Under the Prudence (Conservatism) Convention of accounting, which of the following accounting treatments is mandatory?
Answer and explanation
Correct answer: B. Provide for all anticipated losses, but do not anticipate potential unrealised gains
- Step 1: Understand the core principle of the Prudence (Conservatism) Convention in financial accounting. Under this convention, financial statements must not overstate assets or income and must not understate liabilities or expenses.
- Step 2: Evaluate how revenues and losses are treated under this doctrine. An entity should never anticipate profits or recognize unrealised gains until realized, but must make adequate provision for all anticipated or probable losses (such as provision for doubtful debts and valuing inventory at the lower of cost and net realizable value).
- Step 3: Therefore, the mandatory accounting treatment under the prudence convention is to provide for all anticipated losses while not anticipating potential unrealised gains.
Answer
Provide for all anticipated losses, but do not anticipate potential unrealised gains.
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