Take a breath before you start this one. If you have just come out of the first chapter of Accountancy — where everything had a neat definition and you could point at a bill or a cash memo — this chapter is going to feel different. There are no big sums here at first, no long columns to total. Instead you get ideas: entity, going concern, prudence, matching. Almost every student meets this chapter, reads two pages, and thinks the same thing: this is just theory, I will read it the night before the exam. Please do not do that, and here is the honest reason why. Every single sum you will solve for the next two years — every journal entry, every adjustment, every balance sheet — is decided by the rules in this chapter. When you wonder later “should I record this now or next year?” or “do I write the market value or the old price?”, the answer is sitting right here. Learn it properly once and the rest of Accountancy stops feeling like guesswork. I will go slowly, use ordinary shop-and-home examples, and we will build it together.
- Why Accounting Needs Rules At All
- GAAP: Where Accounting Rules Come From
- Business Entity Concept
- Money Measurement Concept
- Going Concern Concept
- Accounting Period Concept
- Cost (Historical Cost) Concept
- Dual Aspect Concept
- Revenue Recognition (Realisation) Concept
- Matching Concept
- Full Disclosure Concept
- Consistency Concept
- Conservatism (Prudence) Concept
- Materiality Concept
- Objectivity Concept
- Memory Hooks For All Thirteen Concepts
- The Three Fundamental Accounting Assumptions
- Systems Of Accounting: Single Entry And Double Entry
- Basis Of Accounting: Cash Basis And Accrual Basis
- Accounting Standards: Meaning, Need, Benefits And Limitations
- IFRS And Ind-AS: Convergence, Not Adoption
- Goods And Services Tax (GST)
- Master Summary Tables
- Practice Worksheet
Your Game Plan
Do not try to swallow this chapter in one sitting. Here is the order that works, and it is the order I have written the page in.
- Understand the problem first. Read the first two sections and get clear on why rules were needed. If you skip this, the concepts will feel like a random list.
- Take the thirteen concepts one at a time. One concept, its everyday picture, its two examples, then stop. Say it back to yourself in your own words before moving on.
- Use the memory hooks section only after you have read all thirteen. Hooks work as reminders, not as replacements for understanding.
- Do the cash-versus-accrual comparison with a pen. Actually write the two profit figures yourself. This is where 4-mark and 6-mark questions live.
- Read the Standards, Ind-AS and GST sections like a newspaper the first time — light. Then go back and learn the lists.
- Attempt the worksheet with the answers hidden. Write your answer on paper, then open the reveal. Marking yourself honestly is the whole point.
Why Accounting Needs Rules At All
Let us start with a small thought experiment, because this makes the whole chapter click. Imagine three friends — Aarav, Bhavna and Chirag — each open a small mobile-accessories shop in the same market on the same day. At the end of the year each one tells you what profit the shop made. Aarav says he counts a sale the moment a customer orders on the phone. Bhavna counts it only when the money reaches her account. Chirag counts it when the goods leave his shop. Aarav values his leftover stock at the price he hopes to sell it for. Bhavna values it at what she paid. Chirag values it at whatever feels right today. Aarav treats his own house rent as a shop expense because he sometimes takes calls at home.
Now all three hand you a profit figure. Can you tell which shop actually did better? You cannot. Not because anyone lied, but because each one measured with a different ruler. That is the whole problem, and it has a name worth remembering: the comparability problem. Financial statements are read by people who were not in the shop — a banker deciding on a loan, a supplier deciding whether to give credit, the Income Tax Department, a possible investor, and the owner himself. If every business measures differently, the numbers stop meaning anything to anybody outside.
So accountants everywhere agreed on a common set of rules. Not because the rules are the only possible truth, but because a shared ruler is more useful than a perfect private one. That agreed set of rules is what this chapter is about. In your syllabus it is called the theory base of accounting, and it has four layers, which is a helpful way to hold it in your head.
Layer 2 — GAAP: the umbrella term for all these accepted rules, conventions and practices taken together.
Layer 3 — Accounting Standards: written, numbered, official rules issued by an authority, dealing with specific items in detail.
Layer 4 — Ind-AS / IFRS: the global-facing versions, so that Indian statements can be read by the rest of the world.
Each layer sits on the one below it. Concepts are the foundation; standards are the detailed building.
Accountant A records only what moved through cash: profit = ₹ 6,00,000 − ₹ 4,10,000 = ₹ 1,90,000.
Accountant B records what belongs to the year: revenue = ₹ 6,00,000 + ₹ 90,000 = ₹ 6,90,000; expenses = ₹ 4,10,000 + ₹ 12,000 = ₹ 4,22,000; profit = ₹ 2,68,000.
Same shop. Same year. Two profits, ₹ 78,000 apart. Neither person cheated. This is exactly why a rule was needed telling everybody which method to use — and you will meet that rule later in this chapter as the accrual basis.
Corrected profit falls by roughly the overstated stock margin plus the unrecorded salaries. The bank was about to lend against a profit that did not exist. State the point in one line: accounting rules exist to protect the outsider who cannot walk into the shop and check for himself.
(i) Comparability. When all firms follow the same concepts, one firm’s statements can be compared with another’s and with its own earlier years.
(ii) Reliability for outside users. Bankers, creditors, investors and tax authorities cannot verify the books themselves, so they need to know a common rule was followed.
(iii) Uniformity and reduced personal bias. Concepts stop each accountant from using his own private judgement, so the same transaction is treated the same way everywhere.
Do not move on until that thought experiment feels comfortable. If someone asks you “why does accounting have rules?”, you should be able to answer without opening a book: because numbers prepared with different rulers cannot be compared, and outsiders depend on them.
GAAP: Where Accounting Rules Come From
GAAP stands for Generally Accepted Accounting Principles. Read the words slowly, because the name itself is the definition. These are principles — broad rules of treatment. They are accepted — the accounting community has agreed to them. And they are generally accepted — not accepted by a single office or a single country, but widely, over a long time, by professionals, regulators and courts.
Students often ask: who wrote GAAP? Nobody sat down one morning and wrote it in a single book. GAAP grew the way a language grows. Somebody found a sensible way to handle a problem, others copied it, professional bodies wrote it down, regulators started requiring it, and slowly it became “the way it is done”. In India, the written and enforceable part of GAAP comes mainly from the Accounting Standards issued by the Institute of Chartered Accountants of India, from the Companies Act, and from regulators such as SEBI and the Reserve Bank of India for their own sectors.
Going further: these standards underpin advanced topics such as Accounting for Partnership Firms: Fundamentals — Class 12 notes.
It also helps to know the vocabulary, because examiners sometimes use these three words as though they are different things.
Convention: a customary practice that grew out of experience and is followed because it has proved useful. Example: conservatism.
Principle (GAAP): the umbrella term covering concepts, conventions, rules and procedures that together make up accepted practice.
In your syllabus and in most textbooks the thirteen items you are about to learn are all called basic accounting concepts, so use that phrase in the exam and you will always be safe.
What GAAP requires: the van stays recorded at its cost of ₹ 8,00,000, reduced by depreciation. The price rise is not recorded because it has not been realised through a transaction.
Concept applied: Cost concept, supported by Objectivity (the ₹ 8,00,000 is proved by an invoice; the ₹ 9,50,000 is only an opinion).
The takeaway: GAAP is not an abstract idea. It is the thing that lets an accountant politely say no to the owner.
Feature 1 (1 mark). GAAP is not permanently fixed. It develops and changes with business needs, new kinds of transactions and new regulations.
Feature 2 (1 mark). GAAP brings uniformity and comparability, because different enterprises recording the same transaction under GAAP will treat it in the same way.
Notice how the marks are earned: one clear definition sentence, then two clearly labelled features. No storytelling.
Business Entity Concept
Here is the picture I want you to carry for the rest of your life in accounting: your shop’s wallet and your own wallet are two different wallets. They may sit in the same pocket. The same person may open both. But in the books, they are strangers.
The business entity concept (also called the separate entity concept) says that the business is treated as a unit separate and distinct from its owner. The books are kept from the business’s point of view, not the owner’s. This is true even for a sole proprietorship, where the law does not recognise any separation at all. Accounting makes the separation anyway, because without it you could never tell whether the business itself is making money.
Two consequences follow, and they explain something that confuses almost every beginner.
Treatment:
• ₹ 5,00,000 is recorded as Capital — a liability of the business towards Rohan.
• ₹ 40,000 is Drawings, deducted from capital. Closing capital before profit = ₹ 5,00,000 − ₹ 40,000 = ₹ 4,60,000.
• ₹ 15,000 is not recorded at all. It never touched the business wallet, so it is invisible to the business’s books.
Why it works: if Rohan’s school fees had been shown as an expense, the shop’s profit would have looked ₹ 40,000 smaller than it really is, and anyone judging the business would be misled about the business.
Treatment: ₹ 54,000 (three-quarters) is a business expense. The remaining ₹ 18,000 is personal and must be treated as drawings, not as an expense.
The point: the business entity concept does not say “ignore anything to do with the owner”. It says split it correctly. Whenever a question gives you a bill that covers both home and shop, look for the basis of division — it is always given.
