The limitations of accounting refer to the limitations in the provision of financial information. Financial statements are subject to generally accepted accounting principles, or GAAP. The constraints of accounting allow for certain changes from the basic accounting principles in the reporting of a company’s financial information. Such variations are not considered GAAP violations because of the accredited constraints of the accountant.
Both price and benefits
A major limitation of accounting is the cost of providing financial information. Financial statements are not free because companies must devote time and money to collecting, processing, analyzing, and disseminating relevant information. When deciding what to include in the financial statements, companies must weigh the cost of providing specific information versus the benefits that can be obtained from the use of that information. As a result, companies may not require specific accounting measurements or disclosures if the cost of implementing them exceeds the accumulated benefit to the user of the information.
While the cost-benefit constraint of accountants may limit the scope of financial information provided in an effort to control reporting costs, the key constraint allows companies to ignore certain information that is unimportive and will have no impact or impact on the user of the information. In other words, companies must include all information that has a material impact on their overall financial performance. Companies determine the importance of information based on its size and relative importance. When the amount involved is relatively small or the nature of the information in question is unimportant, companies may use constraints on criticalness to not reporting the information.
While costs- benefits and importance are two more important accounting constraints, industry practices are a less dominant limitation but also part of the reporting environment. Industry-specific practices in financial statements can cause companies in some industries to be far from basic accounting standards. For example, contrary to the record of the value of assets at the original price required by GAAP, agri-business companies can report the value of assets at market prices because it is difficult to estimate the original price. The constraints of industry practices allow companies to deviate from certain reporting standards that regulate certain financial information.
Similar to industry practices, conservatism is another less common accounting restriction but should be adhered to in financial statements when applicable. Caution means that when you have doubts about how to report an accounting problem, choose a method that is less likely to magnification of assets and income or lower your debts and losses. Sometimes companies may encounter difficult situations in which just following GAAP may not yield the best reporting results. For example, GAAP does not require a cumulative of losses on a potential future inventory purchase, but if a planned purchase is a firm commitment, then losses should be accrued now due to any future price increases.