Principles of Accounting: The Accruals concept and the Materiality concept

As we has already been pointed out in another topic here
The accounting function is governed by several concepts which form part of what are known as International Financial Reporting Standards
In this topic we will look at:
1. The Accruals/Matching Concept and
2. The Materiality Concept

Revenue must be matched against Expenditure incurred in generating that revenue

What this means is that expenses must be recorded in the period in which they occur regardless of whether payment is made or not
Amounts owing are therefore recorded in the books as accruals
At the end of the trading period these expenses are included in the Income Statement even if they had not been settled yet
Similarly revenue amounts for the period are recorded as accrued income even if the business might not have yet received payment
Also prepaid expenses revenue are not included in the Income Statement as they relate to future periods
According to the Accruals Concept:

Revenues-Expenses=Net Profit

Determining the expenses used up to obtain the revenues is referred to as matching expenses against revenues
According to the matching concept these expenses and revenues must be confined to those that relate to the period under consideration no more no less

These concept states that all material financial transactions that take place must be recorded and included in both the accounts and financial statements
A item is considered material if it is of importance to at least one of the business’s stakeholders
To learn more about stakeholders of the business click here
An item is also considered material if its inclusion or exclusion would impact on the perceptions/decisions of the stakeholders
For example the cost of purchasing a pen, paper clips might be recorded separately
We could also create a stapler account and calculate depreciation for it in the books
None of these things are done since the cost of these items is immaterial instead they are most likely treated as Stationery expenses
It is important to note that materiality varies from business to business
What might be material to a sole trader would not be material to for example an institution like J P Morgan one of the largest banks in the world
Materiality dictates that time be not wasted on immaterial items
It also ensures that all important items are recorded in the books

To access more topics go to the Principles of Accounts Notes.

Principles of Accounting: The Accruals concept and the Materiality concept- Updated 2024