Theoretical Framework of Accounting Explained

Any study or methodology depends on a framework upon which the building blocks of the concept are laid. Such is also the case with accounting. Various fundamental frameworks are associated with this study. The tools, methods, and frameworks implemented in the study and evaluation of accounts regarding the financial reports, is termed as the theoretical framework of accounting. 

The theory involves both the interpretation of historical accounting procedures as well as recent measures. It also indicates the official modifications updated to the financial framework by the regulating body. It comes with a certain basic framework of accounting involving significant sessions and fundamentals.

Accounting Framework

The concept of the Theoretical Framework comprises the following sessions.

• Introducing to the concept of accounting

• Major functions of accounting

• Merits and demerits

• Bookkeeping

• Accounting System

• As an information system

• Role of an Accountant

• Accounting standards, concepts, and policies

• Classification

• Debit and credit rules

• Equation

These elements come together to form the conceptual framework of accounting. Now, we will be having a look at the major sections from the theoretical background.

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Principles and Functions of Accounting

The primary role of accounting is to provide businessmen with the right record of monetary transactions. The functioning method of Accounting and theoretical background has two different categories. They are historical functioning and managerial functioning.

1. Historical Functioning

Historical Functioning emphasizes keeping a record of all the past transactions securely. The type of functioning involves:

• The conceptual framework accounting helps in keeping a track of all the records and maintaining a journal for the same.

• Preparation of summaries to cite quick reviews.

• The historical functioning not only gives insight to the records but also provides a fair outcome.

• A balance sheet is prepared to interpret the financial report of the organization or enterprise.

• Analysis of data and records can be used in other relevant places.

2. Managerial Functioning

The other theoretical background involves the functioning of the Managerial Committee, which looks after the decision-making aids of the company. The functions for this step involve,

• Setting up plans, other than maintaining and checking the financial policies.

• The budget is prepared for the estimation of total expenses for future activities.

• The accounting even gives an insight into the evaluation of the performance of the employee.

• Checking if there’s any potential error or fault.

Merits and Demerits of Accounting

Theoretical framework meaning indicates the particular structure that is capable of supporting theory, for definite research or study.

Accounting mixes up both arts and science. It is an art that classifies and summarizes the report of financial transactions for a particular company. The accounting theory comes with both advantages and disadvantages.

Advantages

• It is possible to maintain all the business records, with the aid of an accounting framework.

• Accounting helps in setting up financial statements and ensures a healthy comparison of results.

• The role of accounting theory is to help in issues related to taxation and the right valuation of the business.

• With the aid of accounting, evidence in legal matters alongside relevant information can be secured too.

Disadvantages

Besides some remarkable advantages, the theoretical background of accounting theory comes with its own set of cons.

• The information under the accounts is presented only in figures.

• The information obtained is based on fair estimation only.

• In some cases, the recording information might not be neutral.

• Particular assets are only recorded in terms of their real price.

What is the Conceptual Framework of Accounting and How is it Different from the Theoretical Framework of Accounting? 

The key purpose for creating a conceptual framework is that it provides a framework for establishing accounting standards, a foundation for resolving accounting disputes, and fundamental ideas that are not duplicated in accounting rules. Furthermore, the Conceptual Framework can be classified according to the unique role of management accounting in the organizational management process. Furthermore, the method for determining the utility of the management accounting process's outcomes. It is a set of criteria for evaluating the value of management accounting processes and work technology, as well as the capabilities that are inextricably linked to the function's overall effectiveness.

The Conceptual Framework also serves as a guide for future financial accounting standards and a check on management's subjective judgments while generating financial statements and other financial reports. Furthermore, it aids national standard-setting organizations in raising national accounting standards.

In accounting, the conceptual framework is crucial as it helps in the better understanding of accounting data, such as general-purpose financial reports and other relevant stuff. Furthermore, by providing a foundation for selecting the most appropriate accounting treatment permitted by financial accounting rules, the Conceptual Framework fosters harmonization. It also aids in dealing with events, transactions, situations, or circumstances, although it does not deal with any AAOIFI-developed financial accounting standard. This framework aids financial report users in comprehending the data contained in financial statements prepared following financial accounting standards.

It also provides information regarding AAOIFI's work with information on the organization's methodology to developing financial accounting standards.  The framework's principal purpose, in my opinion, is to ensure that the FASB does not create standards at random. Jeannot Blanchet writes, "The framework provides a crucial uniform conceptual grounding that helps the Board resolve disputes."For investors, a conceptual framework is vital. This is because it provides the investor with risk capital, and the adviser is concerned about the risk associated with their investment. The data is required to assist them in deciding whether to sell, buy, or hold the shares. The shareholders are interested in information that allows them to assess the company's potential to pay dividends.

Employees and their representative groups are also interested in the company's ability to provide retirement benefits, job prospects, and remuneration, as well as information that allows them to assess the company's ability to do so.

Furthermore, it allows lenders to ensure that their loans and interest are paid on time. The quantity of the money borrowed by suppliers and other trade creditors is also crucial to them since it may impact whether or not the money will be paid when it is due. Unless they are reliant on the firm's continued existence as a significant customer, trade creditors have a shorter-term interest in an enterprise than lenders. Customers are also interested in information concerning a company's long-term viability, particularly when the enterprise is involved for a long time. Finally, the government and its agencies place a premium on resource allocation and business operations. They can use the information to decide taxation policy, as well as other statistics, such as the basis for national income.

Solved Example

Q. What are the theories involved in accounting?

Ans: Denoting the vitality of theoretical framework meaning, it appears, accounting doesn't come with its theories. However, it comprises a certain hypothesis that is truly impactful. These include size hypothesis, political cost hypothesis, debt covenant hypothesis, income hypothesis, bonus plan hypothesis, and the list continues.

Did You Know?

Here are some amazing facts about the theoretical framework of accounting and the significance of its meaning, that you will be surprised to know. There are five fundamentals for the current accounting practices.

• The Revenue Principle

• The Expense Principle

• The Matching Principle

• The Cost Principle

• The Objectivity Principle

In general, there are about ten basic accounting concepts. Significant ones include Business Entity Concept, cost concept, going concern concept, matching concept, etc. Accounts are further classified into different accounts, they are personal accounts, tangible accounts, and intangible accounts.

Do you know about the theoretical framework of accounting? Do you know how it is different from the conceptual framework of accounting? If you can't answer these questions, once you go through this article, you will be able to answer not only these questions but more questions that are related to accountancy. In this article, we have covered the theoretical framework of accounting and more concepts that are related to it. 

Accounting theory refers to the set of concepts, procedures, and assumptions that are utilized in the study and use of accounts in financial circumstances. The study of historical accounting methodologies, as well as accounting practices employed in any contemporary financial application, is included in the theory of accounts. It also investigates government-sanctioned changes to the financial structure and financial reporting.

An accounting framework is a logical set of interconnected goals and basics that should lead to a set of uniform rules that define the nature, function, and limitations of financial accounting and financial statements.