Accounting is defined as “the art of recording, classifying and summarizing in terms of money transactions and events of financial character and interpreting the results thereof.” In simplest words, we can say:
(1) Accounting is an art
(2) of recording classifying and summarizing
(3) in terms of money
(4) transactions and events of financial nature and
(5) interpreting the results thereof
Accounting is an art of correctly recording the day to day business transactions: It is a science of keeping the business records in a regular and most systematic manner so as to know the business results with minimum trouble. Therefore, it is said to be a statistical procedure for the collection, classification and summarization of financial information.
Objectives of Accounting
The objectives of accounting are two-fold:
(1) To record permanently, all business transactions, and
(2) To show the effect of each transaction and also the combined effect of all such transactions for a given period so as to find out the profit the business has earned or loss incurred, and also to know the correct financial position on a particular date.
The necessity and importance of accounting can be understood by answering the following questions:
(1) How much we have earned this year ?
(2) How much was earned during the last year ?
(3) Is our business improving?
(4) How much cash do we have?
(5) How much money we owe?
(6) How much others owe to us ?
There are various systems of accounting for maintaining business records:
Cash system of accounting
This system records only cash receipts and payments on the assumption that there are no credit transactions. If at all there are any credit transactions, they are not at all recorded until the cash is actually paid or received. Receipts and payments account in case of clubs, societies, hospital, educational institutes, lawyers etc. is the best example of cash system.
Single Entry System
This system ignores the two fold aspect of each transaction as considered in double entry system. Under single entry system, merely personal aspects of transaction i.e. personal accounts are recorded. This method takes no note of the impersonal aspects of the transactions other than cash. It offers no check on the accuracy of the posting and no safeguard against fraud because it does not provide any check over the recording of cash transactions. Therefore, it is called as “imperfect accounting.”
Double Entry System
The double entry system was first evolved by Luca Pacioliin, who was a Franciscan Monk of Italy. With the passage of time, the system has gone through lot of developmental stages. It is the only method fulfilling all the objectives of systematic accounting. It recognizes the two fold aspect of every business transaction.
These questions are of decisive importance for a trader and the answers can only be derived from up to-date financial records. Only the system of keeping the perfect records of all business transactions will help the proprietor to know the amount he has gained or lost.
The main objective of any business is to earn maximum possible profits with minimum expense. In view of this, a commercial organization always tries to expand its business, increase its sales and reduce operating expenses. The progress made in this regard, is always indicated only by the properly maintained financial records.
Meaning of Accounting
In the beginning, the main objective of accounting was to ascertain the result of the business activities (whether profit has been earned or loss has been suffered) during a year and to show the financial position of the business as on a particular date. Accounting has to meet the requirements of taxation authorities; investors, government regulations; management and owners. This has resulted in widening the scope of accounting and may be defined as follows:
“Accounting is the art of recording, classifying and summarizing, in a significant manner and in terms of money transactions and events which are in part at least, of a financial character and interpreting the result thereof.”
Is Accounting a Science or an Art?
In simple words, science establishes relationship of cause and effect whereas the art is the application of knowledge comprising of some accepted theories, principles and rules. Since accounting docs not establish cause and effect relationship it only provides us with the procedure by which objectives of accounting can be achieved, therefore accounting is an art and not a science. Accounting is an art of recording financial transactions in a set of books; classifying in desired categories and summarizing the information for presentation in a suitable manner to the concerned persons for their benefit.
Scope of Accounting
The need of a system of accounting was felt by man early in the history of trade and commerce. The art of book-keeping is as old as the art of trading itself. This art of keeping records passed through many phases since its inception. With the development of commerce, it has attained a position of great importance. Indeed, it can be truly said that accounting has become the foundation on which the whole fabric of modem commerce rests.
Though there is no legal obligation on an ordinary trader to keep the records, every business house finds it essential and convenient to keep the systematic records so as to know where exactly it stands. Moreover, it is legally binding on some forms of business, such as joint stock companies, to prepare periodically, statements in proper forms showing the position of the business. A proper and satisfactory method of accounting is an essential part of any business house for the following reasons :
(1) If no records are kept, it will be difficult to find out accurate net profit. Under such circumstances, tax authorities may overestimate the profits and thus a trader will suffer for not having kept the business records.
(2) In absence of proper business records, the trader will find it difficult to submit the true position to the court in case he becomes insolvent.
(3) Keeping of proper records helps the trader in framing future business plans & policies.
(4) It will be difficult to ascertain and fix the price of business to be sold or disposed off, if no records are kept.
(5) Finally, in spite of the best memory it is beyond the capacity of a trader to remember all the business dealings with back references.