What is Substance Over form?

Substance over form
an important concept in
accounting

Lets see an incidence
You have
purchased a
new phone and
returning back
to your home
Suddenly you
met with a
special person
in the road
And finally he
took away your
phone
forcefully
So in this situation, you have the
legal ownership of the phone
but not the control. Whether you
will record this as an asset?

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Lets see another incidence
You have purchased
a Car on hire
purchased basis and
paid the seller Tk.
10 lac as advance
Your Accountant has recorded the
transaction through following entry:
Advance for Car A/C Dr. Tk.10 Lac
Bank A/C Cr. Tk.10 Lac
( He has considered the payment as
advance)
When auditor came for audit, she gave
objection. And said that that is a
wrong entry
What would be the correct entry?

What was your accountant’s
argument in favor of the entry
Against the auditor’s objection,
your accountant said that as we are
not the owner of the car right now,
how could we record this as our
asset?

Auditor Said….
You have to record this car as your
asset according to the Substance
over form concept
of Accounting

What happens in
hire purchase transaction?
• An agreement is signed between the buyer
and seller.
• Buyers pays the down payment and took the
object (in our case car) and started using the
same.
• Buyer recognize the object (in our case car)
as his asset and also recognize the related
liability.

• Rest of the payment makes by buyer to
seller in installment s
• Until the final installment is paid, buyer does
not get the ownership title. It remains with
the seller
• After the completion of final installment
payment, the ownership right of the object
has been transferred buyer.
What happens in
hire purchase transaction?

So… What is
Substance over form concept
Substance over Form
Factual
reality
Legal form
As per main
intention
As per legal
document

So… What is
Substance
over
Form
Factual
reality
Legal form
As per main
intention
As per legal
document

So… What is
But what is
the reality ?
As per legal
document the
owner of the car is
the seller
The buyer has the
intention to pay all
the installments and
ultimately become
the owner of the carAnd the possession
of the car is also
with the buyer. He is
using the car and
gets the benefits

So… What is
The Depreciation
of the car will also
be claimed by the
buyer
Against the car the
Buyer only needs to pay
the installments and
that is a liability for
buyer to the seller
If you consider the
reality, here buyer is like
a loan taker from the
seller
And seller is
like a loan giver

So… What is
So considering
actual reality, the
buyer will record
the car as his
asset, ignoring the
legal form. Against
the asset, the
buyer will also
recognize a
liability to seller
like a loan.
Seller is
keeping the
ownership of
the car only for
security
purpose…..
Like banks
take security
against loan

So there are many cases in accounting
where we do not go by legal terms and
conditions, rather we consider the actual
substance (reality) of the transaction and
record accordingly.

Let’s forget hire purchase….
See another example
Your company purchased a Truck from XYZ
Limited on 28 December 2019 (your
accounting year ended on 31 December
every year).
You have submitted necessary paper to the
registration office for registering (transfer of
ownership) the Truck in your company’s
name.

But the registration has not been completed
till 31 December 2019. You have started
using the Truck. In this situation what will
you do?
• Record the truck as your asset or not?
Definitely you will record the truck as your
asset considering the substance.
Let’s forget hire purchase….
See another example

I hope you have understand the
concept clearly.
If not, please give your question in
comment section. We will come back
to you soon.

What is Substance Over form?

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