Question

Why is the Conceptual Framework of Accounting needed? Define one of the elements, assumptions, principles, or constraints of the Conceptual Framework, and explain why it is fundamental for meeting the objectives of financial reporting?

Answer 1

Conceptual framework of accounting is about to developing rules and regulation of accountancy, it form a frame of reference for financial reporting.

Why we need it?

World has witnessed the past history of accounting scandals whether it was worldcom, Enron, Royal Ahold, Paramlat and Healthsouth Corporation etc., these scandals were happened in between 2002 and 2003 because of lack of framework of accounting, accounting firms was also held liable for such scandals because they failed to provide the relevant information about financial misstatements Therefore, to strengthen the accounting and reporting system strong accounting framework is needed to bring uniformity in accounting around the world.

Elements of Conceptual Framework

Elements of conceptual framework are assets, liabilities, equity, income and expense. These elements are used to record items according to their nature in respective elements. These elements are universally accepted and used in financial statements.

Principles & Assumptions of Conceptual Framework

Conceptual framework of accounting has defined various accounting principles & assumptions; some of which are as follows;

1. Going Concern: This is the assumption in preparing of financial statements that an entity will continue and never shut down its operations.
2. Accrual: Under this assumption, effect of transaction will be recorded when they occur according to their respective financial year.

Constraints of Conceptual Framework

There are some constraints of conceptual framework which are as under;

1. Estimation & Judgments: While preparing the financial statement some figures were used on the basis of estimation & judgments which can be differ. Therefore, past experiences were used for such matter.
2. Materiality
3. Conservatism

Reason for meeting the objective of financial reporting

Conceptual framework was made to ensure that financial statements present true and fair position of an entity. Financial statements are useful to existing and potential stakeholders who make their decision about providing resources to the entity. Conceptual framework explains that investor and lenders must normally rely on financial reports. They are the primary users for such reports.

If conceptual framework does not meet the objective of financial statements, then it will lead to scandal and fraud and which cause huge cost to economies and financial systems. Therefore, it is necessary that conceptual framework of accounting must be able to meet the objectives of financial reporting.