In: Accounting
Identify the foundational principle from the conceptual framework for financial reporting that is being followed, or is being violated.
Identify the principle by name.
Tell me what the principle says (the part relevant to this situation).
Clearly identify what part is followed or violated - and explain your reasoning.
A company recorded the value of a truck it purchased at $40,000. They did not record an “expense” at the date of purchase even though they had this cost at that time. They planned to wait and see how much they drove the truck for the year before recording any expense. They already had some other trucks.
Usually their trucks last 5 – 8 years and about 500,000 kilometers.
Answer. The principle being violated above is - Matching Principle.
The Matching Principle states that all expenses must be matched in the same accounting period as the revenues they helped to earn. In practice, matching is a combination of accrual accounting and the revenue recognition principle.
Hence, in the given case, the expenses of the Trucks mustbe recognized as and when they occur for the period they generate revenues. This is done so that a clear & prudent understanding of the revenue and its related expenses can be taken at the year end or various accounting intervals.
In the second scenario, As per the standard on Property Plant & Equipment, all related costs atthe time of asset acquisition must be added to the product or Capitalized. Also, as per materiality concept Depriciation must be availed for the truck annualy.
Hence, the expenses of $40,000 must be added to the Truck Value at the Year of Purchase.