UNIT 1.01 STUDY GUIDE
In a routine financial day, accountants are required to make judgments regarding the way
to record business financial transactions. The financial goals of the company for which
they work often direct their decisions. There is a framework of standard rules known as
generally accepted accounting principles (GAAP) to guide their judgments.
I.
Generally Accepted Accounting Principles (GAAP)
A. Organizations that develop/format GAAP
B. Primary qualities of GAAP
C. Secondary qualities of GAAP
II.
Essential Accounting Constraints, Concepts, Assumptions, and Principles for GAAP (13)
A. Constraints
1. Cost effectiveness constraint
2. Materiality constraint
3. Conservatism constraint
B. Concepts
1. Recognition concept
2. Measurement concept
C. Assumptions
1. Economic entity assumption
2. Going concern assumption
3. Monetary unit assumption
4. Time period assumption
D. Principles
1. Cost principle
2. Full disclosure principle
3. Revenue recognition principle
4. Matching principle
III. Required Financial Statements for GAAP
IV. ISRF and its Effect on GAAP
I.
Generally Accepted Accounting Principles (GAAP) is defined as the set of
accepted industry rules, practices, and guidelines for financial accounting. GAAP
includes the standards, conventions, and rules accountants follow in recording and
summarizing transactions and in the preparation of financial statements.
A. Governing organizations behind Generally Accepted Accounting Principles
1. American Institute of Certified Public Accountants (AICPA)
2. The Financial Accounting Standards Board (FASB)
3. The Securities and Exchange Commission (SEC)
a. Two laws, the Securities Act of 1933 and the Securities Exchange
Act of 1934, give the SEC authority to establish reporting and
disclosure requirements.
b. Holds primary responsibility for:
(1) Enforcing federal securities laws
(2) Regulating the securities industry
(3) Regulating the stock market
(4) Preventing corporate abuse of investors
c. Given enforcement authority by Congress to:
(1) Bring civil enforcement actions against individuals and
companies who:
(a) Commit accounting fraud
(b) Provide false information
(c) Engage in insider trading
(d) Violate securities laws
(2) Bring criminal enforcement actions against individuals and
companies for criminal offenses.
4. The SEC usually operates in an oversight capacity, allowing the FASB
and the Governmental Accounting Standards Board (GASB) to establish
these requirements.
B. Primary qualities that make accounting information useful for decision
making
1. Relevance – The information is capable of making a difference in a
decision. Information should have predictive or feedback value, and it must
be presented on a timely basis.
2. Reliability - Information must be verifiable, a faithful representation, and
reasonably free of error and bias (neutral).
C. Secondary qualities that make accounting information useful for decision
making
1. Comparability - Information has been measured and reported in a similar
manner for different enterprises.
2. Consistency - Information is created and reported using the same
accounting treatment to similar events from period to period.
II.
There are thirteen basic accounting constraints, concepts, assumptions, and
principles that GAAP is founded upon.
A. Constraints:
1. Cost Effectiveness Constraint: The cost of providing accounting
information should not exceed the benefit of the information it is
reporting.
2. Materiality Constraint: The requirements of any accounting principle
may be ignored when there is no effect on the decisions of users of
financial information (immaterial).
3. Conservatism Constraint: Accountants must use their judgment to
record transactions that require estimation. This concept helps
accountants choose between 2 equally likely alternatives. Therefore,
the less optimistic estimate will be chosen when two estimates are
judged to be equally likely.
B. Concepts:
1. Recognition Concept: An item should be recognized (recorded) in the
financial statements when:
a. It can be defined by GAAP assumptions and principles.
b. It can be measured.
c. It is relevant to decision making by users.
d. It is reliable.
2. Measurement Concept
a. Every transaction is measured by the stated unit of measurement,
such as the dollar
b. The stated procedure of valuing assets, liabilities, equity, revenue
and expenses as defined by GAAP
C. Assumptions:
1. Economic Business Entity Assumption: All of the business
transactions are separate from the business owner’s personal
transactions.