Effect on capital (1 mark). As a result, capital contributed by the proprietor is shown as a liability of the business, because the business is regarded as owing that amount to the owner.
Effect on drawings (1 mark). Cash or goods withdrawn by the owner for personal use are treated as drawings and deducted from capital, and are never charged as a business expense.
Example (1 mark). If a proprietor invests ₹ 5,00,000 and later withdraws ₹ 40,000 for household expenses, the business records capital of ₹ 5,00,000 and drawings of ₹ 40,000, leaving capital at ₹ 4,60,000; the personal expense does not affect the profit of the business.
Money Measurement Concept
The money measurement concept says that only those transactions and events which can be expressed in terms of money are recorded in the books. Anything that cannot be measured in rupees, however important it may be to the business, simply does not enter the accounts.
The everyday picture: think of the books of account as a shopping bill. A bill can only carry things with a price tag. Your shop may have the friendliest salesman in the market and the most loyal customers in the city — none of that can be printed on a bill, so none of it goes into the books. This is honest, and it is also a limitation you must be able to state.
There is a second half to this concept that students routinely forget. Because everything is expressed in money, and because the value of money changes over time, figures of different years are not strictly comparable. Money is assumed to have a stable value, and in reality it does not. A machine bought for ₹ 2,00,000 in 2010 and another bought for ₹ 2,00,000 in 2025 are added together as ₹ 4,00,000, even though those two rupees are not the same rupee.
Recorded: machinery ₹ 2,50,000 + furniture ₹ 4,00,000 + stock ₹ 1,50,000 = ₹ 8,00,000 of assets.
Not recorded: the skilled manager, the strike and the reputation. None carries a measurable, verifiable money value.
Where they can go instead: such matters are disclosed in the Directors’ Report or in notes accompanying the statements — which is the full disclosure concept quietly stepping in to plug the gap.
No. You cannot add hammers to metres to ladders — they have no common unit. Once each is priced (say hammers ₹ 250 each, wire ₹ 45 per metre, ladders ₹ 1,800 each), you get 40 × 250 = ₹ 10,000, plus 120 × 45 = ₹ 5,400, plus 15 × 1,800 = ₹ 27,000, giving stock of ₹ 42,400.
Why it works: money is the only common denominator that lets unlike things be added, subtracted and compared. That is the real service this concept performs.
Limitation 1 (1 mark). Important qualitative facts — the competence of management, employee morale, customer loyalty, the effect of a strike — are excluded, so the financial statements give an incomplete picture of the enterprise.
Limitation 2 (1 mark). Money is assumed to have a constant value, but its purchasing power changes over time; consequently amounts recorded in different years are added together even though they are not truly comparable.
Going Concern Concept
The picture first: we assume the shop opens again tomorrow. And the day after. And for the foreseeable future.
The going concern concept assumes that the enterprise will continue its operations for an indefinite period and has neither the intention nor the necessity of closing down or cutting back its activities significantly. Unless there is strong evidence to the contrary, the accountant prepares the accounts as though business will go on.
This one assumption quietly does enormous work. Ask yourself: why do we charge depreciation over ten years instead of writing off a machine at once? Because we assume the machine will be used for ten more years. Why do we show prepaid rent as an asset? Because we assume the business will be around next year to enjoy that rent. Why do we classify assets as fixed and current at all? Because “fixed” only means something if there is a future in which to keep using them. Remove going concern and half your Balance Sheet loses its logic.
Related reading: pair this chapter with Nature and Purpose of Business — Class 11 Business Studies notes to see the commerce picture end to end.
Annual depreciation = (₹ 8,00,000 − ₹ 50,000) ÷ 10 = ₹ 75,000 per year.
After 3 years (up to 31 March 2026): accumulated depreciation = ₹ 75,000 × 3 = ₹ 2,25,000.
Book value on 31 March 2026 = ₹ 8,00,000 − ₹ 2,25,000 = ₹ 5,75,000.
Why it works: spreading the cost over ten years only makes sense if we believe there will be ten years. If the firm were closing on 31 March 2026, the machine would be shown not at ₹ 5,75,000 but at whatever a buyer would actually pay for it today.
Treatment: the going concern assumption no longer holds. The plant is written down to its realisable value of ₹ 3,10,000, and the shortfall of ₹ 5,75,000 − ₹ 3,10,000 = ₹ 2,65,000 is charged as a loss.
Note the direction of the logic: the concept did not change the facts about the plant. It changed which question we were asking — from “how much of this cost belongs to future years?” to “how much money will this actually bring in?”
Significance 1 (1 mark). It justifies charging depreciation, because the cost of a fixed asset can be spread over the future years in which it will be used.
Significance 2 (1 mark). It justifies the distinction between fixed assets and current assets, and the treatment of prepaid expenses and deferred items as assets carried forward to future periods.
Significance 3 (1 mark). It allows fixed assets to be shown at cost less depreciation rather than at their present market or realisable value, since they are held for use and not for immediate sale.
Accounting Period Concept
Going concern told us the business runs for an indefinite time. That creates an awkward problem: if the life of the business never ends, when do we ever work out the profit? Waiting till the business closes is useless — the banker needs to know now, the tax department needs to know now, the owner needs to know now.
So we cut the endless life into slices. The accounting period concept (also called the periodicity concept) says that the indefinite life of a business is divided into regular intervals of equal length, and the performance and position of the business are measured for each such interval. In India the usual accounting period runs from 1 April to 31 March, and companies are required to follow this financial year.
Months falling in the current year: January, February, March = 3 months.
Insurance expense for the year ended 31 March 2026 = ₹ 48,000 × 3/12 = ₹ 12,000.
Prepaid insurance carried to next year = ₹ 48,000 × 9/12 = ₹ 36,000, shown as a current asset.
Check: ₹ 12,000 + ₹ 36,000 = ₹ 48,000. The full premium is accounted for, just split across the cut.
Is it? Monthly rate earlier = ₹ 7,50,000 ÷ 18 = ₹ 41,667 approximately. Monthly rate now = ₹ 5,20,000 ÷ 12 = ₹ 43,333 approximately. The business actually improved.
The lesson: the accounting period concept insists on equal, regular intervals precisely so that one period’s figure can be honestly compared with another’s. Unequal periods destroy comparison, which takes you right back to the problem we started this chapter with.
Cost (Historical Cost) Concept
The cost concept says that an asset is recorded in the books at the price actually paid to acquire it, including all costs incurred to bring it to its present condition and location. That recorded amount is called historical cost, and it becomes the basis for all future accounting for that asset. Changes in market value are ignored; the only reduction made is depreciation over the asset’s useful life.
The everyday picture: the price on the bill is the price in the books, and the bill does not change its mind later. If you paid ₹ 12 lakh for a plot, the books say ₹ 12 lakh, no matter how excited the neighbourhood property dealer becomes about it.
Notice the word “all costs”. Cost is not just the invoice price. It includes freight, loading and unloading, installation charges, and any non-refundable duties — everything spent to get the asset ready for use.
Capitalised as cost of machine = ₹ 6,00,000 + ₹ 18,000 + ₹ 7,000 + ₹ 25,000 = ₹ 6,50,000.
Charged to Profit and Loss = insurance ₹ 9,000 + repair ₹ 4,000 = ₹ 13,000. Insurance is a running cost of the period, and the repair came after the machine was already usable.
Test to apply: was the amount spent to bring the asset into working condition? If yes, capitalise. If it was spent to keep it running afterwards, it is an expense.
Correct treatment: land continues to appear at ₹ 12,00,000. The apparent gain of ₹ 45,00,000 − ₹ 12,00,000 = ₹ 33,00,000 is unrealised. It is not recorded, because no transaction has taken place and no money has been received.
Why it works: the ₹ 12,00,000 can be proved by a registered sale deed. The ₹ 45,00,000 is an estimate that could change next month and that different valuers would put differently. Accounting prefers a figure that can be verified over a figure that might be closer to truth but cannot be proved.
Merit (1 mark). Cost is supported by documentary evidence such as invoices and agreements, so the figure is objective, verifiable and free from personal bias.
Limitation (1 mark). Because market changes are ignored, in a period of rising prices the Balance Sheet may show assets far below their present worth, so the financial position appears understated.
Dual Aspect Concept
If you learn only one concept in this chapter perfectly, make it this one. The dual aspect concept says that every business transaction has two aspects — a receiving aspect and a giving aspect — and both must be recorded. Nothing comes from nowhere and nothing disappears into nowhere.
The everyday picture: every rupee that arrives in the shop arrived from somewhere. If ₹ 50,000 of cash appears, either somebody gave it, or something was sold, or a loan was taken. Ask “where did it come from?” and “where did it go?” for every transaction and you have understood dual aspect.
This concept gives us the double entry system and the accounting equation, which will follow you through every remaining chapter:
The left side says what the business owns. The right side says who supplied the funds for it — outsiders (liabilities) and the owner (capital). Because every transaction touches both sides in a balanced way, the equation can never break. If your equation does not balance, you have missed one aspect of some transaction. Rearranged: Capital = Assets − Liabilities.
