Principles Based Accounting Standards - Explained
What are Principles Based Accounting Standards?
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Table of ContentsWhat are Principles-based Accounting Standards?How are Principles-Based Accounting Standards Used?Accounting StandardsMajor FASB Standards Academic Research on Principles-based Accounting Standards
What are Principles-based Accounting Standards?
Principles-based Accounting Standards refers to a set of rules and guidelines that organizations must follow when making financial reports. Different states and countries have accounting principles that guide them when reporting their financial data, in the United States, for instance, companies must abide by the generally accepted accounting principles (GAAP) so as to remain listed on the stock exchange. Principle-based accounting standards are compiled by boards of states. In the United States, GAAP was set by the Financial Accounting Standards Board (FASB).
How are Principles-Based Accounting Standards Used?
Companies make financial reports to regulatory bodies or tax agencies annually, semi-annually or monthly. When preparing financial reports, there are some set of principles they must comply with, these are known as accounting standards. Accounting standards are often set by private or non-profit organizations and these rules and guidelines vary across the globe. In the United States, the Financial Accounting Standards Board (FASB) has a responsibility set GAAP and ensure they are complied with by organizations in the U.S. Despite the variations of principles-based accounting standards across countries, they all have some qualities in common. FASB has 11 concepts which include consistency, accounting period, dual aspect, materiality, money measurement, realization and conservation. Accounting standards also vary from company form company, while medium and small businesses have simplified accounting standards they must follow, there are strict accounting standards public companies are expected to stick to when making financial disclosures and reporting. Vital elements of accounting standards include specification of monetary units, identification of the entity reporting, reporting time frames, among others.
In the United States, the FASB makes certain pronouncements known to be part of the generally accepted accounting principles. These serve as information and guidelines that companies must follow when making financial reports. The FASB pronouncements include Statements of Financial Accounting Concepts, Statements of Financial Accounting Standards, FASB Technical Bulletins, EITF Abstracts, and FASB Interpretations. Accounting standards vary across countries of the globe, most standards are set based on the financial data prevalent in the country. In the United States, the major standards of the Financial Accounting Standards Board (FASB) include Revenue recognition, derivative accounting, variable interest entities, credit losses, leases (balance sheet), stock options, pensions, and others.
Major FASB Standards
According to the history of principle-based accounting standards which were set and used mostly in the 21st century, there are some drawbacks on these accounting principles. Despite that, they present a set of guidelines that companies must follow when making financial reports, fraud was prevalent at this time, to the extent that they were unnoticed by external auditors. The major examples of accounting irregularities in the 21st century were those of Enron and Worldcom. Benefits of Accounting Standards: The major benefits of accounting standards are highlighted below;
- Accounting standards increased transparency in the financial report of companies.
- These standards created a formal guideline for accountability by businesses and organizations.
- Accounting standards reduce fraud and covering of debts and losses mostly practiced by companies.
- These are sets of regulations created to prevent financial crackdown in businesses.