Business Entity Concept Homework Answers
Business Entity concept implies that the buying, selling or any other transactions ancillary to the business must be captured in the books of accounts, separately from that of the proprietor’s personal transactions. It emphasizes on the fact that a business is distinct from its owner and that it is a separate entity.
No matter what the nature of business is and what the category of entity it is, it has its own set of transactions and events. As a matter of fact, even the business and the owner can have transactions among themselves although ultimately it is the owner who is running and controlling the business. In case you have doubts in regards to understanding basic concepts of this subject, you can get to the core by checking out manuals as business entity concept homework answers.
The entity incurs its own liabilities and owns its own assets. The amount or sum contributed by the owner is the capital of the business. By virtue of this particular concept, the owner is a long term creditor to the business.
When the firm is wound off the capital is expected to be returned to the owner. Business Entity is a principle which is largely followed in the field of accountancy. The accounting entries are made keeping in view of the fact that owner is different from business.
Reasons behind business entity concept homework answers
If the transactions of the business and the owners or owner are intertwined and not treated separately a number of chaotic circumstances could develop. It would be virtually impossible to manage the business.
Following are few of the reasons why this concept is followed in accounting:-
- Without such a distinction in treatment, it would be very difficult to ascertain the correct profit earned by the business.
- If the accountants do not stick to the business entity concept, the assets might be over or understated giving a false impression regarding the financial condition of the business.
- In such a scenario even the liabilities could be over or understated, and the proprietor’s personal liabilities would reflect on the balance sheet which might imply an improper solvency position.
- The users of financial statements who are only interested in the firm will be rendered confused if owner’s personal dealings are mixed up in books of accounts.
- Sometimes the business might suffer great losses even if the owner’s financial condition is quite stable. If the transactions are mingled up, people would not be able to identify that the business is running in losses.
- In case of purposes of income tax, the owner can try to evade corporate taxes by setting off his personal losses with the abundant profits of the business thereby portraying an untrue picture of the circumstances.
- When the business is liquidated it is easy to know how much is payable to the owners and how much to external creditors and financial institutions.
- If the concept is not adhered to, it is really difficult for the auditor to audit accounts of the firm.
Business Entity Concept and Notional Rent
While solving business entity concept homework answers, students may across the term notional rent. Sometimes the owner carries on the business activity in his personally owned premises. It could be a showroom, warehouse or a factory and even office rooms. In that case, the business actually does not have to pay any rent to the owner as it would have been the situation if the owner did not own that particular house property.
Despite the fact that no actual rent is paid to the proprietor, a notional rent is charged to the profit of the business and credited to the account of the owner. This is an ideal example where the business entity principle is followed.
The notional rent is a notional income of the proprietor, and it is he who will be paying the taxes on such income and not the business. The profit is also correctly reflected. This notional rent is an expense for the business and a source of income for the person running the business and providing the premises.
Examples of implication of concept
Business Entity Concept is not only a theoretical term or concept. In the practical life scenario business organizations abide by this principle while calculating income expenditure profit or loss of the business.
Having some idea about actual examples would bring ease while taking up business entity concept homework answers.
Few instances where this notion is applicable are:-
- Rob constructs a building having 3 identical floors which are rented out at $700 per room. Suppose he uses two of such rooms for carrying on a merchandise business. In this situation the expense of the business will be restricted only to the rent of 2 rooms it is occupying.
- A sole proprietor loan out $20,000 to his self-run business. This has to be mandatorily considered as a liability of the business and the asset of the owner.
- Say a Mr. Tom pays the income tax on his own business from his personal bank account. In such a case, it is considered as fresh capital contributed by the owner of the business.
- Similarly, if his own life insurance premium is paid from the bank account in the name of his business, it is deemed to be the owner’s drawing or withdrawal of capital from the business.
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