10 Major Limitations of Financial Accounting

The following points highlight the ten limitations of financial accounting. They are: 1. Supplies Insufficient Information 2. Controlling Cost not Possible 3. Historic in Nature 4. Recording Actual Cost 5. Difficulty in Price Fixation 6. Technical Subject 7. Unanimity about Accounting Principles 8. Not Possible to Evaluate Accounting Principles 9. Supply Quantitative Information 10. May be Manipulated.

Financial Accounting Limitation # 1. Supplies Insufficient Information:

Financial accounting provides the information about the financial activities as a whole and not individual-wise, i.e., it does not record information relating to product-wise, department-wise etc.

Financial Accounting Limitation # 2. Controlling Cost not Possible:

In financial accounting control of cost is not possible since the costs are known at the end of the financial year or a specified period of time whether the expense or cost has already been incurred, i.e., nothing can be done to control either the account of expense or the cost. In other words, if it is even found that a particular cost is more, it is not possible to control it.

But the same is possible only when the cost accounting system is being introduced.

Financial Accounting Limitation # 3. Historic in Nature:

Since the financial accounting records all transactions relating to a particular period, it is rather historic in nature. In short, present financial information relating to a past period and not for the future although all financial decisions are taken on the basis of past financial data.

Financial Accounting Limitation # 4. Recording Actual Cost:

The financial accounting records the actual cost only, the historical cost of the assets. The value of assets may be changed, but record only the cost of acquisitions of such assets. In other words, financial accounting does not record the price fluctuations or change in price level. As a result it does not present the correct information.

Financial Accounting Limitation # 5. Difficulty in Price Fixation:

We know that the total cost of a product can be obtained only when all expenses relating to a product have been incurred. That is why it is not possible to ascertain the price of the product in advance for the purpose of estimated selling price. As total cost (i.e., fixed cost, variable cost, direct cost and indirect cost of a product) depends on many factors, all such factors cannot be supplied by financial accounting.

Financial Accounting Limitation # 6. Technical Subject:

Since financial accounting is a technical subject, it is not possible for a common man to understand it. Without the proper knowledge of principles and conventions of accounting it is not possible to analyse the financial data to take any financial decision. Naturally, it has got little value to a person who is not conversant with the subject.

Financial Accounting Limitation # 7. Unanimity about Accounting Principles:

Although there is IASC (International Accounting Standard Committee), the accountants differ in their opinion on the application of accounting principles in the same matter.

For example, some accountants prefer to use FIFO method for valuing inventory whereas others prefer to use LIFO or some other method; or, some accountants prefer to use Straight-line Method of depreciation but others prefer to use Diminishing Balance Method etc.

Financial Accounting Limitation # 8. Not Possible to Evaluate Accounting Principles:

Whether the existing accounting principle is sound/correct or not, that cannot be evaluated, i.e., actual performance cannot be compared with the budgeted figure as we can do in case of Standard Costing/Budgetary Control. In other words, the actual result cannot be compared with the budget.

Financial accounting presents only the result of the business through profit and financial positions, i.e., the rate of profitability. But the profit may be affected by many of outside factors which are not recorded by financial accounting.

Financial Accounting Limitation # 9. Supply Quantitative Information:

Financial accounting supplies quantitative information only through absolute figures which do not present always the required information although they are needful to the users. But relative financial information are more important and informative.

Financial Accounting Limitation # 10. May be Manipulated:

Financial accounting may be manipulated, i.e., it may be presented as per desire of the management. For example, profit sometimes may be reduced in order to evade tax and to avoid bonus to the employees. On the contrary, more profit may be shown in order to raise fresh equity shares or to pay more dividend to attract the shareholders and others.

Submitted by : Professor Arianna, Category : Financial Accounting