U.S. GAAP - Generally Accepted Accounting Principles
Generally Accepted Accounting Principles (GAAP) is defined as the standard guidelines of accounting rules for financial accounting and to prepare financial statements for private companies and the companies trading publicly in United States. It chalks down the standards, conventions, and rules for accountants to pursue in recording and summarizing transactions, and in the preparation of financial statements. In United States these rules are decided by the Governmental Accounting Standards Board (GASB) which applies to local and state governments.
Again, it has to be remembered that GAAP are not a rigid set of rules. These are flexible guidelines only. Over the years, these groups of conventions and standards have evolved in the specific need of standard common platform for the preparation and presentation of financial statements In United States, the American Institute of Certified Public Accountants (AICPA), The Financial Accounting Standards Board (FASB) and the Securities and Exchange Commission (SEC) offer guidance and assistance about standard acceptable practices of accounting
Necessity OF GAAP
- Acquiescence with GAAP promotes creditability with stockholders and creditors reassuring them and outsiders that financial report of a company precisely reflect its financial position.
- Routine auditing is done by Certified public accountants to determine the compliance of financial statements with GAAP. Financial statements display these audit findings.
- Even finance companies, banks and investors look for these audited financial statements of their clients.
The evolvement of GAAP is based on four fundamental qualities the financial statements must possess. The financial statements must be Relevant, Reliable, Consistent and Comparable. Economic Entity Assumption, Going Concern Assumption, Monetary Unit Assumption, and Periodic Reporting Assumption are the four basic assumptions for these financial statements.
GAAP exercises four basic principles to implement and achieve the objectives.
- Historical Cost Principle – Companies should consider the acquisition costs and not fair market value for their liabilities and assets.
- Revenue Recognition Principle – Accrual basis accounting is preferred
- Matching Principle - This principle allows greater evaluation of actual profitability and performance as the expenses are matched with the revenues.
- Principle of Full Disclosure - Information disclosed in the financial statement should be enough to make a judgment while keeping the costs reasonable.
Organizations behind GAAP
- United States Securities and Exchange Commission (SEC) – During the Great Depression, the SEC was created as need of structure setting accounting standards. The SEC works closely with various private organizations setting GAAP, believing that the private sector had the proper knowledge, resources, and talents, but does not set GAAP itself.
- American Institute of Certified Public Accountants (AICPA) - SEC urged the AICPA and in 1939, Committee on Accounting Procedure (CAP) has come into existence. However, it could not address the growing need for structured body of accounting principles. So, 1959, the AICPA created the Accounting Principles Board (APB), which also got dissolved in 1973 for lack of productivity and failure to act promptly. So, again the AICPA created FASB.
- Financial Accounting Standards Board (FASB) - Realizing the need to reform the APB, a new structure is composed of three organizations: the Financial Accounting Foundation (FAF), the Financial Accounting Standards Advisory Council (FASAC), and the major operating organization in this structure the Financial Accounting Standards Board (FASB).
- Governmental Accounting Standards Board (GASB) – With structure similar to that of the FASB, GASB was created in 1984 to the addresses state and local government reporting issues.