Accounting Principles and Assumptions

★ Principles and Assumptions ★

Business – is an organization of people with varied skills

which uses properties and talents to produce or distribute
goods and services which can be sold or rendered for more
than their costs.

Accounting – is the art of recording, classifying,

summarizing in a significant manner and in terms of
money, transactions, and events which are, in part at least,
of a financial character or accounting data, and interpret
the results thereof.

Basic Accounting Assumptions

- foundation of Generally Accepted Accounting
Principles
- provides uniformity in the practice of accounting
which can result to a distorting and meaningless
financial statement if disregarded.

1. Accounting Entity – this assumes that from the

accounting point of view, the business is considered as
“an entity that is separate and distinct from the owner
or management”.

2. Going-Concern Assumption – the business is assumed

to have a continuous life of existence.
Accounting Principles and Assumptions

3. Time-Period Assumption – this assumes that the life

of the business is divided into equal periods wherein at
the end of each period the accountant prepares the
financial statements.

4. Unit of Measure – this assumes that in the

Philippines we used the “peso” as a unit of measure.

5. Accrual Basis – under accrual basis, income is

recognized when earned regardless of when received
and expense is recognized when incurred regardless of
when paid.

Generally Accepted Accounting Principle (GAAP)

- are uniform set of accounting rules, procedures,
practices and standards that are followed in
preparing the financial statements.
- they serve as “ground rules” that guide
accounting practitioners in recording and
reporting financial information of a business
entity.

1. Cost Principle – this principle requires that assets

should be recorded at original acquisition cost.

2. Objectivity Principle – this principle requires that

accounting records should be based on reliable and
verifiable data as evidence of transactions.
Accounting Principles and Assumptions

3. Materiality Principle – this principle dictates

practicability to rule over theory in determining the
valuation of an item. To determine whether the item is
material or not, it is a matter of professional judgment
on the part of the accountant.

4. Matching Principle – this is the combined concept of

Revenue Recognition and Expense Recognition
Principles. Revenue should be recognized when earned
and expense should be recognized when incurred
during the same period as revenue is earned.

5. Consistency Principles – this principles requires that

accounting methods and procedures should be applied
on a uniform basis from period to period.

6. Adequate Disclosure Principles – this principle

requires that financial statements should be free from
any material misstatement; that if there is any, proper
disclosure should be made.
Accounting Principles and Assumptions

★ Elements of Financial Statements ★

1. Assets – are resources controlled by the enterprise

as a result of past transactions and events and
from which future economic benefits are expected to
flow the enterprise.

2. Liabilities – are present obligations of an enterprise

arising from past transactions or events, the
settlement of which is expected to result in an outflow
from the enterprise of resources embodying economic
benefits.

3. Owner’s Equity – A=L+OE.

4. Revenue – are the gross inflow of economic benefits

during the period arising in the course of ordinary
activities of an enterprise when those inflows result in
increase in equity.

5. Expenses – are the gross outflow of economic

benefits during the period arising in the course of
Accounting Principles and Assumptions

ordinary activities of an enterprise when those outflow

result in decrease in equity.

Financial Statements
are the means by which the information accumulated and
processed in financial accounting are periodically
communicated to the users.

1. Balance Sheet – is also called Statement of Financial

Position.
- is a financial statement which shows the financial
position of an enterprise as of particular date. It
consists of three elements: Assets, Liabilities and
Owner’s Equity.

2. Income Statement - is also called Statement of

Financial Performance or Profit-Loss Statement.
– is a financial statement which shows the
performance of the enterprise for a given period in
time. It consists of two elements: Revenue and
Expense.
Accounting Principles and Assumptions

3. Statement of Changes in Owner’s Equity – is a

financial statement that summarizes the changes in
equity for a given period of time.

4. Statement of Cash Flows – is a financial statement

that provides information about cash inflows and cash
outflows of an entity for a given period of time.

5. Accounting Policies and Notes to Financial

Statements – present the significant accounting
policies that affected the financial statements and
included supporting schedules of computations and
disclosures of some events and other information
essential to understanding the company’s accounts.

