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U.S. generally accepted accounting principles

From Academic Kids

Generally accepted accounting principles (GAAP) are the accounting rules used to prepare financial statements for publicly traded companies and many private companies in the United States. Generally accepted accounting principles for local and state governments operates under a different set of assumptions, principles, and constraints, as determined by the Governmental Accounting Standards Board.

In the United States, as well as other countries practicing English common law system, the government does not set accounting standards, in the belief that the private sector has better knowledge and resources. The GAAP is not written in law, although the SEC requires that it be followed in financial reporting by publicly traded companies.

Contents

Conceptual frame work

GAAP has four basic assumptions, four basic principles, and four basic constraints.

Assumptions

  • Economic Entity Assumption assumes that the business is a separate entity because the revenues and expenses should be kept away from personal expenses. This applies even for partnerships and sole proprietorships.
  • Going Concern Assumption assumes that the business will be in operation for a long time. This validates the methods of asset capitalization, depreciation, and amortization.
  • Monetary Unit Assumption assumes a stable currency is going to be the unit of record. The FASB accepts nominal value of US Dollar as the monetary unit of record. (unadjusted for inflation)
  • Periodicity Assumption assumes that the business operations can be recorded and separated into different periods. This is required for comparison between present and past performance.

Principles

  • The historical cost principle requires companies to account and report based on acquisition costs rather than fair market value for most assets and liabilities.
  • The revenue recognition principle requires companies to record when revenue is realized or realizable and earned, not when cash is received. This way of accounting is called accrual basis accounting.
  • The third principle is the matching principle. Expenses have to be matched with revenues as long as it is reasonable doing so.
  • The last principle is called the full disclosure principle. Amount and kinds of information disclosed should be decided based on trade-off analysis as larger amount of information costs more to prepare and use. Information disclosed should be enough to make judgement while keeping costs reasonable.

Constraints

  • Cost-benefit relationship states that the benefit of providing the financial information should also be weighted against the cost of providing it.
  • Materiality states that significance of an item should be considered when it is reported.
  • Industry practices states that accounting procedure should follow industry practices.
  • Conservatism states that when choosing between two unfamiliar solutions, the conservative method should prevail.

Various details

Setting GAAP

Those organizations influence developing GAAP in the United States.

GAAP is composed of various documents. Accounting Principles Board (APB) dissolved in 1973 and the FASB took over the responsibility setting up the standards.

House of GAAP
Category (d)
(Least authoritative)
AICPA Accounting InterpretationsFASB Implementation Guides (Q and A)Widely recognized and prevalent industry practices
Category (c)FASB Emerging Issues Task Force (EITF)AICPA AcSEC Practice Bulletins
Category (b)FASB Technical BulletinsAICPA Industry Audit and Accounting GuidesAICPA Statements of Position (SOPs)
Category (a)
(Most authoritative)
FASB Standards and InterpretationsAccounting Principles Board (APB) OpinionsAICPA Accounting Research Bulletins (ARBs)
de:United States Generally Accepted Accounting Principles
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