Functions & Systems of Accounting

What are the various functions of Accounting?

Various Functions of Accounting are:

1. Recording: Accounting records business transactions in terms of money. It is essentially concerned with ensuring that all business transactions of financial nature are properly recorded. Recording is done in journal, which is further subdivided into subsidiary books from the point of view of convenience.
2. Classifying: Accounting also facilitates classification of all business transactions recorded in journal. Items of similar nature are classified under appropriate heads. The work of classification is done in a book called the ledger.
3. Summarizing: Accounting summarizes the classified information. It is done in a manner, which is useful to the internal and external users. Internal users interested in these informations are the persons who manage the business. External users of information are the investors, creditors, tax authorities, labor unions, trade associations, shareholders, etc.
4. Interpreting: It implies analyzing and interpreting the financial data embodied in final accounts. Interpretation of the data helps the management, outsiders and shareholders in decision making.

Explain the different systems of accounting.

The following are the basic systems of recording business transactions:

1. Cash Basis Accounting: According to this system, only actual cash receipts and payments are recorded in the books. The credit transactions are not recorded at all, till actual cash is received or paid. Thus, if purchases are made in the year 2002 on credit and payment for purchases is made in the year 2003, such purchases shall be considered to be an expense of the year 2003 and shall not be recorded in the year 2002. This system of accounting is mostly followed by non-trading organizations, professionals like lawyers, doctors, chartered accountants, etc.
2. Mercantile or Accrual System: According to this system, all the business transactions pertaining to the specific period, whether of cash or credit nature, are recorded in the books. This system of accounting is based on accrual concept, which states that revenue is recognized when it is earned and expense is recognized when obligation of payment arises. Actual movement of cash is irrelevant. Mercantile system of accounting is widely followed by the industrial and commercial undertakings because it takes into account the effects of all transactions already entered into.
3. Mixed System: Mixed system is modified form of pure-cash-basis accounting. Because of the fact that pure cash basis would result in balance sheet and income statement with limited use, it necessitates the need of mixed accounting in which some items (especially sales and period costs are treated on cash basis and some items (especially product costs and long-lived assets) are treated on accrual basis.

Pure cash basis approach would change the cost of acquisition of inventories from the profit of that year in which the acquisition costs are paid rather than in the year in which inventories are sold. Similarly cost of acquisition of fixed assets would reduce the profits when paid in cash rather than in later periods when these long-lived items are used, thus misleading the results of financial operation.