(i) Started business with cash ₹ 3,00,000.
(ii) Purchased goods for cash ₹ 80,000.
(iii) Purchased furniture on credit ₹ 1,20,000.
After all three:
Cash = ₹ 3,00,000 − ₹ 80,000 = ₹ 2,20,000
Stock of goods = ₹ 80,000
Furniture = ₹ 1,20,000
Total Assets = ₹ 2,20,000 + ₹ 80,000 + ₹ 1,20,000 = ₹ 4,20,000
Creditors (liability) = ₹ 1,20,000; Capital = ₹ 3,00,000
Liabilities + Capital = ₹ 1,20,000 + ₹ 3,00,000 = ₹ 4,20,000 ✔
Look closely at transaction (ii): total assets did not change at all, only their form changed — cash became stock. That is still two aspects. Not every transaction changes the total.
(a) Paid rent ₹ 15,000 in cash. Aspect 1: an expense of ₹ 15,000 is incurred (rent). Aspect 2: cash falls by ₹ 15,000.
(b) Took a bank loan of ₹ 4,00,000. Aspect 1: cash at bank rises by ₹ 4,00,000 (asset up). Aspect 2: a liability to the bank of ₹ 4,00,000 arises.
(c) A debtor pays ₹ 25,000. Aspect 1: cash rises ₹ 25,000. Aspect 2: debtors fall ₹ 25,000. Total assets unchanged.
(d) Owner brings in additional capital ₹ 1,00,000. Aspect 1: cash rises ₹ 1,00,000. Aspect 2: capital rises ₹ 1,00,000.
Why it works: because both aspects are always recorded at the same amount, the two sides of the books stay equal automatically. That built-in equality is what later lets a Trial Balance detect errors.
Resulting equation (1 mark). It gives rise to the accounting equation, Assets = Liabilities + Capital, which remains in balance after every transaction.
Significance 1 (1 mark). It is the foundation of the double entry system of book-keeping, under which every debit has a corresponding credit of equal amount.
Significance 2 (1 mark). Because total debits always equal total credits, arithmetical accuracy of the ledger can be tested by preparing a Trial Balance.
Revenue Recognition (Realisation) Concept
Here is the question this concept answers: at what exact moment does a sale become a sale? When the customer phones? When you pack the goods? When you hand them over? When the money arrives? Different answers give different profits, so accounting had to pick one.
The revenue recognition concept, also called the realisation concept, says that revenue is treated as earned on the date when the property in the goods passes to the buyer and the buyer becomes legally liable to pay — in ordinary language, when goods are delivered or services are rendered. Receipt of cash is not the test. An order is not the test.
Rendering of services: revenue is recognised when the service is performed, and for a service spread over time, in proportion to the part performed.
Interest, rent and royalty: recognised on a time-proportion basis as it accrues, whether or not it has been received.
• 10 March 2026: customer places an order for goods worth ₹ 2,00,000. → No revenue. An order is only a promise.
• 18 March 2026: customer pays an advance of ₹ 60,000. → Still no revenue. Cash rises and a liability “Advance from customer” of ₹ 60,000 arises, because the firm now owes goods.
• 8 April 2026: goods are delivered. → Revenue of ₹ 2,00,000 is recognised now, in the year 2026-27.
• 30 May 2026: the balance ₹ 1,40,000 is received. → No revenue; only a debtor of ₹ 1,40,000 is converted into cash.
Effect on the year ended 31 March 2026: revenue recognised = Nil, even though ₹ 60,000 of cash was received in that year.
Months of service performed by 31 March 2026: February and March = 2 months.
Revenue for the year ended 31 March 2026 = ₹ 1,20,000 × 2/12 = ₹ 20,000.
Unearned revenue (a liability) = ₹ 1,20,000 × 10/12 = ₹ 1,00,000.
Check: ₹ 20,000 + ₹ 1,00,000 = ₹ 1,20,000 ✔
Why it works: the firm has been paid for work it has not yet done. Until the work is done, that money is an obligation, not an achievement.
Matching Concept
Revenue recognition told us when to record income. The matching concept handles the other half: once you have decided that a revenue belongs to a period, you must set against it all the expenses incurred to earn that revenue — whether or not those expenses were paid in cash during the period.
The everyday picture: if you count the money you made from selling ten shirts, you must also count the cost of those same ten shirts. Counting the income of this year against the costs of last year would give a number that means nothing.
Three practical consequences follow directly, and these are the ones examiners test:
- Expenses incurred but not paid (outstanding expenses) are added to the expense of this year.
- Expenses paid but relating to the next year (prepaid expenses) are deducted and carried forward as an asset.
- The cost of a fixed asset is spread over its useful life as depreciation, so that each year bears only its own share.
Total expenses matched = ₹ 7,40,000 + ₹ 1,80,000 + ₹ 60,000 + ₹ 45,000 = ₹ 10,25,000
Profit = ₹ 12,50,000 − ₹ 10,25,000 = ₹ 2,25,000
Note that the ₹ 20,000 of unpaid salaries is inside the expense even though no cash left the business, and the depreciation of ₹ 45,000 is an expense even though no cash left the business either. Matching cares about what the year consumed, not what the year paid.
What is wrong: the campaign will earn revenue in 2026-27, not in 2025-26. Charging it now understates this year’s profit by ₹ 3,00,000 and overstates next year’s.
Correct treatment: carry the ₹ 3,00,000 forward as prepaid advertising, a current asset, and charge it in 2026-27 when the related revenue arises.
Concept violated: matching concept.
Application (1 mark). Accordingly, expenses incurred but not yet paid are added as outstanding expenses, expenses paid in advance are excluded and carried forward as prepaid expenses, and the cost of fixed assets is allocated over their useful life as depreciation.
Importance (1 mark). Without matching, profit would be distorted, because income of one period would be compared with costs of another, making the results unreliable and non-comparable.
Full Disclosure Concept
The full disclosure concept requires that financial statements disclose, fully and fairly, all information that is material enough to influence the decisions of those who read them. Nothing significant may be hidden, buried or quietly left out.
The everyday picture: when you sell a second-hand cycle, you tell the buyer the gears sometimes slip. You are not obliged to describe every scratch, but you must not hide anything that would change his mind about buying.
Disclosure happens in three places: on the face of the statements themselves, in the notes to accounts attached to them, and in supporting schedules. A fact does not have to be a number to be disclosed — a pending court case, a change of method, or an unusual event can all be described in words.
Treatment: nothing is recorded in the Profit and Loss Account or the Balance Sheet as a liability, because no obligation has crystallised. However, the guarantee must be disclosed as a contingent liability of ₹ 6,00,000 in the notes to accounts.
Why it matters: a banker deciding whether to lend to this firm has every right to know that ₹ 6,00,000 could land on it if the sister concern defaults. Leaving it out would not be a wrong figure, it would be a misleading silence.
Treatment: the change of method and its effect of ₹ 1,15,000 on profit must both be disclosed in the notes.
Concepts working together: consistency says do not change without good reason; full disclosure says if you do change, say so and quantify the effect. A reader who knows about the change can mentally reverse it and compare years properly. A reader who does not know is simply deceived by a bigger profit figure.
Consistency Concept
The consistency concept says that accounting practices and methods, once adopted, should be applied uniformly from one period to the next. A firm should not keep switching methods, because switching makes this year’s figures incomparable with last year’s.
The everyday picture: if you weigh yourself on the same weighing machine every month you can see whether you are gaining or losing. Change the machine every month and the readings tell you nothing about you — they only tell you about the machines.
Consistency does not mean methods can never change. It means a change should be made only when there is sound reason — a new Accounting Standard, a legal requirement, or a method that genuinely presents the position better — and when a change is made, it must be disclosed along with its effect.
Year 1: ₹ 5,00,000 × 20% = ₹ 1,00,000; book value ₹ 4,00,000
Year 2: ₹ 4,00,000 × 20% = ₹ 80,000; book value ₹ 3,20,000
Year 3: ₹ 3,20,000 × 20% = ₹ 64,000
Suppose the firm used SLM in Year 1 and quietly switched to WDV in Year 2. Year 2 depreciation would be ₹ 80,000 instead of ₹ 50,000 — profit lower by ₹ 30,000 for a reason that has nothing to do with trading.
Why it works: consistency protects the trend. Any single year’s profit can be defended by some method or other; only an unchanged method lets you say honestly whether the business is improving.
Case B: A firm changes its depreciation method because profits this year look weak and the new method reduces the charge. → Not acceptable. The reason is cosmetic, not substantive. This is a violation of consistency.
The test to apply: is the change being made to present the accounts better, or to make them look better? That single question separates the two cases.
Meaning (1 mark). The concept requires that accounting policies once adopted be followed uniformly from period to period, so that the results of different periods remain comparable.
When change is permitted (1 mark). A change may be made if it is required by law or by an Accounting Standard, or if the new method results in a more appropriate presentation of the financial statements.
