With billions of people all over the world completing untold numbers of transactions each day, financial record keeping has grown into a complicated process over the years, culminating in the creation of rules implemented in order to establish methods and practices for all accountants and financial specialists to abide by.
With each nation around the world using different standards, rules and practices in financial tracking, tax submissions and other accounting services, the collective group of regulations established as best practices have come to be known as the Generally Accepted Accounting Princles (GAAP). While necessarily officially outside of the law, GAAP attempts to provide accountants with basic principles and guidelines now followed as industry standards in most parts of the world.
GAAP’s Purpose and Goals
With companies of all kinds and locations following these guidelines as opposed to preparing financial statements and records via methods not readily recognizable to an accountant outside of the preparation circle, records are easier to read, understand, compare and edit for financial professionals, shareholders and consumers alike. While the methods outlined in GAAP guides are not officially law in many cases, they are used by both small businesses and huge corporations almost religiously the world over for one simple reason: they work.
GAAP is mainly concerned with providing a uniform platform and system of measurement of economic activity using easily understandable periods of time with a standardized monetary unit, often dependant on region, used. The idea behind the GAAP method of accounting standardization and the result as seen by thousands of companies every quarter is clean, easily comparable financial statements that can be used in any number of business situations, including the public reporting of economic numbers and indicators to customers and shareholders. In the wake of the huge financial scandals seen late in the 20th century involving companies such as Enron in the United States and Nortel in Canada, with the fraud committed often thanks to unclear and deceptive financial reporting, GAAP rules make it more difficult for any given entity to be anything less than transparent and highly accurate in their financial reporting.
The Assumptions and Principles of GAAP
The GAAP standards rely on several key assumptions that should be able to be made about any financial record in order to make for the greatest level of accuracy and transparency when records are compared against those from previous periods. While there are many baseline assumptions to be made when applying GAAP standards, the key ones are those that provide the backdrop for all firms in all fields.
The Economic Entity Assumption
This economic entity assumption is a simple one that requires that each individual economic entity provide independent financial records. While records may be combined in the interest of determining a more broad overview of the activities of a group of entities, the separation of these records on an official basis helps to guarantee accuracy in financial reporting. This standard is applied not only to recognized businesses but to governments and other financially active groups as well.
The Full Disclosure Principal
The full disclosure principal demands just that from reporting firms, requiring the disclosure of not only obvious historic financial data but also ongoing events that may effect current value. These events and situations include pending or incomplete transactions, ongoing and pending lawsuits and imminent high-level personnel changes.
The Monetary Unit Assumption
All economic entities must report only quantifiable transactions and all transactions must be recorded in a single monetary unit (i.e. U.S. dollars in the United States, the Euro in E.U. nations). This assumption allows for the elimination of the confusion and potential fog surrounding the late calculation of ever-changing currency exchange rates.
Conclusion: Applying GAAP Standards
While this overview helps you to understand the reasoning behind and goals of the Generally Accepted Accounting Principles, application of all standards and methods requires a more intimate knowledge of GAAP; this is most easily obtained via any one of a number of published guides aiming to keep accountants around the world in-the-know where financial data reporting principles are concerned.
Jessy is a finance expert and blogger for Life Insurance Finder, the free app to compare life insurance quotes online.