Fair Value Accounting vs. Historical Cost Accounting

Abstract

This paper reviews fair value accounting method relative to historical cost accounting. Although both methods are widely used by entities in computing their income and financial positions, there is controversy over superiority. Historical cost accounting reports assets and liabilities at the initial price they were exchanged for at the time of the transaction. Conversely, fair value accounting quotes the prevailing price in the market. Nevertheless, while both methods of accounting affect financial statements, the impact of fair value accounting on the balance sheet and income statement is extreme due to the potential volatility of the method. Fair value accounting is deemed superior when compared to historical cost accounting because it reflects the current situation in the market whereas the later is based on the past. In addition, in relative terms, fair value accounting provides users with more current financial information and visibility.