Condition attached (1 mark). Whenever a change is made, the fact of the change, the reason for it and its effect on the profit and on the financial position must be disclosed, in accordance with the full disclosure concept.
Conservatism (Prudence) Concept
Remember this line and you will never get this concept wrong: expect the rain, don’t count the sunshine.
The conservatism concept, also called prudence, says: anticipate no profit, but provide for all possible losses. Where two values are equally defensible, choose the one that shows lower profit and lower assets. Losses that are likely are recorded even before they happen; gains are recorded only after they are actually realised.
Why such an unbalanced rule? Because the consequences of the two errors are not equal. If you overstate profit, the owner draws money that is not there, the bank lends against strength that does not exist, and everyone is hurt. If you understate profit, the worst that happens is a pleasant surprise later. Accounting deliberately leans towards caution.
• A provision for doubtful debts is created even though no specific debtor has yet failed to pay.
• A provision for discount on debtors is created for discount not yet allowed.
• Contingent losses that are probable are provided for; contingent gains are not recognised.
• Joint Life Policy, investments and similar items are not written up merely because their market value has risen.
Value in the Balance Sheet = lower of ₹ 1,80,000 and ₹ 1,55,000 = ₹ 1,55,000.
Loss recognised now = ₹ 1,80,000 − ₹ 1,55,000 = ₹ 25,000, even though the goods have not yet been sold and the loss has not yet actually occurred.
Now reverse the facts. Suppose the stock costing ₹ 1,80,000 could be sold for ₹ 2,10,000. Value in the Balance Sheet is still ₹ 1,80,000, and the possible gain of ₹ 30,000 is not recorded. Expect the rain, do not count the sunshine.
Provision for doubtful debts = ₹ 4,00,000 × 5% = ₹ 20,000, charged to Profit and Loss Account.
Debtors shown in the Balance Sheet = ₹ 4,00,000 − ₹ 20,000 = ₹ 3,80,000.
Why it works: the firm cannot point to a single defaulting debtor, so in one sense no loss exists yet. But experience says the loss is coming. Prudence says record it in the year in which the sales were made, not in some later year when it finally becomes obvious — which is also matching doing its job.
Materiality Concept
The materiality concept says that only those items which are significant enough to influence the decision of a user need be recorded and disclosed separately. Insignificant items may be treated in whatever way is convenient, because the extra accuracy would cost more effort than it is worth.
The everyday picture: you keep careful track of your monthly hostel fee, but you do not maintain a register for the ₹ 5 you spent on a photocopy. Not because ₹ 5 is not money, but because tracking it would waste more than it saves.
The crucial point, and the one examiners love: materiality is relative, not absolute. There is no rupee figure that is material for every business. What is trivial for a company with a turnover of ₹ 500 crore may be enormous for a shop with a turnover of ₹ 5 lakh. Materiality depends on the size of the item relative to the size of the enterprise, and also on its nature.
Firm A has an annual turnover of ₹ 80,00,000. The calculator is ₹ 450 ÷ ₹ 80,00,000 × 100 = 0.005625 per cent of turnover. Immaterial. It is charged as an expense at once and nobody objects.
Firm B is a one-year-old tuition centre whose total assets are ₹ 12,000. Now ₹ 450 is 3.75 per cent of total assets. Here it is material and should properly be capitalised.
The lesson: never answer a materiality question with a rupee threshold. Answer it with a comparison.
Is it material? Yes. An unauthorised payment to a person in charge of the company is significant regardless of amount, because it tells the reader something important about how the company is being run. It must be disclosed.
Why it works: materiality has two tests, not one — size and nature. Most exam questions test size; the sharp questions test nature.
Objectivity Concept
The objectivity concept requires that accounting entries be based on objective, verifiable evidence and be free from the personal bias or opinion of the person making them. Every entry should be capable of being supported by a document — an invoice, a cash memo, a receipt, a bank statement, a written agreement.
The everyday picture: keep the bill. If you cannot show a bill, an auditor has only your word, and your word — however honest — is not evidence anybody else can check.
This is the concept that gives accounting its credibility. It is also the reason why source documents and vouchers, which you will study in the very next unit, matter so much.
Recorded value: ₹ 6,50,000 — the invoice figure.
Reason: only (a) can be produced to an auditor, a bank or a tax officer. Options (b) and (c) are opinions; two honest people would give two different figures, and the accounts would depend on who prepared them rather than on what happened.
No — it adapts. The estimate must rest on something checkable: the manufacturer’s stated life, industry practice, or the firm’s own past record of bad debts over several years. A provision of 5 per cent based on five years of actual data is objective enough. A provision of 5 per cent because “it felt right” is not.
The principle: where judgement is unavoidable, it must be supported by a reason another person could examine and agree with.
Importance 1 (1 mark). It makes financial statements reliable and credible, since every figure can be traced to a source document and checked by an auditor or any outside user.
Importance 2 (1 mark). It ensures that the same transaction will be recorded at the same amount irrespective of who records it, which supports comparability between enterprises and between periods.
Memory Hooks For All Thirteen Concepts
You have now met all thirteen concepts. Before we move on, let us lock them in. Do not use these hooks instead of understanding — use them to make sure you never leave a concept out of a list-type question.
“I open a shop, so first I separate its wallet from mine (Business Entity). I can only write down what has a price (Money Measurement). I assume the shop opens again tomorrow (Going Concern), but I still need answers every year, so I cut time into slices (Accounting Period). I write assets at what I paid (Cost), and every entry has two sides (Dual Aspect). I count a sale when goods go out (Revenue Recognition) and set its costs against it (Matching). I hide nothing important (Full Disclosure), I keep my methods the same each year (Consistency), I expect the rain and do not count the sunshine (Conservatism), I do not fuss over trifles (Materiality), and I keep the bills to prove it all (Objectivity).”
Time (2): Going Concern, Accounting Period
How we measure (3): Cost, Dual Aspect, Objectivity
How we report (6): Revenue Recognition, Matching, Full Disclosure, Consistency, Conservatism, Materiality
2 + 2 + 3 + 6 = 13. If your list in the exam does not add up to thirteen, you know exactly which family to check.
The Three Fundamental Accounting Assumptions
Out of that list of thirteen, three are given a special status by the Accounting Standards. They are called the fundamental accounting assumptions: Going Concern, Consistency and Accrual.
What makes them special is a neat rule about disclosure that you should learn word-perfect, because it is a favourite one-mark and three-mark question.
Remember it as: follow them and say nothing; break one and you must speak.
You already know Going Concern and Consistency. The third one, Accrual, says that revenues and costs are recognised as they are earned or incurred — not as money is received or paid — and are recorded in the period to which they relate. Accrual is really Revenue Recognition and Matching working together, which is why it is treated as one big assumption rather than two small concepts.
Situation B: A firm has decided to close down in six months and therefore prepares its accounts on a realisable-value basis. → Disclosure is compulsory. The notes must state that the going concern assumption has not been followed and give the reason, because the entire basis of valuation has changed and the reader would otherwise be badly misled.
Situation C: A firm switches from the written down value method to the straight line method. → Disclosure is compulsory, stating the change, the reason and the effect on profit.
Going Concern and Consistency (1 mark). Going concern assumes the enterprise will continue in operation for the foreseeable future; consistency assumes that accounting policies are applied uniformly from one period to the next.
Accrual (1 mark). Accrual assumes that revenues and costs are recognised when they are earned or incurred, and not when money is received or paid, and are recorded in the period to which they relate.
Disclosure rule (1 mark). These assumptions are presumed to be followed and need no disclosure; however, if any of them is not followed, that fact must be specifically disclosed together with the reason.
Systems Of Accounting: Single Entry And Double Entry
A system of accounting answers the question: how much of each transaction do we write down? There are two, and one of them is really the absence of the other.
Under the double entry system, both aspects of every transaction are recorded — a debit and an equal credit. This is dual aspect put into practice. Because total debits always equal total credits, the books are self-checking, a Trial Balance can be prepared, and complete financial statements follow naturally.
Under the single entry system, only some aspects of some transactions are recorded. Typically a small trader keeps a cash book and a record of debtors and creditors, and ignores nominal accounts and most real accounts altogether. This is why the more accurate name for it is “incomplete records” — it is not really a system at all, it is a shortcut. You will meet it again in the Incomplete Records chapter, where profit has to be found by the Statement of Affairs method precisely because a proper Trial Balance is impossible.
Double entry: two accounts are affected.
Meera’s A/c (Debtor) Dr. ₹ 35,000
To Sales A/c ₹ 35,000
Debit total ₹ 35,000 = Credit total ₹ 35,000 ✔
Single entry: the trader notes only “Meera owes ₹ 35,000” in a personal ledger. No Sales Account exists.
The consequence at year end: the double entry trader can total his Sales Account and know his revenue instantly. The single entry trader cannot — he must reconstruct his sales from scraps of information, and he can never prepare a Trial Balance to check whether he has made an arithmetical error.
(ii) True profit cannot be ascertained (1 mark). Nominal accounts are not maintained, so a proper Trading and Profit and Loss Account cannot be prepared and profit has to be estimated.
