12 Jun What is Monetary Unit Assumption?
According to the monetary unit assumption, the transactions that a company records in its books of accounts should be restricted to only those that can be reduced to monetary terms. If a transaction cannot be represented by a dollar value, it should not find a place in the company’s financial books.
What does monetary unit assumption mean?
Assets, liabilities, revenues, and expenses have to be recorded at their dollar values. However, this may not be possible in every case. Say, a company’s greatest strength is the skill and expertise of its top management team.
But this “asset” cannot be considered for inclusion in the books of accounts. That’s because the company is allowed to include only those transactions that are quantifiable in dollar terms.
In addition to the monetary unit assumption, a company’s books of accounts follow another related concept. The “stable dollar value assumption” states that the dollar will not lose its purchasing power over time. Consequently, the entries in a company’s financial records are not altered to account for inflation.
Both these assumptions are important as they help form the basis on which a company’s financial records are created. Analysts who study a company’s financial statements know that the accountant who has prepared them has followed these principles. This helps them to understand the company’s performance and compare it with that of other firms.
Example of monetary unit assumption
Modern Furniture owns a factory that it had acquired in 1952 along with the surrounding land. The acquisition cost was $30,000. It is now worth a far greater amount.
But the factory continues to be valued at its original cost in the company’s books of accounts. That’s because according to the monetary unit assumption, its value cannot be increased to take inflation into account.
If a transaction can be expressed in monetary terms, it should be recorded in the company’s books of accounts. Non-monetary transactions, regardless of how important they are, cannot form part of the accounting records.