Debate on Inclusion or Exclusion of Prudence Concept in Accounting Conceptual Framework

Accounting
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Introduction
The inclusion or exclusion of prudence concept in the conceptual framework (CF) of
accounting has been a topic of debate over a long period of time among the accounting experts.
The concept of ‘prudence’ can be regarded as the inclusion of caution in carrying out judgments
while making estimates during the uncertain conditions. As such, it means that assets should not
be overstated and liabilities should not be understated during the financial reporting. The present
essay discusses about the current debate regarding the inclusion or exclusion of prudence in the
CF. The debate is gaining importance about the occurrence of accounting frauds due to
manipulation of financial statements deliberately by the business managers that has resulted in
negatively impacting the interests of the investors.
Arguments for not including the concept of prudence in qualitative characteristics of the
financial statements
The reasons for non-including the prudence as qualitative characteristics of the financial
statements should be understood properly for understanding the reason that lead to its exclusion.
The main factors that make prudence against the odds are neutrality and comparability. As per
the objectives define in conceptual framework management must report the actual results in
transparent manner so that it does not reflect biasness and should reflect the neutrality for both
good and bad news. Prudence concept violates the principle of neutrality as concept of prudence
provides that liabilities should not be understated and assets should be overstated. It means that
there is requirement to give regards to the future liabilities or expenses and takes them into
consideration while drafting the financial statements. This ignores the cash flows that are
expected to be generated from the use of assets as prudence critically disallows to overstate the
assets. Overall the result is that profits become low due to deduction of provisions of future
liabilities and no future cash inflows has been added to settle the position. So prudence is serious
case of violation of principle of neutrality. In some areas there is requirement of management
judgment or best estimate with proper disclosure when future liabilities have been included in
financial statement (ACCA, 2014).
There are cases when concept of prudence is questioned on ground of comparability as
there is problem with the prudence in determining how much downward bias one can go when
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