Kellies

GAAP
Glossary
The Business Entity Concept This provides that the accounting for a business or organization must be kept separate form the personal affairs of the owner, or from any other business or organization. In short, this means that the balance sheet of the business must reflect the financial position of that business alone. No personal assets or other accounts outside the company can be added. Also, when doing accounting, all personal expenses, or transactions for other companies must be charged to that party, not the business. Example 1: The balance sheet of Easy Rent-Alls reflects the affairs of the business only. No personal assets are included. Example 2: Mr. Joe wants to decrease his net income in order to fit a lower tax bracket on his income tax returns. He would like to expense his personal automobile to the business but this GAAP prevents him.

The Continuing Concern Concept This assumes that a business will continue to operate unless otherwise known. Also called the going concern concept. In short, the dollar values associated with a business that is alive and well are straightforward . Example 1: Joe Landscaping has bought 500 envelopes with the company name on them. If the business was going out of business, these envelopes would be worth much less then their value to the running business. Example 2: Mr. Joe has MYOB accounting software from 2000 that he bought for $200 and uses for his company. Although this software is out-dated and useless to anyone else, it is still worth $200 dollars to his business.

The Principle of Conservatism This provides that all accounting for a business should be fair and reasonable. In their work, accountants are required to make evaluations and estimates, to deliver opinions and to select procedures. They should do this in such a way that assets or profits are neither overstated nor understated when uncertainty exists. Example 1: A costumer owes the business $500 dollars but the business has been told that there is only a 1 in 4 chance he will pay. The amount should not be included in the balance sheet of the business. Example 2: McDonalds has been sued successfully for $2 million when a rats head was found in a hamburger. Although McDonalds is appealing, chances of the courts overturning their ruling is minimal so this debt must still appear on the balance sheet of the business. The Objectivity Principle This states that accounting will be recorded on the basis of objective evidence. According to this GAAP, anybody looking at the evidence of a transaction should be able to come to the same values. Source documents are almost always the best objective evidence to use to prove a transaction happened. Example 1: For the purchase of a new desk, the bill is received from the retailer. This source document shows the amount of the transaction and the accounting apartment can process the transaction. Example 2: Lets say the same desk above was bought, but the business had not yet received the bill in the mail. There is no evidence that the transaction had taken place and therefore it can not be recorded until there is. The Revenue Recognition Convention This states that all revenue must be recorded in the accounts at the time the transaction is complete. Usually this convention just means that revenue is recorded when the bill is sent to the costumer. If the transaction is for cash, it is recorded when the cash is received. Example 1: A large building is under construction. The construction company hired bills the owners periodically for work completed and records their revenue at the time the bill is sent. Example 2: Mr. Jim-Bob manages a Wal-Mart store in Nantucket. Every time a purchase is made, their computer system not only deducts the item from inventory, collects data based on sales of that product, and tells their distributor to ship more, it also updates their books.

The Time Period Concept This provides that accounting will take place over specific periods of time known as fiscal periods. Fiscal periods are always maintained by a company but can range from 1 day, to 1 year. Example 1: The income statement for James Fair is for the fiscal period ending December 31, 2005. Example 2: Many companies with large incomes have fiscal periods of only 1 month, 2 months, or 3 months. This makes numbers easier to work worth and allows for less stressful payment of large amounts of income tax. The Matching Principle This states that each expense item related to revenue earned must be recorded in the same fiscal period as the revenue it helped to earn. This is only fair allowing for an accurate portrayal of income and expenses for each fiscal period. Example 1: A business pays $30 000 for advertising for a Boxing Day sale on December 26, 2005. Although the bill doesnt come due until January, it was still part of the fiscal year ending December 31, 2005 and therefore should be included in that years accounting. Example 2: Lets say a new management takes over a business half way through the fiscal year. In order to make the new management look better, they pay off some projected costs for the following year right away and blame their deficit on the previous management. The next year theses expenses have already been paid making the new management look better be having more money in the bank for the fiscal period. The Cost Principle This states that the accounting for purchases must e at the cost to the purchaser. Similar to the objectivity principle, this means that the numbers that appear on the source document must be the numbers used when accounting for the transaction. Example 1: Carbide tools limited send you a bill for $1 368.30. This must be the number that is used when accounting for this transaction. Example 2: Likewise, lets say you send out a bill for $500.00. Although you can always hope that the debtor accidentally overpays you, this is not likely and your revenue account should only be credited this $500.00 (excluding taxes of course).

The Consistency Principle This requires that a business must use the same accounting methods and procedures from one period to the next. If there is a change in method from one period to another, the financial statements must clearly indicate the change and the readers of these documents have the right to assume the otherwise consistency has applied. Example 1: A contracting company normally records revenue when payments are received, however, the company had a bad year. It would be wrong to make the results look better by including some revenue from invoices issued but payments have not yet been received. Example 2: The CEO of a major company get bored and decides he wants to change his companies fiscal periods from 6 months to a year. However, he does not inform his stockholders of the change and the next update on business revenue they receive seems amazinguntil they realize that their looking at results from twice the time period. The Materiality Principle This requires accountant to follow generally accepted accounting principles except when to do so would be expensive or difficult, and where it makes no real difference if the rules are ignored. If the rule is temporarily ignored, the net income of the company must not significantly affected and the readers ability to judge the financial statements should not be impaired. Example 1: An invoicing error of $50.00 was found. This error only affected the net income of approximately $350 00.00 and to fix it would require lots of time and effort on the accounting departments part. Example 2: John Jenkins bought a television for $210.00. However, the source document only says $200.00. It would require a lot of work to fix the error and he has to hand in his income tax returns in 30 minutes (i.e. its almost midnight). Therefore, he should be able to write the actual cost of the transaction in the books and worry about sorting it out later. The Full Disclosure Principle This states that all information pertinent for a full understanding of the companies financial affairs must be disclosed with the financial statements. This includes legal documents about law suites or any other information that may not affect the books of the company but still affects the financial affairs of the company. Example 1: A company is being sued for lots of money and would be seriously affected if they lost the lawsuit. This information would have to be disclosed with the financial documents. Example 2: A company is expecting an investment of over $2 million. Although they have not received the money yet, information about this should be included with the financial statements.