Question

1. Discuss the problems associated with accounting standard setting.
2. Explain how regulation by accounting standards differs from other forms of accounting regulation.

Answer 1

(A)

PROBLEMS IN FORMULATING ACCOUNTING STANDARDS (ASs)

Accounting is the language of business. To make this language pervasive and universally comprehensible, accountants all over the world have developed certain rules, procedures and conventions which represent a consensus view by the profession of prevalent accounting practices and procedures and are generally referred to as generally accepted accounting principles (GAAP).

An accounting standard is a common set of principles, standards, and procedures that define the basis of financial accounting policies and practices. Accounting standards improve the transparency of financial reporting across the globe.

The International Accounting Standards Board (IASB) along with the Securities & Exchange Commission (SEC) are responsible for the proper formulation and implementation of the accounting standards. Though, these standards provide a solid base for the entire accounting world, still there are some issues being faced in the contemporary business world.

But, most importantly, one thing we must remember is that any standard is formulated or amended after a lot of valuable considerations from accounting experts and the analysis of the-then market trends.

Some of the basic difficulties faced by the monitoring board while setting-up accounting standards are:

Difficulties in Definition

To agree on the scope of accounting and of principles or standards, is often found to be most difficult. For instance, some equate accounting with public accounting, which is mainly with auditing and the problems of the auditor. Some use “principles” as a synonym for “rules or procedure”. The result is that the number of principles becomes large and most uneven in coverage and in quality. Another group seems to equate “principles” with “convention,” that is, with consensus or agreement.

Such disagreement leads to difficulty in-standard setting and further does not make the standards totally acceptable to society.

Political Bargaining in Standard Setting

Earlier, but not so many years ago, accounting could be thought of as an essentially non-political subject. But, today, as the standard-setting process reveals, accounting can no longer be thought of as non-political. The numbers that accountants report have a significant impact on economic behavior.

Accounting rules, therefore, affect human behavior. The stories conveyed by annual reports confirm or disappoint investor expectations and have the power to move millions (whether of money or persons). For all the bloodless image that accounting may have, people really care about the way the financial score is kept. Hence, the process by which they are made is said to be political.

Conflict in Accounting Theories

There has been remarkable growth in accounting theories especially relating to income measurement, asset valuation, and capital maintenance. Though much of the developments have taken place in developed nations (USA, UK, Canada, Australia, etc.), accounting in other countries has also been influenced.

At present, there is no single theory in accounting which commands universal acceptance and recognition. There is no best answer to the different terms like profit, wealth, distributable income, value, capital maintenance, and so forth. We cannot say what is the best way to measure profit. If the profession truly wishes to be helpful it needs to discover from users, or to suggest to them, what would support their decision-making, and then do develop the measures which best reflect those ideas.

The search for an agreed conceptional framework could be regarded as essential to orderly standard setting and a responsible way for the standard-setter to act. Also, it could be helpful in distracting critics while getting on with the real issues in accounting problems.

Absence of a conceptual framework, i.e., a set of interlocking ideas on accountability and measurement is not conducive to standard-setting and improved financial accounting and reporting.

Pluralism

The existence of multiple accounting agencies has made the task of standard-setting more difficult. In the USA, Securities and Exchange Commission, Financial Accounting Standards Board, American Institute of Certified Public Accountants often indulge and interfere in the tasks of IASB. No one agency has jurisdiction over the entire area of accounting standards.

Similarly, in other countries also, there is a plurality of accounting bodies. For example, in the U.K., there are the Accounting Standards Board of ICAEW and Companies Acts to deal with accounting matters and financial reporting.

If pluralism were reduced or eliminated, the path toward the goal would be smoother. However, the absence of pluralism is not a necessary condition for agreement on standards developed by a single accounting body. No one would claim that the mere absence of an obstacle constitutes a sufficient condition for success.

Hence, it can be concluded that - a standard-setter has to face many difficulties in the standard-setting process. In a rational way, a standard-setting body should first define the objectives of financial accounting and reporting, identify user groups to be served, and the information which was useful to them before starting the process of standard-setting.

(B)

ACCOUNTING STANDARDS Vs. ACCOUNTING PRINCIPLES

Accounting Standards or International Financial Reporting Standards (IFRS) are the rules that provide guidance as to how to handle specific accounting issues. These are the Standards for Financial Reporting issued by Concerned Governing authorities. Accounting Standards lay norms for accounting for Specific transactions. An accounting standard is a principle that guides and standardizes accounting practices such as how a firm prepares and presents its business income, expenses, assets and liabilities, and maybe in accordance to standards set by the International Accounting Standards Board (IASB).

Accounting Principles or Generally Accepted Accounting Principles (GAAP) are methods or concepts of accounting that should be followed in the preparation of all accounts and financial statements. Accounting concepts are the underlying principles that need to be followed while preparing Financial Statements. Accounting Concepts mean various conventions designed to provide a basic framework for financial reporting. The Accountants use their professional judgment in the selection of Accounting policies in order to provide a fair presentation of financial statements to their intended users.

Enlisted below, are some of the major differences between AS and Principles:

Rules vs. Principles: A major difference between IFRS and GAAP accounting is the methodology used to assess the accounting process. GAAP focuses on research and is rule-based, whereas IFRS looks at the overall patterns and is based on principle.

Inventory Methods: Under GAAP, a company is allowed to use the Last In, First Out (LIFO) method for inventory estimates. However, under IFRS, the LIFO method for inventory is not allowed. The Last In, First Out valuation for inventory does not reflect an accurate flow of inventory in most cases, and thus results in reports of unusually low-income levels.

Income Statements: Under IFRS, extraordinary or unusual items are included in the income statement and not segregated. Meanwhile, under GAAP, they are separated and shown below the net income portion of the income statement.

Classification of Liabilities: The classification of debts under GAAP is split between current liabilities, where a company expects to settle a debt within 12 months, and noncurrent liabilities, which are debts that will not be repaid within 12 months. With IFRS, there is no differentiation made between the classification of liabilities, as all debts are considered noncurrent on the balance sheet.

Fixed Assets: When it comes to fixed assets, such as property, furniture, and equipment, companies using GAAP accounting must value these assets using the cost model. The cost model takes into account the historical value of an asset minus any accumulated depreciation. IFRS allows a different model for fixed assets called the revaluation model, which is based on the fair value at the current date minus any accumulated depreciation and impairment losses.

Quality Characteristics: One of the main differentiating factors between IFRS and GAAP is the qualitative characteristics of how the accounting methods function. GAAP works within a hierarchy of characteristics, such as relevance, reliability, comparability and understandability, to make informed decisions based on user-specific circumstances. IFRS also works with the same characteristics, with the exception that decisions cannot be made on the specific circumstances of an individual.