(iii) True financial position is not known (1 mark). As real accounts are incompletely maintained, a reliable Balance Sheet cannot be drawn up; only a Statement of Affairs based on estimates is possible. The accounts are also not accepted by tax authorities and are of little use in obtaining loans.
Basis Of Accounting: Cash Basis And Accrual Basis
The system told us how much to record. The basis tells us when to record it. This is the section where 4-mark and 6-mark questions live, so slow down here.
Under the cash basis, income is recorded only when cash is actually received and expenses only when cash is actually paid. Outstanding and prepaid items are simply ignored. Profit is nothing but the excess of cash receipts over cash payments.
Under the accrual basis (also called the mercantile basis), income is recorded when it is earned and expenses when they are incurred, regardless of when the money moves. Outstanding expenses, prepaid expenses, accrued income and income received in advance are all adjusted.
• Fees actually received in cash during the year: ₹ 9,60,000, of which ₹ 1,20,000 is for classes to be held next year.
• Fees earned this year but not yet received: ₹ 80,000.
• Rent paid in cash ₹ 2,40,000, of which ₹ 40,000 relates to next year.
• Salaries paid ₹ 3,00,000; salaries for March still unpaid ₹ 50,000.
• Electricity paid ₹ 36,000; March bill unpaid ₹ 4,000.
CASH BASIS
Receipts = ₹ 9,60,000
Payments = ₹ 2,40,000 + ₹ 3,00,000 + ₹ 36,000 = ₹ 5,76,000
Profit = ₹ 9,60,000 − ₹ 5,76,000 = ₹ 3,84,000
ACCRUAL BASIS
Revenue earned = ₹ 9,60,000 − ₹ 1,20,000 (advance, not yet earned) + ₹ 80,000 (earned, not yet received) = ₹ 9,20,000
Rent expense = ₹ 2,40,000 − ₹ 40,000 (prepaid) = ₹ 2,00,000
Salaries expense = ₹ 3,00,000 + ₹ 50,000 (outstanding) = ₹ 3,50,000
Electricity expense = ₹ 36,000 + ₹ 4,000 (outstanding) = ₹ 40,000
Total expenses = ₹ 2,00,000 + ₹ 3,50,000 + ₹ 40,000 = ₹ 5,90,000
Profit = ₹ 9,20,000 − ₹ 5,90,000 = ₹ 3,30,000
Difference = ₹ 3,84,000 − ₹ 3,30,000 = ₹ 54,000. The cash basis overstates profit by ₹ 54,000, because it counted ₹ 1,20,000 the centre has not yet earned and ignored ₹ 54,000 of expenses already incurred, while also missing ₹ 80,000 of income it has earned.
Why it works: the accrual figure of ₹ 3,30,000 answers the question “what did this year’s activity achieve?” The cash figure of ₹ 3,84,000 answers “how much money piled up?” Both are true statements, but only one of them is profit.
(a) Salary of ₹ 50,000 for March, paid in April. Accrual: yes, expense of March. Cash: no, it belongs to April.
(b) Rent of ₹ 40,000 paid in March for April. Accrual: no, carried forward as prepaid. Cash: yes, treated as March’s payment.
(c) Depreciation of ₹ 75,000 on machinery. Accrual: yes. Cash: no — no cash moved, so a pure cash-basis account never charges depreciation at all.
(d) Cash sale of ₹ 30,000. Both. This is why the two bases give the same answer for a business that trades only in cash and owns nothing depreciable.
Item (c) is worth pausing on. It is the single strongest argument against the cash basis for any business that owns assets.
(i) Recognition of revenue. Cash basis records revenue only on actual receipt of cash; accrual basis records it when it is earned, whether received or not.
(ii) Recognition of expenses. Cash basis records expenses only on actual payment; accrual basis records them when incurred, whether paid or not.
(iii) Adjustments. Under the cash basis, outstanding and prepaid items are ignored; under the accrual basis they are duly adjusted.
(iv) Legal recognition and reliability. The cash basis is not permitted for companies and does not show correct profit; the accrual basis is recognised by law, is one of the fundamental accounting assumptions, and shows a true and fair profit.
Do not move on from this section until you can produce both profit figures in Example 43 on a blank sheet without looking. This is the highest-value skill in the whole chapter.
Accounting Standards: Meaning, Need, Benefits And Limitations
The concepts you have just learnt are broad. They say “record revenue when earned” but they do not say exactly how to value a half-finished construction contract, or precisely which costs go into the value of stock. For that you need detailed, written, enforceable rules. Those are the Accounting Standards.
Meaning. Accounting Standards are written statements of accounting rules and practices, issued by a recognised expert accounting body, prescribing how particular items are to be recognised, measured, presented and disclosed in financial statements. In India they are issued by the Institute of Chartered Accountants of India (ICAI) through its Accounting Standards Board, and are notified by the Government under the Companies Act, which is what gives them legal force for companies.
Why they were needed. Concepts alone left too much choice. Two honest firms following the same concepts could still report very different figures simply by choosing different permitted methods. Standards narrow those choices, and where a choice remains, they require the firm to disclose which one it took.
Recognition — should this item be recorded at all, and when?
Measurement — at what amount?
Presentation — where does it appear in the statements?
Disclosure — what must be explained in the notes?
If you can remember those four words, you can describe what any accounting standard does.
With the standard on inventories, the rule is fixed: value at cost or net realisable value, whichever is lower. If net realisable value is ₹ 1,55,000, the answer is ₹ 1,55,000, and there is nothing to argue about.
Why it works: a standard converts a matter of opinion into a matter of rule. That is its whole purpose.
(i) Uniformity. They lay down one treatment for a given item, so different enterprises record the same transaction in the same way.
(ii) Comparability. Because of that uniformity, the statements of one enterprise can be meaningfully compared with those of another and with its own earlier years.
(iii) Reliability and reduced fraud. They restrict the scope for manipulating figures and require disclosure of the policies actually followed, so users can rely on the statements. They also assist auditors, since there is a definite yardstick against which to judge the accounts.
Limitations
(i) Choice still remains. Several standards permit more than one alternative treatment, so complete uniformity is not achieved.
(ii) Rigidity and difficulty of application. A single rule must fit enterprises of very different sizes and industries, which can make it inflexible; standards must also stay within the framework of the law, and where the law and a standard differ, the law prevails.
IFRS And Ind-AS: Convergence, Not Adoption
Here is the problem that created all of this. An Indian company wants investment from a fund in Singapore. The fund’s analysts read financial statements from thirty countries every week. If every country has its own GAAP, the analyst has to learn thirty rule books. Capital then flows to whichever country is easiest to read, which is bad for everybody else. The comparability problem you met at the start of this chapter had grown to a global size.
Related reading: see how these principles play out in the Financial Statements of a Company — Class 12 Accountancy notes.
IFRS — International Financial Reporting Standards — are a single set of high-quality global accounting standards issued by the International Accounting Standards Board (IASB), based in London. Their purpose is exactly that: one financial language, so that statements prepared anywhere can be read and compared anywhere. IFRS lean towards fair value measurement rather than pure historical cost, and they are described as principle-based rather than rule-based, meaning they set out the reasoning and expect professional judgement rather than listing every case.
Ind-AS — Indian Accounting Standards — are India’s answer. They are standards that are converged with IFRS: substantially the same in content and numbering, but with carefully considered departures, called carve-outs, where a straight IFRS rule would conflict with Indian law or would not suit Indian conditions. Ind-AS are notified by the Ministry of Corporate Affairs under the Companies Act.
(i) Legal conflict. Some IFRS requirements clash with the Companies Act and other Indian laws, which no accounting standard can override.
(ii) Economic conditions. Certain IFRS treatments were designed for developed markets and do not fit Indian conditions well.
(iii) Readiness. Full fair-value accounting demands a level of valuation infrastructure and professional capacity that has to be built up.
(iv) Sovereignty over our own rules. Convergence lets India retain the ability to modify a standard where the national interest requires it.
Remember it in one line: convergence means “as close as possible, with reasons for the differences”.
Applicability, in brief. Ind-AS are not for everyone. They apply, in phases, to larger companies — broadly listed companies and companies above a specified net worth threshold, together with their holding, subsidiary, associate and joint venture companies. Smaller and unlisted companies below the threshold continue with the existing Accounting Standards (often called AS or Indian GAAP). Banking companies, insurance companies and non-banking financial companies have followed their own separate timelines set by their regulators. Sole proprietorships and partnership firms — the businesses in your Class 11 syllabus — are not covered by Ind-AS at all.
(b) A large listed company on a stock exchange. → Ind-AS, being a listed company.
(c) A subsidiary of a company covered by Ind-AS. → Ind-AS, because holding, subsidiary, associate and joint venture companies of a covered company are pulled in as well, so that group accounts are prepared on a single consistent basis.
(d) A small private company well below the net worth threshold. → Existing Accounting Standards. It may voluntarily choose Ind-AS, but once chosen it cannot go back.
Why point (c) matters: if a parent used Ind-AS while its subsidiary used the older AS, the consolidated accounts would be a mixture of two rule books and would mean nothing.
