation, popularly known as ‘accounting equation’.
♦ With the advent of the computer, mathematics is becoming a vital part of accounting.
♦ Statistical and econometric models are largely used for developing decision models for the users of accounts.
♦ The use of the technique of operations research has made accounting all the more mathematical.
♦ Presently graphs and charts are being extensively used for communicating accounting information.
♦ In addition to statistical knowledge, knowledge in geometry and trigonometry is also essential to have a better understanding about the accounting communication system.
1.10.4 Accounting and Law:
♦ An economic entity operates within a legal environment.
♦ Every country has set of economic, fiscal and labor laws.
♦ All transactions with suppliers and customers are governed by the Contract Act. the Sale of Goods Act, the Negotiable Instruments Act, etc.
♦ The entity itself is created and controlled by laws. Tor example, a partnership business is controlled by the Partnership Act and a company is created and controlled by the Companies Act, etc.
♦ Very often the accounting system to be followed is prescribed by law. For example, the Companies Act has prescribed the format of financial statements of companies and requires the accrual principle to be applied.
♦ However, legal prescription about the accounting system is the product of developments in accounting knowledge.
♦ That is to say, legislation about the accounting system cannot be enacted unless there is a corresponding development in the accounting discipline.
♦ In that way, accounting influences law and is also influenced by law.
1.10.5 Accounting and Management:
♦ Management is broad occupational field which comprises many functions and encompasses application of many disciplines including those mentioned above.
♦ Accountants are well placed in the management and play a key role in the management team.
♦ A large portion of accounting information is prepared for management decision making.
♦ In the management team, an accountant is in a better position to understand and use such data.
♦ In other words, since an accountant plays an active role in management, he understands the data requirements. So the accounting system can be moulded to serve the management purpose.
♦ ‘Management accounting’ processes accounting data for management decision making.
♦ This indicates the linkage between management and accounting.
♦ Accounting is an essential service function of management.
1.11 BOOK KEEPING AND ACCOUNTING
(The whole system in Nutshell)
Book keeping & Accounting is, recording, classifying, summarising, and analyzing, in terms of money of financial transactions and events, in a systematic manner by following certain principles and rules of accounting.
This definition raises certain questions which are answered below:
|What is a Record?||Record means something in writing.|
|Is it any record we are referring here?||No. We are concerned with only those records which are of Financial matters.|
|What to record?||Transactions & events of financial nature are to be recorded.|
|W’hose transactions?||Transactions of the Entity.|
|How to record?||Record in a systematic manner by following Double entry principle of accounting.|
|Where to record?||Record in the Books of Account i.e. Book of Entry & Ledger.|
|Why to record?||To get information which helps in managing day to day affairs of the entity and in taking important decisions & also to comply with the statutory/taxation requirements.|
|ENTITY||→||Is the concern/organization or Individual whose books of account are being maintained.|
|TRANS ACTIONS||→||Is any matter/dealing/event which has a financial impact on Entity (not its owner) and also last year’s brought forward balances/Opening balances (Assets & Liabilities) will be treated as 1st transaction & will be recorded.|
|of the accounting period are||In every transaction there are always two parties and one of which must be the Entity referred above.Also in every transaction there are effects on any 2 items of Expenses/Incomes/Assets/Liability known as Dual Aspect concept.|
|ENTERED||→||In Books of Entry which is Cash Book and/or Bank Book and/or Sales Book and/or Purchase Book and/or Returns Book and/or Journal etc. (any one or more of these hooks can be maintained by an entity depending upon volume & nature of its transactions).Every transaction must be entered and it must be entered in any one of this book.|
It must be entered by Double entry principle that is debit an A/t and credit the other A/c with equal amount.
|inprime Book of Entry|
|from where debits & credits are||Double entry Principle|
|Real A/c →||What comes in/Increase in Asset||What goes out/Decrease in Asset|
|Personal A/c →||Receivers A/c/ increase in asset or Decrease in Liab.||Givers A/c/Decrease in Asset or Increase in Liab.|
|Nominal A/c →||Increase in expenses or Decrease in Income||Increase in Income or Decrease in Expenses|
|POSTED||→||To respective Accounts in the Ledger.Each type of information (i.e. information of same nature) is recorded together at one place known as an Account.|
To differentiate, different accounts from each other and to give information about its nature, each account is given a name known as ‘Account Head’.
|to accounts in ledger|
|at the end of the period||From every book of entry, double posting (one Debit and other Credit) will be made for every transaction except Cash Book from where only debit or only credit posting is made, because cash book itself is also a cash and bank A/c and hence one effect is completed there itself when entry is made.|
|TOTALLING AND BALANCING||→||Each account will be totalled and balanced. Account is Nil (if both sides agree). It is Debit balance (if debit side total is more). It is credit balance (if credit total is more).|
|TRIAL BALANCE||→||Contains Debit & Credit balances of ledger Accounts which may be Income/Expense/Asset/Liability or reduction in any of this. Trial Balance must tally i.e. total Dr. = total Cr.|
|+Adjustment/ Additional Information||→||Is some transaction/corrections/adjustment to be recorded in the above Accounts Books. (This is generally to comply with Principle of Prudence, matching principle and/or Accrual system of accounting).|
|Entries for this will be passed in Journal.Balances (of accounts) in Trial Balance together with effect of adjustments gives the information about total Expenses and Incomes for the accounting period and Assets & Liabilities remaining at the end of the period.|
|FINAL ACCOUNT||→||Trading and P&L A/cAll Expenses and Incomes Accounts are transferred into it, the difference is either profit or loss which is transferred to owners account, known as Capital Account.|
The balances left now, which generally are Assets & Liabilities, are shown in a statement known as Balance Sheet and are carried forward to next years books of account as opening Balances.
Balance Sheet must tally because whole accounting is by Double entry principle.
This is the end of the Accounting of this year. The same procedure will be followed next year and so on. And this accounting cycle continues from year to year until that entity closes.
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