Entity Concept

It is very important to note that for accounting purposes the business is treated as a unit or
entity apart from its owners, creditors and others. In other words, the proprietor of an enterprise is
always considered to be separate and distinct from the business which he controls. All the
transactions of the business are recorded in the books of the business (though they belong to the
proprietor) from the point of view of the business as an entity and even the proprietor is treated
as a creditor to the extent of his capital. Capital is thus a liability like any other liability although
the amount is owing only to the proprietor. In the case of sole trading and partnership concerns
the proprietors may even draw the amounts out, thus reducing the liability of the business. But in
the case of corporate bodies, shareholders stand on a different footing. They cannot reclaim the
amount they have invested. The can sell the shares to others if they desire to unload their
investment. Therefore, in the case of corporate bodies capital is paid out only at the time of
winding up, provided surplus assets are available after paying off the creditors. In the case of
companies the entity concept is more apparent, as in the eyes of law it has separate legal entity
independent of the persons who contribute its capital.
The concept of accounting entity for every business determines the scope of what is to be
recorded or what is to be excluded from the business books. Therefore, whenever business
receives cash from the proprietors cash account is debited as business receives cash and capital
account is credited, capital account representing the personal account of the proprietor. In the
case of corporate bodies since there are too many contributors the amount is shown under a
single account called share capital account.
In the case of non-corporate bodies there is no separate legal entity. Still the principle of
business entity is observed for accounting purposes. For example, although for legal and most
practical purposes, we regard the sole trader and his business as one and the same thing, we
nevertheless, for accounting purposes, regard them as different entities. Therefore in business,
only the business assets and liabilities are recorded although legally there is no distinction
between his business assets and liabilities and his private assets and liabilities. Thus, the concepts
of legal and business entities are not compatible with each other. This is also clear from the fact
that in the case of big companies each department may be the base for accounting although
legal entity is much larger and covers all the departments. Likewise, in the case of consolidated
statements accounting entity is much larger than the legal entity.