Human Resource Accounting Meaning, Features, Objectives and Methods

15/11/2020 3 By indiafreenotes

The American Association of Accountants (AAA) defines HRA as follows: ‘HRA is a process of identifying and measuring data about human resources and communicating this information to interested parties.

Flamhoitz defines HRA as ‘accounting for people as an organizational resource. It involves mea­suring the costs incurred by organizations to recruit, select, hire, train, and develop human assets. It also involves measuring the economic value of people to the organization’.

According to Stephen Knauf, ‘HRA is the measurement and quantification of human organiza­tional inputs such as recruiting, training, experience and commitment’.


  1. A business manager has to use resources carefully to achieve immediate and long-term goals for the organisation. This necessitates valuable information about resources. The human beings constitute an important asset for an organisation. Without people in the organisation, other resources physical and financial cannot be effectively used. In conventional accounting, not much information is available about human resources.
  2. The levels of income shown in the conventional statements in profit and loss accounts do not accurately reflect the level of business performance.
  3. Expenses on human resources are charged to current revenue instead of being treated as investments to be amortised over the economic service of the employees with the result that the figures of net income shown are significantly distorted.

The result in the conventional balance sheets fail to reflect the value of human assets, hence there is distortion in value of organisation and the rate of return of investment. Distorted measures render assessment of organisation and inter-organisation comparison difficult.

  1. Conventional treatment of investments on human resources may lead to the erosion of investors, interest through management decisions which is harmful for the long-run success of an organisation and to the investor’ equity.
  2. Traditional accounting involves treatment of human capital and non-human capital differently; the recorded value of other assets is indicated as non-human capital. There is no such record of human assets corresponding to the human capital of the organisation although the productivity and profitability depend largely on contribution by human assets.

To make it more explicit, two firms engaged in the same business line, use identical physical assets under similar market conditions, may have different end results in terms of their profitability and growth due to differences in their human assets. It is, therefore, not possible to assess the total value of the firm, since the value of human capital (i.e., human assets) is not taken into consideration while assessing the total valuation of the firm’s assets.

  1. Expenses incurred by a firm on recruitment, training and development of human resources, employees are at present as per practice, treated as current costs and written off against current revenue in the conventional accounts. Similarly, other employee related expenses such as welfare expenses, incentives, benefits are treated under the present system of accounting.

But all such expenses are in reality, expenses in the nature of investment in human resources and, the benefits of such investment on human resources are often derived or accrued over a longer period than the ‘one year’ in which these expenses are debited to the current revenue in the year a balance sheet is prepared.

The managements generally are interested to keep these costs on ‘welfare’ of human resources as low as possible, i.e., controlling or cutting down the ‘costs.’ These results in immediate savings in costs and resulting profits are achieved, neglecting the long-term impact of such a policy on the motivation or the morale of the employees.

  1. The impact of management decision on human assets of the firm cannot be clearly perceived if the value of human resources is not reported in the profit and loss account and balance sheet.

Objectives of Human Resource Accounting (HRA)

  • Providing cost value information about acquiring, developing, allocating and maintaining human resources.
  • Enabling management to monitor the use of human resources.
  • Finding depreciation or appreciation among human resources.
  • Assisting in developing effective management practices.
  • Increasing managerial awareness of the value of human resources.
  • For better human resource planning.
  • For better decisions about people, based on improved information system.
  • Assisting in effective utilization of manpower.

Methods of Accounting Valuation of Human Resources:

The different approaches invariably denotes the methods or techniques for evaluation of the human resources.

In order to measure the value of HR, there are few decisional aspects to be considered, are as given here:

  1. Performance evaluation part for human resources;
  2. Present value of salary/wages payments;
  3. Real capital cost;
  4. Matching the cost of HR with the revenue of organisation.

Generally, the methods for HR Accounting with its valuation may be given here:

  1. Historical Cost Approach:

This approach was developed by William C. Pyle, which is based on the concept that there are certain cost incurred by the organisation with regard to human resources. Cost is a sacrifice aspect incurred to obtain some anticipated benefits or services.

In this approach the actual cost incurred on recruiting, selecting, hiring, training and development of human resources, of the organisation is maintained and a proportion of it is written off to the income of the next and expected useful life of human resources.