Benefit 1 (1 mark). It makes Indian financial statements understandable and comparable internationally, which helps Indian companies raise capital abroad and attract foreign investment.
Benefit 2 (1 mark). It reduces the cost and effort of preparing multiple sets of accounts for different countries, and enhances the credibility and global acceptability of Indian financial reporting.
Goods And Services Tax (GST)
Before GST arrived in July 2017, a single product could be taxed several times over on its way from factory to customer — excise duty here, VAT there, entry tax somewhere else — and worse, tax was often charged on an amount that already included tax. That is called the cascading effect, or tax on tax, and it quietly made everything more expensive.
GST is a single, comprehensive, destination-based indirect tax levied on the supply of goods and services, which replaced most of those earlier central and state indirect taxes. Let us unpack the two words that carry the most meaning.
The everyday picture: the tax follows the customer home. Under the old system a producing state kept the tax and a consuming state got nothing, which was hard to defend — the customer, after all, lives in the consuming state and uses the public services there.
The three components. India is a federal country, so both the Centre and the States needed a share. Rather than levy two separate taxes, GST is split.
- CGST — Central GST: levied by the Central Government on intra-State supply (buyer and seller in the same State).
- SGST — State GST: levied by the State Government on the same intra-State supply. CGST and SGST always travel together and normally each takes half the total rate. In a Union Territory, UTGST takes the place of SGST.
- IGST — Integrated GST: levied by the Central Government on inter-State supply (buyer and seller in different States) and on imports. The rate of IGST equals CGST plus SGST combined, and the Centre later shares the appropriate portion with the consuming State.
Input Tax Credit (ITC) is the mechanism that kills the cascading effect, and it is the heart of GST. A registered dealer pays GST when he buys (input tax) and collects GST when he sells (output tax). He does not hand over the whole of what he collected. He sets off the tax he already paid on his purchases and pays the government only the difference. The result is that tax is effectively borne only on the value he added.
Manufacturer sells to wholesaler for ₹ 1,00,000. GST collected = ₹ 18,000. No input credit. Pays government ₹ 18,000.
Wholesaler sells to retailer for ₹ 1,40,000. GST collected = ₹ 25,200. Input credit ₹ 18,000. Pays government ₹ 25,200 − ₹ 18,000 = ₹ 7,200.
Retailer sells to the final customer for ₹ 1,80,000. GST collected = ₹ 32,400. Input credit ₹ 25,200. Pays government ₹ 32,400 − ₹ 25,200 = ₹ 7,200.
Total received by government = ₹ 18,000 + ₹ 7,200 + ₹ 7,200 = ₹ 32,400
Tax on the final price = ₹ 1,80,000 × 18% = ₹ 32,400 ✔ The two agree exactly.
Check it the other way, through value added: ₹ 1,00,000 + ₹ 40,000 + ₹ 40,000 = ₹ 1,80,000 of value, taxed at 18% = ₹ 32,400. Same answer.
Why it works: nobody in the chain bore the tax except the final consumer, and no rupee was taxed twice. Notice also that the three businesses collected ₹ 75,600 in total but the government received only ₹ 32,400 — the difference is exactly the credit that flowed through the chain.
(a) Purchased goods for ₹ 2,00,000 from a Punjab supplier on credit.
CGST = ₹ 2,00,000 × 9% = ₹ 18,000; SGST = ₹ 18,000; invoice total = ₹ 2,36,000
Purchases A/c Dr. ₹ 2,00,000
Input CGST A/c Dr. ₹ 18,000
Input SGST A/c Dr. ₹ 18,000
To Creditor A/c ₹ 2,36,000
Debits ₹ 2,00,000 + ₹ 18,000 + ₹ 18,000 = ₹ 2,36,000 = Credit ✔
(b) Sold goods for ₹ 3,00,000 within Punjab on credit.
CGST = ₹ 27,000; SGST = ₹ 27,000; invoice total = ₹ 3,54,000
Debtor A/c Dr. ₹ 3,54,000
To Sales A/c ₹ 3,00,000
To Output CGST A/c ₹ 27,000
To Output SGST A/c ₹ 27,000
Credits ₹ 3,00,000 + ₹ 27,000 + ₹ 27,000 = ₹ 3,54,000 = Debit ✔
Notice: Input GST is an asset (money the government owes back to you) and is debited. Output GST is a liability (money you have collected on the government’s behalf) and is credited. GST never touches the Purchases or Sales figure itself.
Output CGST ₹ 27,000 − Input CGST ₹ 18,000 = ₹ 9,000 payable
Output SGST ₹ 27,000 − Input SGST ₹ 18,000 = ₹ 9,000 payable
Total paid to government in cash = ₹ 18,000
Set-off entry:
Output CGST A/c Dr. ₹ 18,000
Output SGST A/c Dr. ₹ 18,000
To Input CGST A/c ₹ 18,000
To Input SGST A/c ₹ 18,000
Debits ₹ 36,000 = Credits ₹ 36,000 ✔
Payment entry:
Output CGST A/c Dr. ₹ 9,000
Output SGST A/c Dr. ₹ 9,000
To Bank A/c ₹ 18,000
Debits ₹ 18,000 = Credit ₹ 18,000 ✔
Sanity check: the dealer collected ₹ 54,000 of GST and had ₹ 36,000 of credit, so ₹ 18,000 went to the government. His own value added was ₹ 3,00,000 − ₹ 2,00,000 = ₹ 1,00,000, and ₹ 1,00,000 × 18% = ₹ 18,000 ✔ The two agree, which is exactly what a working GST should do.
Because the two parties are in different States, this is an inter-State supply, so IGST applies instead of CGST plus SGST.
IGST = ₹ 1,50,000 × 18% = ₹ 27,000; invoice total = ₹ 1,77,000
Debtor A/c Dr. ₹ 1,77,000
To Sales A/c ₹ 1,50,000
To Output IGST A/c ₹ 27,000
Debit ₹ 1,77,000 = Credits ₹ 1,50,000 + ₹ 27,000 ✔
The single test to apply every time: are the supplier and the place of supply in the same State? Same State → CGST + SGST, each at half the rate. Different States → IGST at the full rate. That one question decides every GST entry you will ever pass in Class 11.
Characteristics of GST — the list your syllabus asks for: it is a single comprehensive tax on the supply of goods and services; it is destination-based and consumption-based; it is a dual GST, levied simultaneously by the Centre (CGST) and the States (SGST), with IGST on inter-State supply; it is charged on value addition through the input tax credit mechanism, which removes the cascading effect; it has a common national base and common rates, decided by the GST Council on which the Centre and all States are represented; it is administered largely online through a common portal for registration, returns and payment; and it applies uniformly across the country, making India a single market.
(ii) One nation, one tax, one market (1 mark). GST replaced a large number of central and state indirect taxes with a single tax at common rates, removing tax barriers between States and allowing goods to move freely across the country.
(iii) Simplicity and transparency (1 mark). Registration, returns and payment are made through a common online portal, so compliance is simpler, the tax borne is clearly visible on the invoice, and the scope for evasion is reduced.
(iv) Wider tax base and higher revenue (1 mark). Because credit can be claimed only if the supplier has also reported the transaction, dealers have an incentive to buy from registered suppliers, which brings more businesses into the tax net and increases government revenue. It also improves the competitiveness of Indian goods, since exports are zero-rated.
Master Summary Tables
These are your revision pages. On the night before the exam, read only this section — but only if you have genuinely worked through everything above, because a table is a reminder, never a substitute.