Qualities of Financial Statements

1. Understandability – this means that financial

statements should be prepared and presented in a
way that it can be understood by the users.

2. Reliability – financial information should carry the

degree of “confidence” when used.
Accounting Principles and Assumptions

a. faithful representation – the information

shows what it purports to show.
b. neutrality – financial reports should be fairly
presented and must be f aree from bias.
c. conservatism – whenlternatives exist, the
alternative which has the least effect on the
equity
d. completeness – financial statement is said to
be complete if it contains full disclosure of
significant information necessary in order that
the statement would not be misleading.

3. Relevance – this means that financial statements

are prepared intended to help users make informed
economic decisions.

4. Comparability – this means that the financial

statements prepared are worth comparing for with
other companies of the same line of business.

5. Consistency – every detailed used must be uniform

such as the time periods and the unit of measure.
Accounting Principles and Assumptions

Users of Financial Statements

1. Investors – they need information to help them

determine whether they should buy, hold or sell.

2. Employees – they are interested in information

about the stability and profitability of the enterprise.

3. Lenders – they are interested in information which

enables them to determine whether their loans and
interest thereon will be paid when due.

4. Suppliers – these users are interested in

information which enables them to determine
amounts owing to them will be paid on maturity.

5. Customers – they have an interest in information

about the continuance of an enterprise especially
when they have a long-term involvement with or are
dependent on the enterprise.
Accounting Principles and Assumptions

6. Government – these users require information to

regulate the activities of the enterprise, determine
taxation policies and as a basis for national income and
similar characteristics.

★ Accounting and Financials ★

Chart of Accounts

The Account
An account is an accounting form of record in which
the effect of similar of alike business transactions are
grouped of classified. This is an accounting device to
record the increases and decreases of specific asset,
liability, owner’s equity , revenue or expense.

The Chart of Accounts

Chart of accounts is a listing of all accounts. This is
usually arranged in the financial statement order – that is,
asset accounts, followed by liability accounts, owner’s
equity, revenues and expenses accounts. The purpose of
this chart is to maintain the uniform account name of the
business transactions.
Accounting Principles and Assumptions

Example of Chart of Accounts:

IS2 Rental Services

Chart of Accounts
Account Particulars Account Particulars
No. No.
Assets (110- Liabilities
170) (210-250)
110 Cash 210 Accounts
Payable
120 Accounts 220 Notes Payable
Receivable
130 Notes 230 Interest
Receivable Payable
140 Prepaid 240 Loan Payable
Supplies
150 Land 250 Withholding
Tax Payable
160 Building
170 Office
Supplies
Owner’s
Equity (310-
Accounting Principles and Assumptions

IS2 Rental Services

320)
310 IS2, Capital
320 IS2, Drawing

Expenses Revenues
(510-590) (410-430)
510 Salary 410 Service
Expense Income
520 Rent 420 Interest
Expense Income
530 Utilities 430 Rent Income
Expense
540 Bad Debts
Expense
550 Advertising
Expense
560 Insurance
Expense
570 Taxes and
Licenses
580 Supplies
Expense
Accounting Principles and Assumptions

IS2 Rental Services

Description of Account Titles

Real Accounts – are those accounts that comprise the
elements of the balance sheet – the assets, liabilities and
owner’s equity. These accounts are called real accounts
because they are not closed of not put to zero balance at the
end of the accounting period. These are permanent
accounts.

Nominal Accounts – are those accounts that comprise the

elements of the income statement – the revenue and
expense accounts. These accounts are called temporary
accounts because they are closed of put to zero balance at
the end of accounting period.