2. Going Concern Assumption: Financial statements are prepared
under the assumption that the company will remain in business
indefinitely unless there is sufficient evidence otherwise.
3. Monetary Unit Assumption: The accountant assumes a stable currency
is going to be the unit of record. The FASB accepts the nominal value of
the U.S. dollar unadjusted for inflation as the monetary unit of record.
4. Time Period Assumption: The entity's activities are separated into
periods of time, i.e.: months, quarters or years.
D. Principles:
1. Cost Principle: Assets are recorded at historical cost, which equals
the value exchanged at the time of their acquisition, not at Fair Market
Value.
2. Full Disclosure Principle: All information pertaining to the operations
and financial position of the entity must be reported within the period of
time in question.
3. Revenue Recognition Principle: Revenue is earned and recognized
upon product delivery or service completion, without regard to the
timing of cash flow. This is also called accrual basis accounting.
4. Matching Principle: The costs of doing business are recorded in the
same period as the revenue they help to generate.
III. Statements Required by GAAP
A. Balance Sheet: shows information about the organization’s resources at one
given time.
1. Shows Assets, Liabilities, and Equity
2. Details about cash including cash in the bank, amount owed to creditors,
and the value of the company’s assets.
B. Income Statement: Shows the flow of revenues over a given period of time,
typically a month, quarter, or year.
1. Shows revenue and expenses
2. Shows profit or loss of a company
C. Statement of Cash Flow: shows the movement of cash in and out of the
business over a specified period.
1. Details cash flows from operating activities, investing activities, and
financing activities
2. Shows how changes in the balance sheet and income statement affect
cash and cash equivalents
D. Statement of Stockholders Equity: shows the changes in the company’s
equity throughout the reporting period.
1. Reports profit or loss from the company
2. Reports dividends paid
3. Reports other items that are debited/credited to retained earnings
IV. International Financial Reporting Standards (IFRS)
A. Principles-based standards, interpretations, and the framework adopted
by the International Accounting Standards Board (IASB)
B. Due to numerous companies operating globally, standards that are applicable
to all countries need to be developed.
C. Framework of IFRS
1. States the basic principles of IFRS
2. Currently being updated and converged with the IASB and FASB
3. The objective is to create a sound foundation for future accounting
standards.
D. US GAAP becoming IFRS
1. In February 2010, the SEC voted unanimously to publish a statement to
reaffirm its longstanding commitment to the goal of a single set of highquality global accounting standards. Additionally, the SEC expressed its
continued support for the convergence of US GAAP and IFRS.
2. Beginning in October 2010, the SEC will begin to work on a plan to
combine GAAP and IFRS.
3. U.S. companies may move to IFRS in approximately 2015 or 2016
UNIT 1.02 STUDY GUIDE
I.
The AICPA Code of Professional Conduct
A. Principles – provide ideal standards of professional conduct; not enforceable
against AICPA members
B. Ethical Principles
1. Responsibilities – exercise sensitive and professional moral judgments
2. Public Interest – serve the public interest, honor public trust, and
demonstrate commitment to the profession
3. Integrity – perform professional responsibilities with the highest sense of
integrity
4. Objectivity and Independence – be independent in fact and appearance in
providing auditing or other attestation services
5. Due Care – observe technical and ethical standards, improve competence,
and perform to the best of your ability
6. Scope and Nature of Services – follow Code of Professional Conduct in
determining scope and nature of services
C. Rules – represent minimum standards of ethical conduct; enforceable against
AICPA members
D. Interpretations of Rules of Conduct
1. Published by AICPA’s Division of Professional Ethics
2. Used when practitioners have frequent questions
3. May be used by a practitioner to justify a departure
E. Ethical Rulings
1. Published explanations and answers to questions about rules of conduct
2. Submitted to the AICPA by practitioners and others interested in ethical
requirements
II.
