The business entity concept or business entity principle considers the owner of an entity has different legal liabilities from the entity’s obligations.
Under this concept, the entity must records all transactions separately from that transaction that belongs to its owner. If it is recording, the substance of the transactions or balance should clearly be defined.
For example, the owner of an entity withdraws money from the entity for use in personnel matters. In such a situation, the accounting record must clearly state these transactions in the entity’s financial statements.
The record should be treated as the amount due to the owner or it can be treated as an advance/loan to the owner.
Income that personally earns by the owner should also record separately from the income generates by the entity.
From the accounting point of view, using a business entity concept, owner assets, liabilities, income, and expenses as well as equity are considered separately from his/her entity. For example, if the owner of the entity borrows money from the bank.
The debt belongs to the owner, not the entity. And, if the entity borrows money or purchase goods on credit, then the debt is belonging to the entity. Not the owner.
Tax Responsibilities:
There are many reasons why financial statements should be prepared base on the Business Entity Concept. From the tax perspective, the owner and entity have different tax rights and responsibilities.
The entity is not responsible for paying the tax instead of its owner, and the owner is also not bear any responsibilities for its entity.
Well, sometimes it also depends on the type of entity that it is registered in. Partnership, limited liabilities, or else. But, in general, the owner and entities have different tax liabilities.
Because of these different liabilities, accounting information must be separately recorded, taxes are separately submitted.
They have different legal responsibilities. The owner owns the bank if they borrow, not the entity. If the money is not paid back, the bank sued the owner, not the entity
Legal Responsibilities:
When the company liquidates, creditors, bankers, and other parties could have the right to enforce the company to pay the debt. But they can’t enforce the owner to pay the debt on behalf of the entity.
Again, this also depends on the type of regal entity that the company register in and how it is interpreted according to the local law.
In general, the owner and entity have different legal liabilities and having separate records of assets and liabilities are required by most of the local law as well as accounting standard.
The benefit is when there are legal or financial problems with both the entity or its owner.
Importance:
The business entity concept is one of the account principles that are really important to the stakeholders and the key users of financial statements.
For example, by taking this principle into account when analyzing and recording financial statements, the users could assure that the information contains in the statements was related only to the business. They are not mixed up with the owners of the company.
Or if the transactions between owners and the entity have occurred, then the treatments were transparently taken between owner and entity.
It is also really important for banks and other lenders when the entity submits the financial statements to the banks or lenders as part of the loan’s requirement and the bank/lender could use the information to assess the entity’s financial position and performance confidently.
Banks/lenders could assure that financial information is only related to the entity’s business.
