Accountancy is the system which gives the financial details of a business or an organization. For every business, to understand its revenues and expenses and a detailed account of its various transactions, accounting becomes necessary. It is an important basic accounting concepts and principles. Let us look into the concept of accounting entity in detail.
An organization is owned by the shareholders and the Board of Directors manage the organization for these shareholders. Managers and other employees are hired to work for the organization and to achieve the goals of the organization. This organization, however, has a separate legal entity or identity of its own. This organization or a subdivision of this organization is engaged in economic activities and has assets and liabilities of its own, in its own name. These assets of the organization are separate from those who own the organization (shareholders), who run the organization (Board of Directors) and who work for the organization (managers and employees). This separation of assets, liabilities and economic activities give a separate identity to the organization. This gives the organization its accounting entity. All the dealings of the organization are separate from those of the owners and management. Thus, for the purpose of accounting, establishing an accounting entity is important.
According to the Business Dictionary, "an accounting entity is a clearly defined economic unit which engages in identifiable economic activities, controls economic resources and is distinct from the personal dealings of its owners or employees." It further states that the boundaries of the unit should not be changed, once they are established so that the accounting equation is not disturbed. One of the various accounting principles and concepts, it separates the financial transactions of the owners from those of the business.
According to US GAAP (Generally Accepted Accounting Principles), the business or the organization has its own distinct identity and is separate from the owners and other businesses. An accounting entity is established so that the organization's transactions are recorded separately by the accountant. Even if the shareholders are the owners of the business and the management looks after the business, their personal expenses are different from those of the organization. The business transactions are recorded as an entirely separate unit. This separation of the expenses is a part of the accounting ethics and is also necessary for smooth functioning of the organization. The accounting entity assumption is that the income and expenses of the organization should be kept separate from the personal expenses because the business conducts its own financial dealings and prepares financial statements to record the same.
In simple words, accounting entity separates one business unit from another and also separates the business and the organization from the owners. The accounting entity principle states that even when the business is owned by a sole proprietor, his/her personal dealings and transactions have to be kept separately from those of the business. The accounting entity or legal entity gives a separate legal identity to the business. This identity enables the business to sue or get sued in its own name. The accounting entity enables the accountants to determine the financial condition of the business.
To put accounting entity in a nutshell, creating a separate identity for the business from ownership and management for the purpose of accounting is accounting entity. I hope this article was helpful for you.
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