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Answer the following:

1.) How can the use of estimates be abused by accountants? What are its effects on the financial statements?
2.) Why should an accountant follow the treatment of a transaction based on its substance and not its legal form?
3.) Why is there a need for accountants to use assumptions?
4.) Explain the going concern assumption of accounting. When does an entity abandon going concern assumption?
5.) Why is there a need for an accounting entity assumption?
6.) What is the main purpose of the time period assumption? Who benefits from the time period assumption?

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Answer:

1.) A number of recommendations are made to limit the risk that accounting estimates could be used for creative accounting purposes. The negative effect of the use of accounting estimates in financial statements is a loss of reliability.

2.) Substance over form is an accounting principle used "to ensure that financial statements give a complete, relevant, and accurate picture of transactions and events". In accounting for business transactions and other events, the measurement and reporting is for the economic impact of an event, instead of its legal form.

3.) Perhaps the most common use of assumptions is in the accounting function, which uses assumptions to facilitate financial measurement, forecasting, and reporting. This assumption holds that the entity will not cease operations or liquidate its assets during the accounting period. The time-period assumption.

4.) The going concern principle is the assumption that an entity will remain in business for the foreseeable future. Conversely, this means the entity will not be forced to halt operations and liquidate its assets in the near term at what may be very low fire-sale prices.

5.) The separation of accounting entities is important because it helps with proper tax accounting and financial reporting.

6.) Companies use the time period assumption in accounting to divide its operating activities into informal time periods so it can produce financial reporting. This financial reporting produces timely information that helps users make decisions.

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