Accounting Concepts

Accounting Concepts

Four important accounting concepts underpin the preparation of any set of accounts:

Going Concern	Accountants assume, unless there is evidence to the contrary, that a company is not insolvent (run out of cash)
Consistency	Transactions and valuation methods are treated the same way from year to year, or period to period. Users of accounts can, therefore, make more meaningful comparisons of financial performance from year to year. Where accounting policies are changed, companies are required to disclose this fact and explain the impact of any change.
Prudence	Profits are not recognised until a sale has been completed. In addition, a cautious view is taken for future problems and costs of the business.
Matching (or "Accruals")	Income should be properly "matched" with the expenses of a given accounting period.

Explore the Differences Between the Financial Statements

Sole Trader

A sole trader places all liabilities for finances and operations on the owner. The owner's personal property is tied to the business, so he assumes a risk against his personal assets should the business experience financial hardship. Annual income tax returns are filed on a Form 1040, and the owner must also file self-employment taxes.

The profits and losses of the business are reported through the owner and are taxed at the individual rate. The sole proprietorship business entity is the simplest form to set up, but the owner typically must sell the business to retrieve his investment.

As there are no shareholders there are no 'Shareholder Funds' in the annual accounts.

Partnership

A partnership entity has two or more owners sharing equal control, unless the partnership agreement states otherwise or the structure is set up as a limited partnership.

Similar to a sole proprietorship, the profits and losses of the business flow to the partners and are taxed at the individual rate. Operating partners assume risks both legally and financially. Creditors can attempt to collect debts from the partners personal assets. To recoup his investment, a partner is generally required to sell his interest in the business.

As there are no shareholders there are no 'Shareholder Funds' in the annual accounts. There will be 'Partners Capital' shown in the partnership balance sheet.

Limited company (LTD & plc)

A limited company can have an unlimited number of owners, also known as shareholders. In a limited company, the business entity remains separate from the owners in legal and financial matters. The profits and losses of a corporation are taxed at corporate rates, not individual rates.

If the limited company realises a profit, it is paid out to shareholders who must then report it as income and pay taxes on it at the individual rate. A shareholder in a privately held corporation must sell his interest to regain his investment. In a publicly held corporation, a shareholder can trade his shares on the open market.

'Shareholder Funds' are indicated in the companies balance sheet.

Not for profit organisations

These organisations are run for a social purpose. They may have shareholders but they do not receive dividend payments.

Profit (renamed as a 'surplus') is reinvested back into the organisation to support the social cause.

The 'Income Statement' will also show donations or possibly gifts.

See Question 3, Section C, Jan 14.

Financial Statements

Open the links below each statement for an explanation of what each term means.

https://www.tutor2u.net/business/reference/income-statement-introduction 

Note that net assets employed = capital employed. This is always the case, because the capital employed is the amount of long-term money put into the business and the net assets employed how it is used.

https://www.tutor2u.net/business/reference/the-balance-sheet