Accounting Concept vs Convention: Difference and Comparison

Accounting concepts are fundamental principles that guide the preparation of financial statements, such as the accrual concept, which states that transactions should be recorded when they occur, not necessarily when cash is exchanged. On the other hand, accounting conventions are customary practices followed in accounting, like the conservatism convention, which suggests that accountants should err on the side of caution when making estimates or valuing assets and liabilities.

Key Takeaways

1. Accounting concepts are basic principles guiding the accounting process, while conventions are customary practices followed by accountants.
2. Concepts form the foundation of accounting standards, whereas conventions help ensure consistency and comparability across financial statements.
3. Examples of accounting concepts include accrual and going concern, while examples of conventions include consistency and conservatism.

Accounting Concept vs Convention

Accounting concepts are fundamental principles that underlie the preparation of financial statements. It is the fundamental principles that underlie the preparation of financial statements. Accounting conventions are accepted practices that are followed in accounting.

The accounting concept is a theoretical statement. An accounting convention is a procedure agreed upon by the accounting bodies for preparing final accounts.

Comparison Table

Feature	Accounting Concept	Accounting Convention
Definition	Fundamental rules and assumptions that form the foundation for preparing financial statements.	Established practices and procedures widely accepted and followed in the accounting profession.
Purpose	To ensure consistency, objectivity, and fairness in financial reporting, allowing users to compare financial statements across companies and over time.	To simplify and standardize accounting practices, promoting practicality and efficiency in financial reporting.
Basis	Underlying principles and theories of accounting, striving to reflect economic reality.	Common practices and methods accepted by the accounting profession, based on historical precedent and practicality.
Flexibility	Less flexible, as they are established principles designed to ensure consistency in financial reporting.	More flexible, as they can be adapted to specific situations and may evolve over time.
Impact on Financial Statements	Significant impact, as they determine the recognition, measurement, and presentation of financial statement items.	Moderate impact, as they influence the specific presentation and disclosure of certain financial statement items.
Examples	Going concern concept, matching concept, accrual concept	Materiality, consistency, full disclosure

What are Accounting Concepts?

Accounting concepts are fundamental principles that form the basis for the preparation of financial statements. These concepts ensure consistency, comparability, and reliability in financial reporting. They guide accountants in recording, classifying, summarizing, and interpreting financial transactions.

Entity Concept

The entity concept states that a business is considered a separate economic entity from its owners. This means that business transactions should be recorded separately from the personal transactions of the owners. For example, if the owner invests personal funds into the business, it should be recorded as capital injection, distinct from personal savings.

Going Concern Concept

The going concern concept assumes that a business will continue to operate indefinitely unless there is evidence to the contrary. This concept allows accountants to prepare financial statements under the assumption that the business will remain in operation for the foreseeable future. As a result, assets are recorded at their historical cost rather than their liquidation value.

Accrual Concept

According to the accrual concept, transactions should be recorded in the accounting period in which they occur, regardless of when cash is exchanged. This means that revenues are recognized when earned and expenses are recognized when incurred, regardless of when the cash is received or paid. For example, if a company sells goods on credit, the revenue is recognized at the time of sale, not when the cash is collected.

Consistency Concept

The consistency concept requires that accounting methods and procedures once adopted should be consistently applied from one accounting period to another. This ensures comparability of financial statements over time and allows users to make meaningful comparisons. Changes in accounting policies are allowed only if there is a valid reason, and their effects should be disclosed in the financial statements.

Materiality Concept

The materiality concept states that financial information should be presented accurately and relevantly to users. Information is considered material if its omission or misstatement could influence the economic decisions of users. Accountants need to assess the materiality of information based on its nature and magnitude and disclose significant information even if it does not meet the threshold for materiality.

Prudence Concept (Conservatism)

The prudence concept, also known as conservatism, suggests that when there are uncertainties in accounting estimates, accountants should err on the side of caution. This means that potential losses should be recognized as soon as they are anticipated, while potential gains are recognized only when realized. For example, inventory is valued at the lower of cost or net realizable value to ensure conservatism in financial reporting.

What are Accounting Conventions?

Accounting conventions are traditional practices and customs that have developed over time and are widely accepted within the accounting profession. While not necessarily mandatory like accounting principles, conventions provide guidance on how certain transactions and events should be recorded, presented, and disclosed in financial statements. Here are some commonly recognized accounting conventions:

Conservatism Convention

The conservatism convention, also known as the prudence concept, advises accountants to adopt a cautious approach when dealing with uncertainties in financial reporting. This convention suggests that potential losses should be recognized as soon as they are anticipated, while potential gains should only be recognized when realized. For instance, inventory is valued at the lower of cost or market value to ensure conservative reporting of assets.

Consistency Convention

The consistency convention emphasizes the importance of maintaining uniformity and comparability in financial reporting. It suggests that once an accounting method or policy is chosen, it should be consistently applied from one accounting period to another unless there is a valid reason for change. Consistent application of accounting policies ensures that users can make meaningful comparisons of financial information over time.

Materiality Convention

The materiality convention states that financial information should be disclosed if its omission or misstatement could influence the economic decisions of users. However, not all information needs to be disclosed; only material information that is relevant and significant should be included in financial statements. Accountants must assess the materiality of information based on its nature and magnitude, ensuring that only relevant information is presented to users.

Full Disclosure Convention

The full disclosure convention requires that all significant and relevant information be disclosed in financial statements and accompanying notes to ensure transparency and completeness. This convention ensures that users have access to all pertinent information necessary to understand the financial position and performance of an entity. It includes disclosures about accounting policies, significant accounting estimates, contingent liabilities, related party transactions, and any other information that could impact decision-making.

Historical Cost Convention

The historical cost convention dictates that assets should be recorded in financial statements at their original acquisition cost, rather than their current market value. This convention provides a reliable and verifiable basis for recording assets and avoids subjective assessments of value. However, critics argue that historical cost may not accurately reflect the current economic reality of assets, especially in periods of inflation or deflation.

Revenue Recognition Convention

The revenue recognition convention outlines principles for when revenue should be recognized in financial statements. It suggests that revenue should be recognized when it is realized or realizable and earned, regardless of when cash is received. This convention ensures that revenue is recorded in the period in which it is earned, providing a more accurate representation of an entity’s financial performance.

Main Differences Between Accounting Concepts and Accounting Conventions

• Nature:
  • Accounting Concepts: Fundamental principles guiding the preparation of financial statements.
  • Accounting Conventions: Traditional practices and customs widely accepted within the accounting profession.
• Purpose:
  • Accounting Concepts: Ensure consistency, comparability, and reliability in financial reporting by providing a framework for recording, classifying, summarizing, and interpreting financial transactions.
  • Accounting Conventions: Provide guidance on how certain transactions and events should be recorded, presented, and disclosed in financial statements to enhance transparency and completeness.
• Flexibility:
  • Accounting Concepts: Generally less flexible as they represent fundamental principles that underpin financial reporting.
  • Accounting Conventions: Can be more flexible as they are customary practices that may evolve over time based on changes in business practices and regulatory requirements.
• Examples:
  • Accounting Concepts: Entity concept, going concern concept, accrual concept, consistency concept, materiality concept, prudence concept.
  • Accounting Conventions: Conservatism convention, consistency convention, materiality convention, full disclosure convention, historical cost convention, revenue recognition convention.
• Implementation:
  • Accounting Concepts: Applied universally in financial reporting and form the basis for accounting standards and regulations.
  • Accounting Conventions: Implemented as customary practices within the accounting profession, providing practical guidance on how to apply accounting principles in specific situations.