Golden Rules of Accounting

Accounting is the heart of the business and its principles are very important for the organisation’s well-being. In the soul of accounting lies the “Golden Rule of Accounting”.

In this blog, we will discuss what are golden rules, their types, benefits, fundamentals and much more.

What are the Golden Rules of Accounting?

The set of principles that governs how bookkeeping in a company is to be done from an accounting perspective is known as the ‘Golden Rule of Accounting’.

These rules are the foundation of the double-entry bookkeeping system. A double-entry bookkeeping system is to know what to debit and what to credit.

These rules help to determine the types which accounts to debit and which to credit. To simplify the complex rule of accounting bookkeeping there are three principles or accounts of golden rules. Let’s learn more about these principles in detail.

Types of accounts

1. Nominal account

The nominal account is a general ledger account where all the records are kept related to income, expense, profit and loss. This information is maintained for one fiscal year and with every new year a new account is maintained. These accounts play a very important role in accurately reflecting the company’s yearly performance and maintaining financial records.

The golden rule for the nominal account is to debit all the expenses and losses and credit all the income and gains.

Examples of nominal accounts are: Salary accounts, sales accounts, commission-received accounts, etc

2. Personal account

Personal account deals with individuals or entities. The golden rule here is to ‘debit the receiver, and credit the giver’.

Personal accounts are categorised into:

1. Artificial Person: This type of account is for things that are artificial and not real like hospitals, banks, partnerships etc.
2. Natural Personal Account: This account is for real living people such as debtors, creditors, drawing accounts etc.
3. Representative Personal Account: This account is a mix of both an artificial account and a personal account. It keeps track of transactions that belong to either the past or the future.

3. Real account

The real account contains the transactions related to the liability and assets of the company.  The golden rule here is ‘debit what comes in, credit what goes out’.

Unlike a nominal account, a real account does not close when a financial year ends, it carries forward to another year. It also appears in the company’s balance sheet.

Examples of real accounts are machinery, land and buildings, furniture etc.

Benefits of the Golden Rules of Accounting

The following are the benefits of the golden rule:

• Proper maintenance of business records is important for storing data securely and systematically.
• Year-over-year analysis and data comparison becomes easy with the golden rule.
• Sound accounting practice gives a solid foundation for budgeting and making more accurate future projections.
• It also helps to avoid tax-related issues and penalties, saving the company’s reputation.
• It also ensures business integrity as all the compliances are done on time due to disciplined accounting practices.
• During the time of litigation, a well-kept financial record serves as valuable evidence.

Who is Mandated to Follow the Books of Accounts under the Income-tax legislation?

As per section 44AA of the Income-tax Act, 1961, an assessee is required to maintain the books of accounts if their income or gross turnover exceeds a specified limit in a financial year.

Following are the assessees that are required to maintain the books of accounts:

1. Specified professions
2. Non-specified professions
3. Businesses eligible for presumptive taxation scheme under sections 44AD, 44AE, 44BB or 44BBB and
4. Other business.

Fundamental of the Golden Rules of Accounting

• Futuristic Approach

The rules are designed to provide a clear picture of a company’s financial health. The forward-looking approach helps in making informed decisions and long-term sustainability.

• Monetary Approach

These rules deal with monetary transactions. Even if money is not involved then also it records it as it did. It helps to keep the financial statement clear and consistent.

• Pricing Approach

In accounting we record the transaction based on what things originally cost, to avoid making assets and debt look more or less valuable than they are, ensuring honest and accurate financial statements.

• Conservatism Approach

Accountants are encouraged to be a little cautious when guessing values, especially for assets and income. This ensures that financial statements don’t paint too rosy a picture and give a realistic view of a company’s financial health.

Frequently Asked Questions (FAQs)