Question

*Choose one of the main differences between generally accepted accounting principles (GAAP) and international financial reporting standards (IFRS).

*Fully explain the selected difference.

*In addition, discuss how that difference impacts financial reporting.

*Lastly, discuss which standard you think is more appropriate to apply to financial accounting and why.

Answer 1

Generally Accepted Accounting Principles (GAAP) refer to a common set of accounting principles, standards, and procedures issued by the Financial Accounting Standards Board (FASB). GAAP aims to improve the clarity, consistency, and comparability of financial information of companies. International Financial Reporting Standards (IFRS) are a set of international accounting standards issued by the International Accounting Standards Board (IASB), and they specify exactly how accountants must maintain and report their accounts, and states how transactions and other events should be reported in financial statements.

1. One of the main differences between GAAP and IFRS lies in the conceptual approach. The main difference between the GAAP and IFRS is that GAAP is considered as rules-based accounting standard and IFRS as principles-based accounting standard. Some accountants consider this difference between GAAP and IFRS as methodology.

2.

Principles-based accounting standard-

Principle-based accounting system is the most popular accounting system used globally because it is usually better to adjust accounting principles to a company’s transactions, rather than adjusting a company’s operations to accounting rules and provides fewer exceptions. International Financial Reporting Standards (IFRS), being the most common international accounting standard globally, is a principles-based approach and states that a company’s financial statements must be understandable, readable, comparable and relevant to current financial transactions. Interpretation or discussion can be clarified by the standards-setting board in Principle based accounting standard. Under IFRS, the review of the facts pattern is more thorough.

Rules-based accounting standard-

Rules based accounting involves a list of detailed rules and regulations that companies and their accountants must follow when preparing financial statements. Generally Accepted Accounting Principles (GAAP) is an example of rule based accounting standard., which is a system broadly used in the U.S. Rules-based accounting involves that users must follow a list of strict and specific rules that accountants must apply when preparing financial statements, financial documents and other public disclosures. Under U.S. GAAP, the research is more focused on the literature.

3. The main difference between GAAP and IFRS impact financial reporting.

• Consolidation — IFRS favors a control model whereas GAAP prefers a risks-and-rewards model. GAAP has two consolidation models: variable interest entity (VIE) model and voting interest model(VIM).
• Statement of Income — Under IFRS, extraordinary items are not separated in the income statement. IFRS does not consider comprehensive income to be a major element of performance and therefore does not require it., while, under GAAP, extraordinary items are shown below the net income and requires financial statements to include a statement of comprehensive income.
• Inventory — Under IFRS, Last-In First-Out (LIFO) inventory accounting methods cannot be used while under U.S. GAAP, either LIFO or First In First Out (FIFO) inventory accounting estimates can be used.
• Earning-per-Share (EPS) — Under IFRS, EPS calculation does not average the individual interim period calculations, whereas under GAAP, the computation of EPS calculation averages the individual interim period incremental shares.
• Development costs — These costs can be capitalized under IFRS if certain criteria are met, while it is considered as “expenses” under U.S. GAAP. Under both IFRS and GAAP, Development costs require the demonstration of probable future economic benefits and costs, which can be consistently measured, for recognition as intangible assets.

4. I think Principles based standard system IFRS is better considered more appropriate to be applied to financial accounting. Clearly defined accounting principles provide many advantages, including allowing accountants with the ability to consider the best way to account for and report a transaction, increased comparability among companies with similar transactions no matter the industry and the ability to defend positions based on the principles followed. In IFRS, the review of the facts pattern is more thorough.

In today’s global marketplace IFRS has a better and distinct advantage over U.S. GAAP. The fact is that IFRS is either permitted or required in over 120 countries, like the European Union (EU) and many countries in Asia and South America, but not in the United States. whereas US GAAP is required in one country. The SEC will decide later whether or not IFRS should be adopted in the United States. If IFRS is permitted or required in the United States, companies will need to develop a judgment framework that documents how accounting decisions will be made in a principles-based accounting environment. There could also be variations in accounting by different companies for similar transactions, so these companies should disclose the basis for the accounting followed as well as the factors considered and reasons for accounting decisions made.