The approach of the cost of human resources is very similar to the book value of the other physical assets. This method is simple to understand and easy to work out. It is based on traditional accounting concept of matching cost with revenue.

  1. Replacement Cost Approach:

This approach was first opined by Rensis Likert and was developed by Eric G. Flamholth. Human resource of an organisation are to be values on the assumption that a new similar organisation has to be created from cut down and what would be the cost to the firm if the existing resources were required to be replaced with other persons of equivalent talents and experience.

According to this model the value of employee is estimated as the cost of replacement with a new employee of equivalent ability and efficiency. There are two costs, individual replacement cost and positional replacement cost. The cost of recruiting, selecting, training and development and familiarisation cost are account in individual replacement cost.

When an employee changes the present position to another or leave the organisation then the cost of moving, vacancy, carrying and other relevant costs reflect in individual replacement cost. Positional replacement cost refers to the cost of filling different position in an organisation.

  1. Opportunity Cost Approach:

This approach analyse the alternative earning sources from the productive capacity of human resources by putting some alternative use. Opportunity cost is the value of an asset (HR) when there is an alternative use of it. The perspective chances of opportunity cost are declined for those employees that are not scarce.

Here, only the scarce people may be comprised the value of human resources. But the alternative use of HR within the organisation is restricted and at the same moment, the use of HR with finding out their alternative cost may not be incorporated properly.

  1. Standard Cost Approach:

This approach is based on the line and staff as well as functional relationship of employees in an organisation. The employees of an organisation are categorised and divided into different groups with hierarchical levels or positions. Standard cost is fixed for each category of employees and their worthwhile role may be calculated. Due to some of the static position of employees on account of their status and position, it does not take any differences of them put in the same group.

Human Resource Accounting Significance

  1. It provide a basic platform of planning in that the objectives, aims and methods for acquiring human resources are included;
  2. It provide various assistance to the management in employment and utilisation of human resources;
  3. It helps the management in planning and executing personnel policies and plans pertaining to the recruitment, transfer, promotion and retrenchment of human resources;
  4. It helps to study and assessing the inner strength of an organisation and helps the management to overcome the most adverse and unfavourable circumstances;
  5. It helps to analyse the causes of high labour turnover at various levels and taking preventive measures for control over it;
  6. It helps to give the cost of developing human resources and as such it will enable the management to ascertain the cost of labour turnover also;
  7. It helps in evaluating the expenditure incurred for imparting further education and training of employees in terms of benefits derived by the organisation;
  8. It helps to find out the real cause for low utilisation of HR, under utilisation of assets as well as low return on investment;
  9. It helps the HR managers for conducts a better ways and means for organisational development in the organisation;
  10. It helps in improving the efficiency of employees towards improving their performance and their worth;
  11. It helps each employee to understand his contribution towards the perspective results of the firm as well as the expenditure incurred by the firm on him.

Human Resource Accounting Important Models: Cost Based and Economic Value

Quite a few Models have been suggested in the past for the Human Resource Accounting and these can be classified into 2 parts each having various Models.

Some of the important ones are:

A. Cost Based Models:

  1. Capitalisation of Historical Costs:

As per this method of HR Accounting, the sum of all costs related to Human Resources (i.e. Recruitment, Acquisition, Formal Training, Informal Training, Informal familiarisation, experience and development) is taken together to represent the value of the human resources.

The value is amortised annually over the expected length of the service of individual employees and the unamortised cost is shown as Investments in the Human Assets. If an employee leaves the firm (i.e. Human Assets expire) before the expected service life period, then the net value to that extent is charged to the Current Revenue.


  1. This Model of HR Accounting is simple and easy to understand and satisfies the basic principles of matching the costs and revenues.
  2. As the historical costs are sunk costs and are irrelevant for decision making, this model was severely criticised as it failed to provide a reasonable value to the human resources.
  3. This method of HR Accounting capitalises only the Training and Development Costs incurred on the employees and ignores the future expected costs to be incurred for their maintenance.
  4. This Model of HR Accounting distorts the value of the highly skilled human resources as such employees require less training and therefore, according to this model, they will be valued at a lesser cost.
  1. Replacement Costs:

The Historical Cost Method was highly criticised as it only takes into account the Sunk Costs which are irrelevant for Decision Making. Thus, a new model for Human Resource Accounting was conceptualised which took into the account, the costs that would be incurred to replace its existing human resources by an identical one.

