Advantages And Disadvantages Of Historical Cost Accounting Pdf

advantages and disadvantages of historical cost accounting pdf

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For any Romanian specialist who is in a high stage regarding the perception and understanding of international accounting standards, it is quite easy to realize that at their basis are two important categories of principles: the principles of recognition and the principles of measurement. Recognition is the process of incorporating an accounting element in an entity's financial statements. This process is an indispensable process for the entity, but using the methods used within it, the entity may alter, "cosmetize" and artificially reinforce its financial ratios.

Historical cost accounting is a well-established method of accounting all over the world because it is able to meet the legal requirements for financial reporting. Historical cost accounting has been able to provide information about the financial position, performance and changes in financial position of an enterprise to a wide range of users, especially during periods of stable prices. However, accounting for price level changes has been a hot topic in the academic literature because of the deficiencies of the historical cost accounting approach. The figures for assets contained in the statement of financial position are based on cost at the time of acquisition. They are, thus, unlikely to show present day values because these figures cannot just be added together.

Historical cost

In accounting , an economic item's historical cost is the original nominal monetary value of that item. Consequently, the amounts reported for these balance sheet items often differ from their current economic or market values. While use of historical cost measurement is criticised for its lack of timely reporting of value changes, it remains in use in most accounting systems during periods of low and high inflation and deflation. Various adjustments to historical cost are used, many of which require the use of management judgment and may be difficult to verify. The trend in most accounting standards is towards more timely reflection of the fair or market value of some assets and liabilities, although the historical cost principle remains in use. Many accounting standards require disclosure of current values for certain assets and liabilities in the footnotes to the financial statements instead of reporting them on the balance sheet.

Post a Comment. Financial statements prepared under historical accounting system suffer from a number of limitations, which are as follows: 1. No Consideration Of Price Level Changes Financial statements prepared under historical cost accounting are merely statement of historical facts. Changes in the value of money as a result of changes in general level of price are not taken into account. Hence, they fail to give true and fair picture of the state of affairs of the organization. Unrealistic Fixed Assets Values In historical cost accounting, fixed assets are recorded and presented at the price at which they are acquired.

The Disadvantages of Historical Cost Accounting

Following are some limitations of historical cost accounting :. The accounts presented on the basis of historical concept do not show many effects which are due to the inflation gap. Thus, the true and fair view is not shown. Sometimes due to inflation, some items in financial statements show higher value, it never means that the enterprise is making progress. This addition of sales is due to inflation and not increase in sales due to efficiency. When these sales are converted on the common index number then the result will be the sales are some as these were before.

The purpose of the study is to identify the scope of application of historical cost and fair value accounting. Historical cost is the purchase price of an asset acquired by a company. Fair value accounting is based on the current market situation as of the current date. Each type of valuation can be conditionally defined as subjective. However, either historical cost or fair value can be used to form the reporting indicators necessary for key users and stakeholders. The study is based on the analysis of fundamental accounting assumptions static and dynamic balance-sheet , research papers on accounting, and the legislation of the Russian Federation governing the business activities of legal entities. The study resulted in a logical basis for the use of both fair value and historical cost in producing reporting data, as well as in finding solutions to the problem of their combined use in a single statement.

Historical cost accounting has been a controversial method that experienced many criticisms over a period of time, especially since it considers the acquisition cost of an asset and does not recognize the current market value. Merits and demerits of this method are as follows. The most obvious advantage of HC accounting is objectivity. It is a predominantly objective system, which records the original cost of an item when it was purchased. Secondly, being compared with most other methods, historical cost is an easier and cheaper way of valuation. In respect that the original cost is one that already existed and could not be amended, which is easy to determine and can be verified.


Depreciation is charged on original cost of the fixed assets in historical cost accounting concept, it is not charged at the price at which the same.


Limitations of Historical Cost Accounting

Accounting Principle. The concept of historical cost principle is that the assets are recorded base on the price at the time they are purchased. And the liabilities are recorded based on the values that expected to pay at the original value rather than market value or inflation-adjusted value.

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Advantages and Disadvantages of Historical Cost Accounting

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