Difference Between Principle-Based Accounting and Rules-Based Accounting (With Table)

All the companies and organizations small or big needs to prepare their financial statement or end expense statements. And for this purpose, they follow some principles and rules which are decided by the financial accounting standard board and are common for every type of organization or company.

Principle-Based accounting and Rules-Based accounting are two types of accounting methods where principles and rules are added accordingly and separately. These methods help to maintain a balance sheet or financial statement in an organized way and comparable way so everything can be checked whenever we want.

Principle-Based Accounting vs Rules-Based Accounting

The difference between Principle-Based accounting and Rules-Based accounting is that Principle-Based accounting uses some guidelines designed by professionals or experts, and there are no defined rules or regulations. On the other hand, Rules-Based accounting uses rigorous rules which need to be followed while making financial statements.

Principle-Based accounting contains standard principles which cannot be changed, and these predefined principles are only used when preparing income statements, balance sheets, or financial statements. This method of approach is always preferred because it allows flexibility and is easy to apply.

The Rules-Based accounting method uses specific rules which are applied in financial statements. This method is very complex, and the complexity increases with an increase in expenses. The rules are pre-defined, common for all, and are designed by the financial accounting standard board.

Comparison Table Between Principle-Based Acoounting and Rules-Based Accounting

Parameters of ComparisonPrinciple-Based AccountingRules-Based Accounting
DefinitionPrinciple-Based accounting is a method of accounting or calculating used in making financial statements or income statements. Rules-Based accounting contains some rules or predefined guidelines and using these rules, balance sheets are made.
Basic dependency This accounting method depends on principles that are set by the financial accounting standard board and is common for all people. This accounting method depends on rules which are designed step by step with minimum complexity and can be altered accordingly.
Flexibility and complexityPrinciple-Based accounting procedures provide you flexibility while accounting, but it becomes complex as the calculation steps increase. Rules-Based accounting procedure is not very flexible as it has rigorous rules, but the complexity is less.
ConsistencyThe Principle-Based accounting method lacks consistency because of no strict rules present in the method. The Rules-Based accounting method is more consistent as it contains fixed rules, which are a must.
Calculations This method involves complex calculations, and the projected revenue may vary. This method contains simple and easy steps without much complexity, and calculations made do not vary.
ComparabilityThe documents or income statements made using this method are hardly comparable and less clear. Rules-Based documents or financial statements are easily comparable and specified.

What is Principle-Based Accounting?

Principle-Based accounting uses principles in every step for calculating balance sheets or income statements. International financial reporting standards (IFRS) follow the Principle-Based accounting method. As the calculation step increases, so increases the complexity of the statements. But when compared to the Rules-Based accounting method Principle-Based method is more flexible.

This accounting method contains guidelines which are needed to be followed while making financial statements. The principles used may vary according to country or state and can be altered according to companies’ convenience. In this accounting standard, there are no strict rules; therefore, the legality of the documents is less as compared to Rules-Based documents.

These principles are easy to apply when it comes to small companies or organizations but their complexity increases as the expenses and the structure of the company increase. Almost 120 countries follow Principle-Based accounting standards.

What is Rules-Based Accounting?

The Rules-Based accounting method is a standard method that contains a set of rules that are strictly followed while preparing financial statements or income statements. These rules are rigorous and compulsory and are decided by the financial board itself. These rules are applied at every point of calculation, which makes this method less complicated.

Rules-Based accounting is used in (GAAP) generally accepted accounting principles system. This accounting system helps companies to compare their expenses and profits from other companies in an easy way. The balance sheets or financial statements made by using this method are generally comparable and provides a clear vision of future predictions of profits or losses.

Also, if you are using the Rules-Based accounting method, you create a document that is legal and verified and can be explained almost to anyone by specifying each rule used in every point. Therefore this method is generally used for those statements which are needed to be released publicly.

Main Differences Between Principle-Based Accounting and Rules-Based Accounting

  1. Principle-Based accounting is a method of accounting or calculating used in making financial statements or income statements. On the other hand, Rules-Based accounting contains some rules or predefined guidelines and using these rules, balance sheets are made.
  2. Rules-Based accounting procedure is not very flexible as it has rigorous rules, but the complexity is less. Whereas Principle-Based accounting procedure provides you flexibility while accounting but it becomes complex as the calculation steps increase.
  3. Rules-Based documents or financial statements are easily comparable and specified. While the documents or income statements made using the Principle-Based method are hardly comparable and less clear.
  4. The Principle-Based accounting method lacks consistency because of no strict rules present in the method. Whereas the Rules-Based accounting method is more consistent as it contains fixed rules, which are a must.
  5. The Principle-Based accounting method depends on principles that are set by the financial accounting standard board and is common for all people. While Rules-Based accounting method depends on rules which are designed step by step with minimum complexity and can be altered accordingly.

Conclusion 

Maintaining a financial statement is very important for every company and organization. Because it keeps the data safe and organized. And whenever you want the past data, you can access it easily and can compare it with your present data. This helps in knowing your exact profits and losses in your expenses and investments.

Principle-Based accounting is used by several companies and organizations for maintaining their expenses details in a sophisticated and organized manner. It comes with a set of principles that are applied while preparing income statements or balance sheets. While Rules-Based accounting contains several rules for every step of making a balance sheet or financial statement and these rules are very complex with rigorous concepts.

References

  1. https://www.tandfonline.com/doi/abs/10.1080/09639284.2011.569128
  2. https://meridian.allenpress.com/accounting-review/article-abstract/87/4/1247/53947
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