  1. Individual Replacement Costs: Which refers to the cost that would have to be incurred to replace an individual by a substitute who can provide the same set of services as that of the individual being replaced.
  2. Positional Replacement Costs: Which refers to the cost of replacing the set of services referred by an incumbent in a defined position

Thus, the Positional Replacement Cost takes into account the position in the organisation currently held by the employee and also the future positions expected to be held by him.


  1. As per this method of HR Accounting, the determination of replacement cost of an employee is highly subjective and often impossible.
  2. Particularly at the management cadre, finding out an exact replacement is very difficult. The exit of a top management person may substantially change the human assets value.

Opportunity Cost Model:

This model was advocated by Hekimian and Jones in the year 1967 and is also known as the Market Value Method. This method of measuring Human Resources under this Model is based on the concept of opportunity cost i.e. the value of an employee in its alternative best use, as a basis of estimating the value of human resources.

The opportunity cost value may be established by competitive bidding within the firm, so that in effect, managers bid for any scarce employee. A human asset therefore, will have a value only if it is a scarce resource, that is, when its employment in one division denies it to another division.


  1. One of the serious limitations of this method for Human Resource Accounting is that it excludes employees of the type which can be hired readily from outside the firm.
  2. Thus, this approach seems to be concerned with only one section of a firm’s human resources, having special skills within the firm or in the labour market.

A. Economic Value Models:

Present Value of Future Earnings Model:

This Model of human resource accounting was developed by Lev and Schwartz in the year 1971 and involves determining the value of human resources as per the present value of estimated future earnings discounted by the rate of return on Investment (Cost of Capital). As per this valuation model of Human Resource Accounting, the following expression is used for calculating the expected value of a person’s human capital


  1. This Model of HR Accounting ignores the possibility and probability that an Individual may leave an organisation for reasons other than Death or Retirement.
  2. This Model of HR accounting also ignores the probability that people may make role changes during their careers. For example, an Assistant Engineer will not remain in the same position throughout the expected service life in the Organisation.
  3. Despite the above limitations, this model is the most commonly used model across the Globe for the purpose of Human Resource Accounting.
  1. Reward Valuation Model/ Flamholtz Model:

Flamholtz advocated that an Individual’s Value to an organisation is determined by the services he is expected to render. This model of Human Resource Accounting is an improvement to the “Present Value of Future Earnings Model” as it takes into account the probability that an individual is expected to move through a set of mutually exclusive organisational roles or service states during a time interval. Such movement can be estimated probabilistically by using the following model


  1. The major drawback of this model of Human Resource Accounting is that it is difficult to estimate the probabilities of likely service states of each employee.
  2. Determining the monetary equivalent of service states is also very difficult and costly affair.
  3. Since the analysis is restricted to Individuals, it ignores the value added element of Individuals working as groups.

4. Valuation on Group Basis:

While applying the above models, the Accountants realised that proper Valuation as per Human Resources Accounting is not possible unless the contributions of the Individuals as a Group are taken into consideration. An Individual’s expected service tenure in the organisation is difficult to predict but on a group basis it is relatively easier to estimate the percentage of people in a group likely to leave the organisation in the future.

This model of Human Resource Accounting attempted to calculate the present value of all existing employees in such in each rank.

Such Present Value is ascertained with the help of the following steps:

  1. Ascertain the number of employees in each rank- Estimate the probability that an employee will be in his rank within the organisation or will be terminated in the next period. This probability will be estimated for a specified time period.
  2. Ascertain the economic value of an employee in a specified rank during each time period.
  3. The present value of existing employees in each rank is obtained by multiplying the above three factors and applying an appropriate discount rate.


  1. Although this process simplifies the process valuation of Human Resource Accounting by considering a group of employees as a valuation base, but this method ignores the exceptional qualities of certain skilled employees.
  2. Thus, the performance of a group may be seriously affected in the event of exit of a single individual.