What is GAAP?
Financial statements are the product of accumulating, analysing and reporting a huge volume of data about a business. If every accountant followed their own rules, no two sets of books would ever be comparable. GAAP solves that.
- Basic accounting principles and guidelines
- Accounting standards issued by the country's premier accounting body (in India, ICAI)
- Industry-specific practices for unusual scenarios
A principle is generally accepted when three things hold: it is useful, it is objective, and it is feasible to apply.
1. Separate Business Entity Concept
The business is treated as completely separate from its owner. All entries are recorded from the business's point of view, not the owner's.
If you invest ₹1 lakh of your savings into your firm, the books treat that as the business borrowing ₹1 lakh from you — shown as "Capital" on the liabilities side. If you withdraw ₹10,000 for personal use, that is "Drawings", reducing capital.
2. Money Measurement Concept
Only transactions that can be expressed in money are recorded. This rule has two consequences:
- Important non-financial facts like the health of your MD, the quality of your team, or your brand reputation are not recorded — even though they affect the business deeply.
- The system implicitly assumes the rupee has a stable value over time, which is not strictly true during inflation.
3. Dual Aspect Concept
Every transaction has two sides. If you sell ₹10,000 of goods for cash, two things happen at once: cash comes in (+₹10,000) and goods go out (-₹10,000 stock). Both sides must be recorded — this is what makes double-entry book-keeping work and what guarantees the accounting equation always balances.
4. Going Concern Concept
Unless there's evidence to the contrary, we assume the business will continue operating indefinitely. This matters because it justifies recording fixed assets at cost (and depreciating them over their useful life) rather than at their forced-sale value. If we expected the business to liquidate next month, we'd have to restate every asset and liability at its current realisable amount.
5. Accounting Period Concept
Even though a business is a going concern, its owners cannot wait forever for results. So we slice the indefinite life of the business into shorter periods — usually a year — and prepare financial statements for each. In India, the standard accounting period is April to March (the financial year used for tax purposes).
6. Historical Cost Concept
An asset is recorded at the price actually paid to acquire it — not its current market value.
If you bought a plant for ₹5 lakh and its market value today is ₹6 lakh, the books still show ₹5 lakh. Historical cost is objective and verifiable; market value would require subjective estimates every year.
This does not mean assets stay at their original cost forever. Each year a portion is charged as depreciation, gradually reducing the book value to reflect wear and tear.
7. Matching Concept
Revenue for a period must be matched with the corresponding expenses incurred to earn that revenue. If you bought stock worth ₹50,000 in March and sold it in April, the ₹50,000 cost is matched to April's revenue — not recorded as a March expense.
8. Accrual Concept
The most fundamental principle of accounting:
- Record revenue when it is earned, not when cash is received.
- Record expense when it is incurred, not when cash is paid.
Example: an electricity bill arrives in March for January–March consumption. Under accrual, you book the expense in March because the service has already been used — regardless of when you actually pay.
iAccounting follows the accrual concept by default but supports cash-basis reporting too. Toggle the basis when generating any P&L or balance sheet to see your numbers either way.
Read: Cash vs Accrual →Accounting Conventions
If concepts are the rules of the game, conventions are the customs and best practices that have evolved on top of them.
| Concept | Convention |
|---|---|
| Formal rules followed when recording transactions | Customs and practices widely accepted in the profession |
Materiality Convention
Items of small significance don't need theoretically perfect treatment. A ₹100 calculator might technically last 10 years, but it's not worth depreciating ₹10 per year — just expense the whole ₹100 in year one. What is "material" depends on the size of the business.
Conservatism Convention
Anticipate all losses but don't record gains until they actually happen. Examples in practice:
- Value closing stock at the lower of cost or market price
- Create a provision for doubtful debts before they actually go bad
Consistency Convention
Once you choose an accounting method, stick with it. If you charge depreciation by the straight-line method this year, use the same next year — unless you have a sound reason to change. Without consistency, year-over-year comparisons are meaningless.
Disclosure Convention
Financial statements should fairly disclose all material information that helps users make rational decisions. Hiding inconvenient facts in footnotes (or omitting them entirely) violates this convention.
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