The Real Accounts

Assets
• Current Assets – refer to all assets that are
expected to be realized, sold or consumed within
Accounting Principles and Assumptions

the enterprise’s normal operating cycle. It is

held primarily for trading purposes or for the
short-term and expected to be realized within
twelve months of the balance sheet date and
cash or a cash equivalent which is not restricted
in its use.
1. Cash - any item on hand with monetary
value that a bank will accept for deposit and
all amounts currently on deposit with the
bank in the name of the business. This
includes coin and currency, traveler’s
checks made payable to the business and
bank drafts.
2. Petty Cash Fund – the account title for
money placed and set aside for petty or
small expenses.
3. Cash Equivalents - investments that are
readily convertible to cash and with short
maturity of 3 months or less form the date
of acquisition. They are available upon
demand.
4. Accounts Receivable = the account title
for amounts collectible arising services
rendered to a customer or client on credit of
sale of goods to customers on accounts.
This constitutes an oral or verbal promise to
pay by a customer or client.
Accounting Principles and Assumptions

5. Notes Receivable – this is a promissory

note that it is received by the business from
the customer arising from rendering of
services, sale of merchandise and the like.
6. Allowance for Doubtful Accounts – this
is an “asset offset” or a “contra-asset”
account. It provides for possible losses from
uncollected accounts. Although this is not
actually an asset, it is classified as such
because it is shown as a deduction from the
Accounts Receivable which is a Current
Asset Account.
7. Accrued Interest Income / Receivable –
the amount of interest earned on a Notes
Receivable which is not yet collected.
8. Advances to Employees – the account
title for amounts collectible from employees
for allowing them to make cash advances
which are deductible against their salaries
or wages.
9. Inventories – these are assets which are
held for sale in the ordinary course of
business; in the process of production for
such sale; or in the form of materials or
supplies to be consumed in the production
process of in the rendering of services.
Accounting Principles and Assumptions

10. Prepaid Expenses – account title for

expenses that are paid in advance but are
not yet incurred or have not yet expired.
11. Unused Supplies – and account title for
cost of stationery and other supplies
purchased for use but are left on hand and
still unused.
12. Short-term / Temporary Investments –
short-term investments with a term of more
than 3 months but within 1 year.

• Non-current Assets – these are assets that do

not meet the criteria of a current asset.
Generally, they include tangible, intangible,
operating and financial assets of long-term
nature.
1. Long-term investments - intended to be
held for more than one year.
2. Land – the site owned by the business of
which the business building is constructed.
This plant asset is not subject to
depreciation.
3. Building – the structure owned by the
business that is used in the operation of the
business.
Accounting Principles and Assumptions

4. Furniture and Fixture – long-lived

items used by the business including shore
furnishings, such as showcases, counters,
scales, as well as furniture such as desks,
chairs and cabinets.
5. Equipment – consists of what generally
might be called the machinery used in the
business such as computers, delivery
equipment or machinery used in conveying,
packaging and others.
6. Accumulated Depreciation – the
aggregate periodic costs of using a
depreciable plant asset. In accordance with
the systematic cost allocation principle, the
acquisition cost of depreciable plant asset
should be allocated as expense over the
useful lives of the related plant assets.
7. Intangible Assets – long-lived assets
that do not have physical substance and not
held for sale but are useful in the operation
of a business.
8. Patent – an exclusive right granted by the
government to an inventor enabling him to
control the manufacture, sale or other use of
his invention for a specified period of time.
9. Copyright – an exclusive right granted by
the government to the author, composer or
Accounting Principles and Assumptions

artist enabling him to publish, sell or

otherwise benefit from his literary or
musical work.
10. Trademark – a symbol, sign or name
used to mark a product to distinguish it from
other products.
11. Goodwill – arises when earnings exceed
normal earnings by reason of good name,
capable staff and personnel, high credit
standing, reputation for fair dealings,
reputation for superior products, favorable
location and a list of regular customers. In
other words, it is created by good
relationship between a business and its
customers. Bad customer relations will
decrease goodwill amount and increases if
otherwise.

