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Explain how the historical cost and reliability concepts affect amounts reported in financial statements.

Event 7  The land that RCS paid $500,000 to purchase had an appraised market value of $525,000 on December 31, 2004.

Although the appraised value of the land is higher than the original cost, RCS will not increase the amount recorded in its accounting records above the land’s $500,000 historical cost. In general, accountants do not recognize changes in market value. The historical cost conceptRecording an asset at the actual price paid for it when purchased. requires that most assets be reported at the amount paid for them (their historical cost) regardless of increases in market value.

Surely investors would rather know what an asset is worth instead of how much it originally cost. So why do accountants maintain records and report financial information based on historical cost? Accountants rely heavily on the reliability conceptInformation is reliable if it can be independently verified. Reliable information is factual rather than subjective.. Information is reliable if it can be independently verified. For example, two people looking at the legal documents associated with RCS’s land purchase will both conclude that RCS paid $500,000 for the land. That historical cost is a verifiable fact. The appraised value, in contrast, is an opinion. Even two persons who are experienced appraisers are not likely to come up with the same amount for the land’s market value. Accountants do not report market values in financial statements because such values are not reliable.

Exercises  1-12A, 1-13A, 1-16A, 1-21A, 1-23A, 1-24A, 1-12B, 1-13B, 1-16B, 1-21B, 1-23B, 1-24B

Problems  1-30A, 1-32A, 1-33A, 1-34A, 1-30B, 1-33B, 1-34B