Definition
The financial accounting term Historical Cost Principle refers to a valuation technique used in the preparation of financial statements. The Historical Cost Principle states the value of an asset or liability is recorded on the balance sheet at its cost at the time of acquisition.
Explanation
Historical cost is a Generally Accepted Accounting Principle (GAAP) standard. As such, this standard suggests that assets and liabilities are recorded on the balance sheet at original cost, even if the value of the asset changes over time. This is sometimes referred to as the exchange price.
Advocates of historical cost believe this system is more objective, verifiable, and fact-based. If there hasn't been a change in value over time, the balance sheet would also reflect the asset's true worth. For these reasons, it's deemed by many as a reliable method for recording cost data.
The approach is often criticized for its accuracy, since the net value of an asset or liability can change over time. In addition, the Historical Cost Principle does not specify what elements should be included in the exchange price. For example, insurance, shipping expenses, assembly or installation can all be reasonably included in the cost of a capital asset.
While depreciation will lower the net value of an asset appearing on the balance sheet over time, there is no change to the historical cost. A contra asset account, accumulated depreciation, is used in the calculation of the asset's net value. In addition, there can be improvements to an asset, which increase its value.
It's important to point out that not all assets or liabilities appearing on the balance sheet are recorded at historical cost. For example, marketable securities are typically valued at the lower of cost or market until the investment is sold.
Related Terms
The Financial Accounting Standards Board, or FASB, is an independent, non-profit organization which establishes the financial accounting standards used by companies in the preparation of financial reports.
Moneyzine EditorJanuary 18th, 2024
The term Generally Accepted Accounting Principles, or GAAP, is used to describe a set of guidelines, accounting rules, techniques and frameworks utilized in the preparation of a company's financial statements.Moneyzine EditorJanuary 19th, 2024
Also known as a statement of financial position, the balance sheet is used to show the financial health of a company at a particular point in time. The balance sheet consists of assets, liabilities, and owner's equity in the company. It is one of the four key financial statements issued by public companies.Moneyzine EditorJanuary 8th, 2024
The accounting term used to describe an economic resource, which is owned by the corporation and expected to provide future benefits to its operation, is asset. Appearing on the balance sheet, assets are typically broken down into two categories:Moneyzine EditorJanuary 5th, 2024.png)
The financial accounting term liability is used to describe the debt of a corporation that results from a transaction involving the transfer of an asset or the provision of a service. Liabilities are reported on a company's balance sheet.Moneyzine EditorJanuary 23rd, 2024
A contra account is a balance sheet account that is used to offset a related asset, liability, or equity account. Contra accounts are used to ensure the proper valuation of these items is reflected on the balance sheet.Moneyzine EditorJanuary 12th, 2024
The financial accounting term depreciation is sometimes defined as a decline in tangible plant's service potential. Depreciation is a method of allocating the cost of a tangible asset in a systematic manner to those time periods that benefit from the use of the asset.Moneyzine EditorJanuary 16th, 2024- The financial accounting term Revenue Recognition Principle refers to a standard condition under which revenues are recorded in a company's financial statements. According to the Revenue Recognition Principle, revenue is recorded when it is realized or realizable and earned.Moneyzine EditorSeptember 21st, 2023
The financial accounting term Full Disclosure Principle refers to the practice of providing information of sufficient importance such that it would influence the decision making process of an individual reading a financial statement.Moneyzine EditorJanuary 18th, 2024- The financial accounting term prudent cost concept refers to a process that allows accountants to place a value on an asset that is different than historical cost. The prudent cost concept applies when a company is unaware of the asset's true value and the acquisition price is too high. When this occurs, the recommended course of action is to charge a loss in the current period.Moneyzine EditorSeptember 21st, 2023
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