Liabilities

• Current Liabilities – are financial obligations

of the enterprise which are expected to be settled
in the normal course of the operating cycle and
due to be settled within one year from the
balance sheet.
Accounting Principles and Assumptions

1. Accounts Payable – an account title for

a financial obligation of an enterprise that
constitutes an oral or verbal promise to pay.
2. Notes Payable (Short-term) – is a
promissory note issued by the business to
its creditors for money borrowed or
merchandise and other assets bought on
credit.
3. Bank Overdrafts – refer to the credit
balance in the cash account resulting from
the issuance of checks (payment of
liabilities through checks) with a sum larger
than the balance of actual cash deposit in
the bank.
4. Accrued Expenses – these are expenses
incurred by the enterprise but are not yet
paid.
5. SSS Premium Payable – refers to the
amount due and payable by the enterprise to
the Social Security System. This is
composed of both employer and employee
share of SSS contributions.
6. Pag-ibig Premium Payable – refers to
the amount due and payable by the
enterprise to the Home Development
Mutual Fund.
Accounting Principles and Assumptions

7. Withholding Tax Payable – is the

amount of income tax withheld from the
salary of the employee in behalf of BIR that
the employer has to remit to BIR on the
specified due date.
8. Unearned Income – this is an account
title for an income collected or received in
advance and is not yet considered as
“earned”

• Non-current Liabilities - refers to a financial

long- term obligation of the enterprise which are
due and payable for more than one year.
1. Notes Payable (Long-term) – same
nature with that of Notes Payable (short-
term) but only , this requires payment for
more than a year.
2. Mortgage Payable – a financial
obligation of the enterprise which requires a
fixed or tangible property to be pledged as a
collateral to ensure payment.
3. Bonds Payable – a long-term debt
security requiring interest and principal
payments according to contractual terms.
This is used when the corporation wants to
increase additional funds but does not want
to increase the number of owners.
Accounting Principles and Assumptions

Owner’s Equity

1. Capital – is the center of the owner’s

concern because this may increase of
decrease at anytime as a result of business
operation. In the normal course of
operation.
2. Withdrawal – is a temporary account
used to record initially the amount taken by
the owner from the business.

The Nominal Accounts

• Revenue

1. Sales Income – a temporary

proprietorship account used to summarize
sale of goods of a trade or a merchandising
business.
2. Service Income – the earnings derived
from service rendered by a servicing
business to its customers.
Accounting Principles and Assumptions

3. Professional Income – the account title

generally used by professionals for income
earned from the practice of their profession.
4. Rental Income – for income earned on
buildings, space or other properties owned
and rented out by the business as the main
line of its activity.
5. Interest Income – for income received by
the business arising from an amount of
money borrowed by a customer and is
usually covered by a promissory note.
6. Gain on Sale of Other Assets – the
income derived from the sales of assets
used in the business operation.

`` B. Expense

1. Cost of Sales / Cost of Goods Sold –

cost to produce and sell the goods.
2. Interest Expense - an expense
incurred from borrowed money.
3. Rent Expense – for the amount paid
or incurred for use of property, usually
premises.
Accounting Principles and Assumptions

4. Repairs and Maintenance – for

expenses incurred in repairing or
servicing the buildings, machineries,
vehicles, equipment which are owned by
the business.
5. Office Supplies Expense – the
stationery, envelopes, clips, used in the
office will bear the account title a “office
supplies”; if use in the store “store
supplies” or another title may be used to
describe the kind of supplies accounts.
6. Salaries Expense – for compensation
given to employees of a business.
7. Doubtful Accounts Expense – the
estimated amount of lossñes from
uncollectible accounts arising from credit
sales of the current period.
8. Depreciation Expense – for the
allocated portion of the cost of property
and equipment or fixed assets.
9. Taxes and Licenses – for the amount
paid for business permits, licenses and
other government dues.
10. Insurance Expense – account title
for the expired portion of the insurance
premium paid.
Accounting Principles and Assumptions

11. Utilities Expense - the account title

for telephone, light and water bills.
12. SSS Contribution – account title for
the employer’s share on SSS
Contribution.
13. Philhealth Contribution - account
title for the employer’s share on
Philhealth Contribution.
14. Pag-ibig Contribution - account title
for the employer’s share on Pag-ibig
Contribution.