Six Accounting Principles Every Business Should Know

Every thriving business relies on a team of professionals who work behind the scenes to keep the operations running smoothly. Among these professionals, an accountant plays a vital role. They are responsible for preparing and auditing financial records, identifying potential opportunities and risks, advising management and decision-makers, and ensuring that accurate and detailed records are maintained.

The best accountants tend to follow a set of principles to help them track financials and mitigate risk. Just think of these accounting concepts and principles as industry best practices. In this post, we'll cover six of these basic principles of accounting that every business - and accounting professional - should know. We'll also explain how a bachelor's degree in accounting from Champlain College Online can empower professionals with the knowledge and experience to guide the firms they work for successfully. Read on to learn more.

Why Learn Basic Accounting for Your Business?

Consistency. Reliability. Accuracy. Those are three of the key reasons to use some of the basic principles of accounting in your small business, and adhering to the six principles that we'll cover later in this post can help companies adhere to the standards that many are expected to abide by. Accounting principles are a set of established rules that guide proper financial practices. They make it easier to accurately interpret financial data and determine the health of a business. In addition, they can help prevent fraudulent activities and other issues that businesses often encounter.

Essential Accounting Concepts and Principles

You may have heard of a few widely used basic principles of accounting. The International Financial Reporting Standards, or IFRS, set the most commonly used accounting principles on a global scale. The United States has its own accounting principles, the Generally Accepted Accounting Principles, or GAAP. The Governmental Accounting Standards Board, or GASB, developed these principles.

Think of the GAAP as the framework on which further accounting rules are based, as they cover everything from statement presentation, liabilities, assets, full disclosure, equity, non-monetary transactions, and more. In the United States, all publicly traded companies are required to follow GAAP per the SEC. Private firms and non-profits may elect to follow GAAP principles or be required to follow said regulations at the request of investors, lenders, or other partners. Firms that don't follow GAAP principles tend to report their financial information using OCBOA or "other comprehensive basis of accounting principles."

While the GAAP includes a range of accounting standards for businesses to follow, it has set 10 fundamental principles. Another body, the American Institute of Accountants (AIA), has created its own basic principles of accounting dating back to the aftermath of the 1929 Wall Street crash that started the Great Depression. The AIA suggests that businesses follow five basic principles, yet more have been added over the years. Combined with GAAP principles, there are several accounting best practices that firms should abide by.

Here's a look at six accounting principles that every business should know:

1. Going Concern Principle

This principle states that a business will meet all of its financial obligations in the near future. Going Concern may also refer to a company's viability to continue to make money and avoid liquidation or bankruptcy. Viable firms should consider going concerns, as it indicates they have the resources and financial stability to continue operating. When a firm is no longer a going concern, it may mean issues such as credit denial, significant losses, lawsuits, or financial instability. If a company is no longer considered a going concern, it will likely look to liquidate some of its assets.

The going concern principle includes the GAAS, or Generally Accepted Auditing Standards.

2. Accrual Principle

This accounting principle defines the two most common accounting methods firms use - accrual basis and cash basis. In accrual basis accounting, financial statements match income and expenses when they are incurred. For example, accrual-based accounting would track an invoice as it's sent out and not when it's paid. Cash basis accounting only reflects income as invoices are received and expenses as bills are paid.

3. Consistency Principle

One of the biggest advantages of abiding by the basic principles of accounting is to ensure consistency when reporting financial data. This principle states that accountants should enter all transactions and prepare their financial reporting similarly to reduce the potential for errors or any other discrepancies. Sometimes, a firm changes how it presents or prepares its financials. If this occurs, the business and its accountants are expected to disclose that change and why it was made.

4. Historical Cost Principle

A basic principle of accounting under the GAAP is the measure of original value and not current market value. It's a staple of conservative accounting that helps prevent overstating asset value.

5. Materiality Principle

The materiality principle permits a comprehensive overall look at a business. Under this principle, it's suggested that firms record all financial transactions that could impact business decisions - no matter how minor or significant they may be. The materiality principle is especially helpful if a firm is audited.

6. Conservatism Principle

Revenue and expenses are treated differently under this principle. Under this principle, businesses should recognize expenses - even if there's the expectation that they'll be incurred. Conversely, businesses should only record revenue when there's a deal of confidence that it will be formally paid, often by either an invoice or purchase order. The conservatism principle allows businesses to have a much more conservative financial outlook. Following this principle and over-estimating expenses rather than revenue tends to be better for overall cash flow. It allows an accountant to anticipate losses better and maintain a more careful financial outlook.

Applying Principles to Your Business

A business must rely on these critical principles - among others - for decision-making, revenue recognition, asset valuation, and more.

For example, when a business follows the conservatism principle, it tends to overestimate its expenses compared to earned revenue. Losses are recorded as soon as they occur, while gains are only recorded once they have been officially paid. Following this principle may inspire management to make decisions with greater care. It may also result in positivity once the dust settles on quarterly and annual financials and all invoices or purchase orders are paid in full to better results than projected. The conservatism principle in accounting means that businesses should be cautious and prioritize safety when it comes to their financials.
Another example that covers more than one of the principles is the consistency principle. This principle states that once a firm chooses an accounting method, it should continue to use it consistently. For instance, if a firm has chosen to follow accrual-based accounting, it should apply that method to its balance sheet and financial statements.

Following the historical cost principle, a firm would value a property or asset for its original value and not what it's worth now, allowing highly liquid assets to be reported at fair market value. While not all assets can be recorded at historical costs, this helps prevent overstating asset value, notably during volatile market conditions that cause assets to appreciate. A simple example is the acquisition of a small business's main property. Suppose a company acquired an office building for $100,000 in 1990. On the balance sheet, the asset can still be recorded at its original cost of purchase despite its significantly higher market value.

Advancing Your Accounting Knowledge

Accounting is more than just keeping track of numbers; the best accountants have a comprehensive understanding of more than just what's required to record financial transactions. The best accountants thoroughly understand the principles to help guide decision-making to set their firms up for financial success. One of the key benefits of earning a bachelor's degree in accounting from Champlain College Online is gaining this knowledge and understanding of these key principles. Champlain College's online bachelor's degree program is designed to meet the career goals of small businesses, entrepreneurs, and accounting enthusiasts.

All successful businesses need good accounting professionals to track records and help advise decision-making management. Not just anyone can serve as an accountant– it takes unique skills, experience, and financial know-how to act as a trusted professional to help a business reach its near-term and long-term financial goals. 

At Champlain College Online, we have programs to help you gain this knowledge. We are committed to supporting and guiding your career from the day you enroll in our program to the weeks, months, and years after you leave with a bachelor's degree. Contact us today to learn more about an online bachelor's degree in accounting.