Specific Rules of Conduct
A. Independence – a member in public practice shall be independent in the
performance of professional services as required by the standards
1. Financial interest in client
2. Immediate family
3. Former practitioners
4. Normal lending procedures
5. Joint relationship with client investor
6. Joint relationship with client investee
7. Director, officer, manager, or employee
8. Litigation between CPA firm and client
9. Bookkeeping services
10. Consulting and other nonaudit services
11. Unpaid fees
B. Integrity and Objectivity – member shall be free of conflicts of interest, shall not
knowingly misrepresent facts or subordinate his or her judgment to others
C. General Standards – member shall comply with the following standards:
D.
E.
F.
G.
H.
1. Professional competence – undertake only those professional services that
can be completed with professional competence
2. Due professional care – exercise due professional care in the performance
of professional services
3. Planning and supervision – adequately plan and supervise the
performance of professional services
4. Sufficient relevant data – obtain sufficient, relevant data to provide a
reasonable basis for conclusions and recommendations
Compliance with Standards – must comply with the following standards:
1. Auditing Standards and PCAOB Standards
2. Statements on Accounting and Review Services
3. Statements on Standards for Attestation Engagements
4. Management Consulting Services Standards
Accounting Principles
1. GAAP is considered to be any statement proclaimed by an authoritative
body designated by the AICPA
2. CPAs must justify any departure from GAAP
3. Departure from GAAP is permitted IF following GAAP would make
statements misleading
Confidential Client Information – may not disclose any confidential client
information without the specific consent of the client. Exceptions are:
1. Subpoenas or summons enforceable by a court order
2. Review of papers related to an ethics division inquiry
3. Review of papers related to a peer review
4. Obligations related to technical standards
Contingent Fees
1. Fees to be determined upon a particular result
2. CPAs are forbidden to accept contingent fees for attestation services and
tax return preparation
Acts Discreditable
1. Retaining client records after they have been requested
2. Discrimination or harassment in employment practices
3. Noncompliance with standards
4. Negligence in the preparation of financial statements or reports
5. Solicitation or disclosure of CPA exam questions and answers
6. Failure to file a tax return or pay tax liability
Advertising and other forms of solicitation – false, misleading, or deceptive
advertising is prohibited. Examples of unacceptable advertising are:
1. Creates false or unjustified expectation of favorable results
2. Implies the ability to influence any court or similar body or official
3. Client is unaware that there is a likely chance that a stated fee will be
substantially increased
4. Other representations that are likely to cause a reasonable person to
misunderstand or be deceived.
J. Commissions and Referral Fees – compensation paid for recommending a
third party’s product or service to a client or recommending a client’s product
or service to a third party. Prohibited if the firm also performs:
1. Audit or review of financial statement for the client
2. Compilation of financials in which lack of independence is not disclosed
and the financials may be used by a third party
3. Examination of prospective financial information
K. Form of Organization and Name
1. Member may practice public accounting only in a form of organization
permitted by state law
2. CPA shall not practice public accounting under a firm name that is
misleading
3. Ownership of CPA firms by non-CPAs is allowed under certain conditions
4. Firm may not designate itself as a member of the AICPA unless all CPA
owners are members of the AICPA
I.
III. Enforcement of Policies – principally involves the following groups:
A. State Boards of Accountancy – can revoke CPA certificate of license to
practice
B. AICPA Joint Trial Board – can suspend or expel members from the AICPA;
less serious and unintentional violations will normally require only corrective
and remedial action
UNPACKED CONTENT
I.
Ethical Principles in the AICPA Code of Professional Conduct
A. Responsibilities
B. Public Interest
C. Integrity
D. Objectivity and Independence
E. Due Care
F. Scope and Nature of Services
II.
Specific Rules of Conduct
A. Independence
B. Integrity and Objectivity
C. General Standards
D.
E.
F.
G.
H.
I.
J.
K.
Compliance with Standards
Accounting Principles
Confidential Client Information
Contingent Fees
Acts Discreditable
Advertising and Other Forms of Solicitation
Commissions and Referral Fees
Form of Organization and Name