The cost principle requires that when assets are acquired, they be recorded at: A appraisal value B. historical cost C. market price D. exchange price paid
The historical cost method is used for fixed assets in the United States under generally accepted accounting principles (GAAP). In accordance with the accounting principle of conservatism, Assets recorded at historical cost must be adjusted to account for the wear and tear through their usage.. For fixed and long-term assets, a depreciation expense is used to reduce the value of the assets The Historical Cost Principle Requires That When Assets Are Acquired over their useful life. In the case where the value of an asset has been impaired, such as when a piece of machinery becomes obsolete, an impairment charge MUST be taken to bring the recorded value of the asset to its net realizable value. The historical cost principle is important because it allows businesses to track the value of their assets over time, even if that value changes.
Which principle requires that assets should be recorded at original or acquisition cost?
The cost principle requires one to initially record an asset, liability, or equity investment at its original acquisition cost. The principle is widely used to record transactions, partially because it is easiest to use the original purchase price as objective and verifiable evidence of value.
The historical cost principle has been a fundamental accounting principle for decades. Still, it has been criticized for its limitations in reflecting the true economic value of assets and liabilities. As a result, several alternatives to the historical cost principle have been developed to provide a more accurate picture of a company’s financial position. The historical cost principle requires companies to value their inventory at the original purchase price. However, in some cases, companies may choose to use specific identification to value their inventory.
Facilitates the preparation of financial statements – Advantages of Historical Cost Principle
The historical cost principle has been used for centuries and can be traced back to the earliest accounting practices. An asset’s market value can be used to predict future cash flow from potential sales. A common example of mark-to-market assets includes marketable securities held for trading purposes. As the market swings, securities are marked upward or downward to reflect their true value under a given market condition. This allows for a more accurate representation of what the company would receive if the assets were sold immediately, and it is useful for highly liquid assets. Like all accounting principles, historical cost has its place on the balance sheet and is useful to the finance team when used properly.
Specific identification involves identifying and valuing each item of inventory separately. This valuation method can be used when the inventory consists of unique or high-value items, such as art or jewelry. For https://kelleysbookkeeping.com/what-is-fixed-asset-management/ example, suppose a company holds inventory that has significantly increased in value since it was purchased. In that case, the value of the stock on the balance sheet will not reflect its current market value.
Provides a clear audit trail for financial transactions – Advantages of Historical Cost Principle
However, if the product cost decreases to $8 each, the inventory may be written down to a lower cost of $8,000. The cost principle means that a long-term asset purchased for the cash amount of $50,000 will be recorded at $50,000. If the same asset was purchased for a down payment of $20,000 and a formal promise to pay $30,000 within a reasonable period of time and with a reasonable interest rate, the asset will also be recorded at $50,000. The Historical Cost Principle requires the carrying value of assets on the balance sheet to be equal to the value on the date of acquisition – i.e. the original price paid.
