FASB's and IASB’s Convergence Project Impresses With Better Standards
But don’t hold your breath . . . differences continue to exist.January 5, 2012
by Remi Forgeas, CPA
The convergence project between the International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB) will come to an end within the next few months. The result of this project is quite impressive with the adoption of better standards and significant reduced differences on major topics between these two standards.
A “by-product” of this convergence project is that differences between the International Financial Reporting Standards (IFRS) and U.S. Generally Accepted Accounting Principles (GAAP) will continue to exist at various levels from those in the framework to the way standards evolve over time as well as in the structure and content of the standards. Users of financial statements will have to pay even more attention to these differences, especially when the general view is that the convergence project eliminated substantially all substantial differences. Moreover, the “condorsement project” that the U.S. Securities and Exchange Commission (SEC) presented in May 2011 will increase this risk of confusion.
On November 16, the SEC issued two staff papers as part of its work plan on consideration of incorporating IFRS that present a comparison of U.S. GAAP and IFRS (PDF), which provides a comprehensive analysis of differences existing between IFRS and US GAAP. It does not include standards, such as revenue recognition or leases that still need to be completed. Additionally, it does not cover changes over time resulting in differences in interpretation process. The second staff paper provides an analysis of IFRS in Practice (PDF).
In our view, differences appear in the following three main areas:
As pointed out by the SEC in its Paper, “Fundamental differences exist between the FASB and the IASB conceptual frameworks” (p. 10 of the staff paper). More precisely two differences are singled out:
- The Conceptual Framework is part of the authoritative guidance under IFRS whereas it is not under U.S. GAAP
In most instances this does not create a practical divergence; however it may have a significant impact in certain complex situations.
- Definitions of certain terms are different
The SEC defines asset (and liability) as a concept of probability of future economic benefit (or economic sacrifice for the liability) under GAAP, whereas in IFRS such probability is considered at the recognition level only. On the other hand, IFRS requires that the measurement be reliable before recognition, whereas there is no such reference in GAAP.
“Probable” is another such word with meaning variations. Under IFRS, “probable” means “more likely than not,” i.e., over 50 percent chance of occurrence. Yet GAAP defines probable as “likely to occur”, which is usually understood as a higher threshold of occurrence than under IFRS.
- Divergences in the scope of the standards have a more practical impact
An obvious and very visible one is the single volume of literature with GAAP being approximately 10 times “heavier” than the IFRS. This difference is not just an anecdotal difference, but a reflection of how GAAP has developed a corpus of industry-specific standards and detailed guidance for certain situations over the years.
Though the traditionalists differentiate the two with the simple “rule-based GAAP vs. principle-based IFRS,” this somewhat inaccurate supposition has some truth in it. Since IFRS is international in essence, it is very difficult to develop narrowed standards that meet the needs of each constituent at the same time. For example, the standard on rate-regulated activities developed in the U.S. addresses constraints of the U.S. legal environment for these activities. In the rest of the world, legal environments for these activities vary from one country to another and the IASB has found it difficult to develop a comprehensive standard that would reflect all these variances thus far.
One well-known commented difference is the valuation of inventory: LIFO method is authorized under GAAP, but forbidden under IFRS. Another well-known example can be found in accounting for fixed assets. Historical cost (less depreciation) is the only valuation method authorized under GAAP, whereas the IFRS authorizes a fair value approach.
Several differences exist on the impairment testing of long-term assets as well, but the one with the largest impact in terms of documentation and processes is the possibility of reversal of impairment charge under IFRS (except for goodwill).
Differences from already converged standards are less frequent but more surprising. The standards on business combinations are converged though a difference exists in the recording of non-controlling interest. Under IFRS, non-controlling interest is recorded either at historical cost (e.g. no goodwill allocated) or at fair value, whereas under GAAP, preparers have to measure non-controlling interests at acquisition date fair value. Even in the standards under revision, the two Boards may be willing to recognize and accept differences, as it is illustrated in the current discussions around the offsetting of certain derivatives instruments. Readers should note that the two Boards have acknowledged that there is no convergence currently on the accounting itself. However, the required disclosures on this matter should provide information allowing the user to reconcile the difference noted in accounting.
Another source of difference is in the implementation of standards. While the FASB usually forbids early adoption date of new standards, the IASB allows it.
One aspect apparently overlooked of the convergence project in a dual system US GAAP/IFRS is the management of changes over time.
Changes in standards result from projects the FASB handles as well as the SEC’s decisions (for public companies only) issued in the Staff Accounting Bulletins (SAB) and from decisions of the Emerging Issues Task Force (EITF) currently in the U.S. Over the years, the EITF has issued a significant number of guidance and interpretations following questions received from users and preparers. These guidance and interpretations are very specific to narrowed and detailed circumstances and become the rule for the accounting of similar transactions. There is a strong willingness to stay away from too narrowed guidance under the IFRS and the IFRS Interpretation Committee (formerly IFRIC) limits its interpretations to flaws or “loopholes” in standards that could lead to inconsistency in the accounting of similar transactions.
Without a real coordination of the interpretation process, these two approaches will continue to generate differences much quicker than it took to converge the two standards.
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Remi Forgeas, CPA, is an audit and assurance partner for WeiserMazars LLP US and provides his views on international convergence of GAAP and whether progress is really being made in light of recent developments. For U.K. IFRS, you can contact, Steven Brice who is a technical partner in the financial reporting advisory group for WeiserMazars LLP UK.
* The views expressed in this article are the author’s own and do not necessarily reflect the views of the AICPA or AICPA Corporate Finance Insider.