Coupon Accepted Successfully!


Accounting conventions

Accounting conventions emerge out of accounting practices adopted by various entities over a period of time. These conventions are derived by usage and practice and do not have universal application.

The following are the important accounting conventions:

  • Convention of conservatism: The convention of conservatism means that the convention of caution, or the policy of playing safe. The principle of “provide for all expected losses but never for anticipated profits” applies here. This is also known as prudence principle i.e., judgment about the possible future losses which are to be guarded. This principle requires that in the situation of uncertainty and doubt, the business transactions should be recorded in such a manner that the profits and assets are not overstated and the losses and liabilities are not understated.

    The following are a few examples:
  • Closing stock is valued at cost price or Net realisable value, whichever is lower
  • Provision for doubtful debt is created in anticipation of bad debts
  • Joint life insurance policy is shown only at surrender value as against the amount paid
  • Provision for pending law suit against the firm, which may either be decided in its favour.

Note: Principle of Conservatism should be used very cautiously as it may disclose the lower profits in comparison to the actual profits. Balance sheet will disclose understatement of assets and overstatement of liabilities in comparison to actual values. 

  • Convention of consistency: According to this principle, the accounting policies adopted by the enterprise should be followed consistently from one period to another. For example, if the firm uses straight line method for calculating depreciation in year 1 it should go on charging depreciation with the same method every year. A change in an accounting policy should only be made in certain exceptional circumstances and the same has to be disclosed in the notes.

    The policy of consistency will facilitate the comparison of financial statements or the trading results of the business with those of previous years which will help a lot in making business decisions.
  • Convention of materiality: According to the convention of materiality, all relevant items, the knowledge of which might influence the decision of the users of the financial statements, should be disclosed in the financial statement. The materiality principle requires that the items or events having an insignificant economic effect or not being relevant to the users need not be disclosed.

    According to American Accounting Association (AAA) “An item should be regarded as material if there is reason to believe that knowledge of it would influence decision of informed investor”. What constitutes materiality will vary from situation to situation; it is a matter of judgment. For instance, the cost of a small tool may be material for a small repair work shop but the same figure may be immaterial for big manufacturing industries. Thus, the accountant should judge the importance of each transaction to determine its materiality.
  • Convention of full disclosure: According to this principle, the financial statements should disclose all reliable and relevant information which are necessary for the users. The disclosure should be full and adequate so that the users of the financial statements can make correct assessment about the financial performance and position of the enterprise.

Note: Various items of facts which do not find place in accounting statements are shown in balance sheet by way of Footnote and it includes a note for contingent liability, change in method of valuation of closing stock, change in method of depreciation etc.



  • Convention of materiality is exception to principle of full disclosure, As per materiality only relevant items which influences users decisions has to be disclosed, whereas principle of full disclosure requires disclosure all disclose of all information
  • Convention of conservatism is exception of convention of consistency For example, as per principle of conservatism; stock should be valued at cost or market price whichever is lower. This principle may lead to change in accounting policy year by year.
  • Going concern, Consistency and Accrual concepts are the fundamental concepts and these are followed in the preparation of financial statements. If any of these assumptions are not followed, then this fact should be specifically disclosed.

Test Your Skills Now!
Take a Quiz now
Reviewer Name