Table 1 — All Thirteen Accounting Concepts At A Glance
| Concept | What It Says | One-Line Example | What Goes Wrong Without It |
|---|---|---|---|
| Business Entity | Business is separate from its owner; books are kept from the business’s point of view. | Owner’s ₹ 40,000 school fees paid from shop cash is drawings, not an expense. | Personal spending eats into business profit; you can never tell how the business itself is doing. |
| Money Measurement | Only what can be expressed in money is recorded. | A skilled manager is not shown as an asset; machinery at ₹ 2,50,000 is. | Unlike items cannot be added, and accounts fill up with unverifiable claims about quality. |
| Going Concern | The business will continue for the foreseeable future. | A ₹ 8,00,000 machine is depreciated over 10 years, not written off at once. | Depreciation, prepaid items and the fixed-versus-current split all lose their meaning. |
| Accounting Period | Indefinite life is cut into equal regular intervals, usually 1 April to 31 March. | A ₹ 48,000 annual premium paid on 1 January gives ₹ 12,000 expense and ₹ 36,000 prepaid. | Profit could only be known when the business closes, which is useless to everyone. |
| Cost (Historical Cost) | Assets are recorded at the price paid plus costs to make them ready for use. | Land bought for ₹ 12,00,000 stays at ₹ 12,00,000 even when worth ₹ 45,00,000. | Asset values become opinions; profits can be created simply by revaluing things upward. |
| Dual Aspect | Every transaction has two equal aspects; Assets = Liabilities + Capital. | Credit sale ₹ 35,000: debtor up ₹ 35,000, sales up ₹ 35,000. | No double entry, no Trial Balance, no way to check arithmetical accuracy. |
| Revenue Recognition | Revenue is earned when goods are delivered or services rendered, not when cash arrives. | A ₹ 2,00,000 order in March, delivered in April, is April’s revenue. | Profit can be inflated by counting orders that may never be fulfilled. |
| Matching | Expenses of a period are set against the revenue of that same period. | ₹ 20,000 salary unpaid in March is still March’s expense. | This year’s income is compared with last year’s costs; profit becomes meaningless. |
| Full Disclosure | All material information must be disclosed fully and fairly. | A ₹ 6,00,000 guarantee is disclosed as a contingent liability in the notes. | Statements are technically correct but misleading through silence. |
| Consistency | The same methods are followed from period to period. | Depreciation stays on SLM at ₹ 50,000 rather than switching to WDV at ₹ 80,000. | Year-on-year comparison is destroyed; profit can be tuned by changing method. |
| Conservatism | Anticipate no profit but provide for all possible losses. | Stock costing ₹ 1,80,000 worth ₹ 1,55,000 is shown at ₹ 1,55,000. | Profits are overstated, owners over-draw, and lenders rely on strength that is not there. |
| Materiality | Only items significant enough to affect decisions need separate treatment. | A ₹ 450 calculator is expensed at once by a firm with ₹ 80,00,000 turnover. | Effort is wasted on trivia, and genuinely important facts get buried in detail. |
| Objectivity | Entries must rest on verifiable evidence, free from personal bias. | A van is recorded at the invoice figure of ₹ 6,50,000, not the owner’s ₹ 7,50,000 estimate. | Accounts depend on who prepared them; auditing becomes impossible. |
Table 2 — Cash Basis Versus Accrual Basis
| Basis Of Difference | Cash Basis | Accrual Basis |
|---|---|---|
| Recording of revenue | Only when cash is actually received. | When earned, whether received or not. |
| Recording of expenses | Only when cash is actually paid. | When incurred, whether paid or not. |
| Outstanding and prepaid items | Completely ignored. | Fully adjusted at the year end. |
| Depreciation | Not charged, as no cash moves. | Charged as an expense of the period. |
| Correctness of profit | Does not show true profit of the period. | Shows a true and fair profit of the period. |
| Legal position | Not permitted for companies. | Required by law; a fundamental accounting assumption. |
| Suitable for | Small professionals, clubs and non-trading concerns with no credit dealings. | All business enterprises. |
| Our worked figures (Example 43) | Profit ₹ 3,84,000 | Profit ₹ 3,30,000 (lower by ₹ 54,000) |
Table 3 — Single Entry Versus Double Entry
| Basis Of Difference | Single Entry System | Double Entry System |
|---|---|---|
| Recording | Only one aspect, or sometimes neither, of a transaction is recorded. | Both aspects of every transaction are recorded. |
| Accounts maintained | Mainly cash and personal accounts; real and nominal accounts are largely ignored. | All personal, real and nominal accounts are maintained. |
| Trial Balance | Cannot be prepared, so accuracy cannot be checked. | Can be prepared; arithmetical accuracy is verifiable. |
| Ascertaining profit | Estimated by the Statement of Affairs method. | Found accurately from the Trading and Profit and Loss Account. |
| Reliability and acceptance | Unreliable; not accepted by tax authorities or lenders. | Reliable; accepted for tax, audit and lending purposes. |
| Suitability and cost | Cheap and simple; used by very small traders only. | Costlier and needs trained staff; suitable for every size of enterprise. |
Table 4 — Accounting Standards Versus Ind-AS Versus IFRS
| Basis Of Difference | Accounting Standards (AS) | Ind-AS | IFRS |
|---|---|---|---|
| Issued by | ICAI, notified under the Companies Act. | Notified by the Ministry of Corporate Affairs, based on ICAI recommendation. | International Accounting Standards Board (IASB), London. |
| Scope | National — India only. | National, but converged with the global set. | Global; used or permitted in a large number of countries. |
| Basis of measurement | Largely historical cost. | Greater use of fair value, with carve-outs. | Strong emphasis on fair value. |
| Approach | More rule-oriented and prescriptive. | Principle-based, adapted to Indian law. | Principle-based, relying on professional judgement. |
| Applies to | Companies below the notified threshold and non-corporate entities. | Listed companies and companies above the notified net worth threshold, with their group companies. | Entities in countries that have adopted IFRS. |
| Relationship | The older Indian set, still in force where Ind-AS does not apply. | Converged with IFRS, not adopted word for word. | The international benchmark that Ind-AS is converged with. |
Table 5 — CGST, SGST And IGST At A Glance
| Point | CGST | SGST / UTGST | IGST |
|---|---|---|---|
| Full form | Central Goods and Services Tax | State / Union Territory Goods and Services Tax | Integrated Goods and Services Tax |
| Levied by | Central Government | State or Union Territory Government | Central Government |
| Applies to | Intra-State supply (same State) | Intra-State supply (same State) | Inter-State supply and imports |
| Rate, if total GST is 18% | 9% | 9% | 18% |
| On a supply of ₹ 2,00,000 | ₹ 18,000 | ₹ 18,000 | ₹ 36,000 (if inter-State) |
| Who finally gets the State share | Retained by the Centre | Retained by that State | Collected by the Centre and shared with the consuming State |
Practice Worksheet
Ten original questions, mixed 1, 3, 4 and 6 marks. Please do this properly: write your answer on paper first, then open the reveal and mark yourself honestly. Reading an answer feels like learning but it is not. Writing one is.
Q1. (1 mark) The proprietor of a firm paid the annual insurance premium on his personal car out of the firm’s cash. Name the accounting concept that decides how this must be treated, and state the treatment.
Show Answer
Treatment: The payment is personal to the proprietor and is therefore recorded as drawings and deducted from capital. It must not be charged as an expense of the business, because the business and its owner are separate entities and the firm’s profit must not be affected by the owner’s private expenditure.
Q2. (1 mark) Name the three fundamental accounting assumptions, and state in one line what a firm must do if it has not followed one of them.
Show Answer
If any of them has not been followed, that fact must be specifically disclosed in the financial statements, along with the reason. (If they are followed, no disclosure at all is needed — they are simply presumed.)
Q3. (5 marks — scenario set) For each of the following, name the accounting concept that is being violated, and state the correct treatment in one line.
- A firm recorded a sale of ₹ 1,50,000 on 28 March 2026 on the strength of a customer’s confirmed purchase order, although the goods were dispatched only on 12 April 2026.
- A trader valued his closing stock at its expected selling price of ₹ 2,40,000 instead of its cost of ₹ 2,05,000.
- A company changed its method of depreciation for the third year running, each time choosing whichever method gave the highest profit that year, and made no mention of it anywhere.
- A firm is defending a court case in which damages of ₹ 8,00,000 are likely to be awarded against it. Nothing has been recorded and nothing has been mentioned in the notes.
- A partner’s wife’s foreign holiday, paid for from the firm’s bank account, was debited to Travelling Expenses Account.
Show Answer
(ii) Conservatism (Prudence) Concept, supported by the Cost Concept. Stock must be valued at cost or net realisable value, whichever is lower — here ₹ 2,05,000. Recording ₹ 2,40,000 anticipates an unrealised profit of ₹ 35,000.
(iii) Consistency Concept, and also Full Disclosure. Methods must be applied uniformly; a change is permitted only for sound reason and must be disclosed with its effect on profit. Changing to flatter the profit figure is exactly what the concept forbids.
(iv) Conservatism (Prudence) Concept, and also Full Disclosure. All probable losses must be provided for, and in any case the claim must be disclosed as a contingent liability of ₹ 8,00,000 in the notes to accounts.
(v) Business Entity Concept. The holiday is personal expenditure and must be treated as drawings, not as Travelling Expenses. As recorded, the firm’s profit is understated and capital is overstated.
Q4. (3 marks) “Cost concept makes the Balance Sheet out of date, yet accountants insist on it.” Explain the cost concept and give one merit and one limitation.
Show Answer
Merit (1 mark). The cost figure is supported by documentary evidence such as an invoice or a registered deed. It is therefore objective, verifiable and free from personal bias, and the same asset would be recorded at the same amount by any accountant.
Limitation (1 mark). Because rising market values are not recognised, the Balance Sheet may show assets at figures far below their present worth. For instance land bought for ₹ 12,00,000 continues at ₹ 12,00,000 even when it is worth ₹ 45,00,000, so the financial position appears understated and comparison between old and new firms becomes difficult.
Q5. (6 marks — numerical) Meera runs a stationery business. For the year ended 31 March 2026 the following information is available:
- Cash received from customers during the year ₹ 7,50,000, which includes ₹ 90,000 received in advance for supplies to be made in 2026-27.
- Goods supplied during the year for which ₹ 45,000 is still to be received.
- Cash paid for purchases ₹ 4,30,000.
- Rent paid ₹ 1,20,000; rent for March 2026 of ₹ 10,000 is still outstanding.
