Principle of Prudence- Understatedness in Accounting

By Nicholas Barone
Published: 11/24/21
definition backgroundPrinciple of Prudence- Understatedness in Accounting

We’ve all heard of or know people or companies that flaunt their wealth, pretty annoying, right? For companies that might come from executives or talking heads looking to boost the brand’s image, but accountants are a different story. Keep reading to find out how and learn about the principle of prudence.

Definition

As we said before, accountants aren’t like other departments or employees of a company. What they report and say should be measured and backed up. That’s where the principle of prudence comes into play, the principle of prudence says that accountants are expected to be conservative with their reporting of things like total assets and predicting future gains and losses. Instead of overestimating those indicators, they underestimate them, leading the business to, in turn, make conservative financial decisions.

Principle of prudence is one of the ten GAAPs, Generally Accepted Accounting Principles, meaning that they’re the base of how any accountant works and functions. They allow all accountants to have a common framework so they all understand each other. Without them everybody would have their own way of doing things, and nobody would understand each other.

It should be said that GAAP is only for the US, but the principle of prudence is pretty universal. Other countries have different accepted principles like the IFRS, International Financial Reporting Standards.

Excessiveness in Accounting

Let’s say the accountant were to overestimate the assets that a company has, and then the executives of that company overextend themselves, leading to major losses or some other catastrophic event. This is exactly what the principle of prudence aims to prevent.

Think of it like this, when you underestimate something, you always have room to grow and go above targets or objectives set. However, if you’re overshooting and not realistically stating your assets or future gains or losses, you can only be disappointed.

Principle of Prudence- Staying

Like the other GAAPs, the principle of prudence is there to provide accountants with a solid base and philosophy on which to base their work. As we’ve said before, without it accountants in the US wouldn’t be able to understand each other’s numbers, people wouldn’t know which numbers are right and which aren’t.

Transparency is an essential value for Appvizer. As a media, we strive to provide readers with useful quality content while allowing Appvizer to earn revenue from this content. Thus, we invite you to discover our compensation system.   Learn more
Definition backgroundHow to control over fixed assets? [Guide and tips]
Definition
2 days ago
How to control over fixed assets? [Guide and tips]
Good control over fixed assets can significantly improve the profitability of the business. Discover what control over fixed assets is, their importance, key internal risks, and how to control it in this article.
Definition backgroundDebit Note Definition- Why You Should Care
Definition
3 days ago
Debit Note Definition- Why You Should Care
Debit notes are an important part of any business that deals with transactions. Therefore, it's even more important to have a good grasp on them. Click here to find out more about them!
Definition backgroundInternal vs External Audit- Difference and Specificities
Definition
12 days ago
Internal vs External Audit- Differences and Specificities
Is something wrong in your business, but you're not quite sure what it is? Looking to do an audit, but you're not sure which one to do? Read our article on the differences between internal and external audits to find out.
Definition backgroundBookkeeping Tasks to Run Your Small Business
Definition
12 days ago
Bookkeeping Tasks to Run Your Small Business
Is your business a bit disorganized? Do you sometimes miss pay dates? Better organize your business by applying a couple of these basic bookkeeping tasks.
Definition backgroundTypes of Inventory in Accounting and How They Work
Definition
12 days ago
Types of Inventory in Accounting and How They Work
Inventory can be seem like a daunting task, knowing the difference between the types of inventory can be valuable for any business that has stock. Find out what they are and how they can help your business.
Definition backgroundWork in Progress Inventory- Manage the Middle
Definition
12 days ago
Work in Progress Inventory - Manage the Middle
Do you deal with a lot of inventory? Does it some times feel a bit too overwhelming? Well we've got you covered, this article covers one of the most important inventory phases, Work in Progress, click here!
Definition backgroundESG reporting framework: Best guide for a sustainable investing
Definition
last month
ESG reporting framework: Best guide for a sustainable investing
The ESG reporting framework has an impact on a growing number of investors wishing to make safer and more profitable investments. Discover what is an ESG reporting framework, why is it important, how to choose your ESG reporting framework. And especially, what are the best ESG reporting frameworks?