- Wages paid ₹ 96,000, of which ₹ 6,000 relates to April 2026.
Compute the profit for the year on (a) the cash basis and (b) the accrual basis, and explain the difference.
Show Answer
Cash receipts = ₹ 7,50,000
Cash payments = ₹ 4,30,000 + ₹ 1,20,000 + ₹ 96,000 = ₹ 6,46,000
Profit = ₹ 7,50,000 − ₹ 6,46,000 = ₹ 1,04,000
(b) ACCRUAL BASIS (3 marks)
Revenue earned = ₹ 7,50,000 − ₹ 90,000 (advance, not yet earned) + ₹ 45,000 (earned, not yet received) = ₹ 7,05,000
Purchases = ₹ 4,30,000
Rent = ₹ 1,20,000 + ₹ 10,000 (outstanding) = ₹ 1,30,000
Wages = ₹ 96,000 − ₹ 6,000 (prepaid) = ₹ 90,000
Total expenses = ₹ 4,30,000 + ₹ 1,30,000 + ₹ 90,000 = ₹ 6,50,000
Profit = ₹ 7,05,000 − ₹ 6,50,000 = ₹ 55,000
(c) EXPLANATION (1 mark)
The difference is ₹ 1,04,000 − ₹ 55,000 = ₹ 49,000. The cash basis overstates profit because it counts ₹ 90,000 that Meera has received but not yet earned, and ignores ₹ 10,000 of rent already incurred; against this it also misses ₹ 45,000 of revenue she has earned but not received, and wrongly charges ₹ 6,000 of next year’s wages. Check: −90,000 + 45,000 − 10,000 + 6,000 = −49,000 ✔ The accrual figure of ₹ 55,000 is the correct profit of the year.
Q6. (6 marks — numerical) Kabir Traders operates entirely within one State. GST is charged at 12 per cent, that is CGST 6 per cent and SGST 6 per cent. During the month the firm purchased goods for ₹ 4,00,000 on credit and sold goods for ₹ 5,50,000 on credit. Calculate the GST on each transaction, pass the journal entries, and find the net GST payable in cash.
Show Answer
Purchases A/c Dr. ₹ 4,00,000
Input CGST A/c Dr. ₹ 24,000
Input SGST A/c Dr. ₹ 24,000
To Creditors A/c ₹ 4,48,000
Debits ₹ 4,48,000 = Credit ₹ 4,48,000 ✔
Step 2 — Sale (2 marks). Output CGST = ₹ 5,50,000 × 6% = ₹ 33,000; Output SGST = ₹ 33,000. Invoice total = ₹ 5,50,000 + ₹ 33,000 + ₹ 33,000 = ₹ 6,16,000.
Debtors A/c Dr. ₹ 6,16,000
To Sales A/c ₹ 5,50,000
To Output CGST A/c ₹ 33,000
To Output SGST A/c ₹ 33,000
Credits ₹ 6,16,000 = Debit ₹ 6,16,000 ✔
Step 3 — Net GST payable (2 marks).
CGST: ₹ 33,000 − ₹ 24,000 = ₹ 9,000
SGST: ₹ 33,000 − ₹ 24,000 = ₹ 9,000
Total payable in cash = ₹ 18,000
Payment entry:
Output CGST A/c Dr. ₹ 9,000
Output SGST A/c Dr. ₹ 9,000
To Bank A/c ₹ 18,000
Cross-check: value added = ₹ 5,50,000 − ₹ 4,00,000 = ₹ 1,50,000, and ₹ 1,50,000 × 12% = ₹ 18,000 ✔ This is the input tax credit mechanism doing exactly what it is designed to do.
Q7. (4 marks) Distinguish between adoption of IFRS and convergence with IFRS. Why did India choose convergence? State any two reasons.
Show Answer
Convergence (1 mark). Convergence means framing national standards that are substantially in agreement with IFRS while retaining certain deviations, called carve-outs, that are necessary in view of the country’s legal requirements and economic conditions. India has done this through the Indian Accounting Standards (Ind-AS).
Reason 1 (1 mark). Some IFRS requirements conflict with Indian law, particularly the Companies Act and sector regulations, and no accounting standard can override the law of the land.
Reason 2 (1 mark). Certain IFRS treatments, especially the extensive use of fair value, were designed for developed markets and do not suit Indian economic conditions or the present level of valuation infrastructure. Convergence also allows India to retain control over its own standard-setting where the national interest requires it.
Q8. (4 marks) A firm with an annual turnover of ₹ 90,00,000 does the following. In each case name the concept applied and say whether the treatment is correct.
- It writes off a stapler costing ₹ 320 as an expense in the year of purchase instead of depreciating it over five years.
- It creates a provision for doubtful debts of ₹ 20,000 on debtors of ₹ 4,00,000, although no debtor has actually defaulted.
- It does not record an increase of ₹ 5,00,000 in the market value of its factory building.
- It creates a provision for doubtful debts of ₹ 2,50,000 on the same ₹ 4,00,000 of debtors, in a year of unusually high profits, without any supporting reason.
Show Answer
(ii) Conservatism (Prudence) Concept — correct. ₹ 4,00,000 × 5% = ₹ 20,000. A probable loss is provided for even though no specific debtor has yet failed, so that profit is not overstated. Debtors appear at ₹ 3,80,000.
(iii) Cost Concept, supported by Conservatism — correct. The building remains at cost less depreciation. The ₹ 5,00,000 rise is unrealised and no transaction has taken place, so no gain may be recorded.
(iv) Not correct — this violates Full Disclosure, and misuses prudence. A provision of ₹ 2,50,000, more than twelve times the justified figure, has no evidential basis. Deliberately understating profit in a good year to create a hidden cushion is the creation of a secret reserve, not prudence. Prudence means caution about genuine uncertainty, never manufactured pessimism.
Q9. (6 marks) Explain the input tax credit mechanism under GST with a suitable illustration, and state any two advantages of GST that follow from it.
Show Answer
Illustration (2 marks). Take a GST rate of 18 per cent.
Manufacturer sells at ₹ 1,00,000; GST ₹ 18,000; no credit; pays ₹ 18,000.
Wholesaler sells at ₹ 1,40,000; GST ₹ 25,200; credit ₹ 18,000; pays ₹ 7,200.
Retailer sells at ₹ 1,80,000; GST ₹ 32,400; credit ₹ 25,200; pays ₹ 7,200.
Total received by government = ₹ 18,000 + ₹ 7,200 + ₹ 7,200 = ₹ 32,400, which is exactly 18 per cent of the final selling price of ₹ 1,80,000. The whole tax is borne by the final consumer and by nobody in the chain.
Advantage 1 (1 mark). It eliminates the cascading effect, or tax on tax, which existed under the earlier system. Because tax is charged only on value addition, the final price to the consumer is lower than it would otherwise be.
Advantage 2 (1 mark). It improves compliance and widens the tax base, because a buyer can claim credit only if his supplier has also declared the transaction. Every dealer therefore has an incentive to deal with registered suppliers and to report honestly, which reduces evasion and increases government revenue.
Q10. (6 marks) “Accounting concepts are necessary, but Accounting Standards were still needed.” Justify this statement. In your answer, explain the relationship between concepts, GAAP and Accounting Standards, and state any two limitations of Accounting Standards.
Show Answer
Why concepts alone were not enough (2 marks). Concepts are stated in broad terms. Revenue recognition tells us to record revenue when it is earned, but not exactly how to measure revenue on a long construction contract. Conservatism tells us to be cautious, but not precisely which costs belong in the value of inventory. Two entirely honest firms following the same concepts could therefore arrive at very different figures simply by exercising judgement differently. Detailed, written and enforceable rules were needed to narrow that scope for choice.
The relationship (1 mark). Concepts and conventions form the foundation. Taken together with accepted rules and procedures they constitute GAAP, the general body of accepted practice. Accounting Standards are the written and authoritative part of GAAP, issued in India by the ICAI and notified under the Companies Act, dealing with the recognition, measurement, presentation and disclosure of particular items in detail. Ind-AS, converged with IFRS, extends this to the global level for larger companies.
Two limitations (2 marks).
(i) Alternatives still exist. Several standards permit more than one acceptable treatment, so complete uniformity between enterprises is still not achieved.
(ii) Rigidity, and subordination to law. A single rule has to serve enterprises of widely differing size and industry, which can make it inflexible and costly for smaller entities to apply. Moreover, standards must operate within the framework of the statute, and where a standard and the law differ, the law prevails.
One Last Word Before You Close This Page
Look back at where you started. A page of abstract-sounding words — entity, prudence, accrual, convergence — and now you can look at a transaction and say what should happen to it and why. That is not a small thing, and it did not happen because you read faster. It happened because you went one concept at a time.
You will forget some of this. Everybody does. When you do, come back and read one section, not the whole page. And when you sit down tomorrow, do not aim to finish the chapter or to be perfect. Aim for one more correct question than yesterday. That is all. One more, every day, is how a subject that felt boring in August becomes the subject you are quietest and most confident about in March.
Now go and write out Example 43 from memory. I will wait.