Accounting: The Language of Business - Vol. 2 (Intermediate: Part 21)

We do not know enough about how the present will lead into the future. We shall never be able to say, "Ha! My perception, my accounting for that series, will indeed cover its next and future components," or "Next time I meet with these phenomena, I shall be able to predict their total course."

Gregory Bateson

Judgment and Applied Financial Accounting Research (Part F)

by

Charles Lamson

The Generally Accepted Accounting Principles (U.S. GAAP or GAAP) Hierarchy

Recall from part 20 that due to the large volume of diverse and complex standards, the body of U.S. GAAP became difficult to use. In response to this problem, the Financial Accounting Standards Board (FASB) developed the Financial Accounting Standards Board Accounting Standards Codification (ASC), often referred to as the Codification, which groups and summarizes all current standards by topic. When the FASB issues a new announcement, it is referenced as an Accounting Standards Update (ASU).  Once approved, ASUs are incorporated into the Codification.

Also, recall from part 20 that the U.S. Securities and Exchange Commission (SEC) has the authority to promulgate accounting standards. For convenience, the Codification contains S sections written by the SEC, rather than the Financial Accounting Standards Board (FASB). For example, S30 is a section that contains information about initial measurement issued by the SEC. All of the S sections refer to Section S99, which contains the actual text of the SEC documents. Accountants exercise caution when using S99 Sections: They do not represent the full breadth of SEC materials and may exclude the most recent information.

When researching financial reporting issues, it is important to know the hierarchy of the literature. What if an accountant cannot find guidance for a transaction in the authoritative U.S. GAAP included in the Codification and SEC material? The accountant then must look elsewhere as depicted by Level 3 in Exhibit 3.7's description of the levels used in the U.S. GAAP hierarchy (The U.S. GAAP hierarchy is found in Paragraphs 1-3 of FASB ASC 105-10-5, Generally Accepted Accounting Principles–Overall–Overview and Background.)

EXHIBIT 3.7 U.S. GAAP Hierarchy

Restorative Literature: International Financial Reporting Standards (IFRS)

The International Accounting Standards Board (IASB) includes four categories of standards in IFRS, as listed here:

1. International Accounting Standards (IAS)

2.  International Financial Reporting Standards (IFRS)

3.  Standing Interpretations Committee (SIC) Interpretations

4.  IFRS Interpretations Committee (IFRC) Interpretations

Appendix B lists the IFRS standards and interpretations.

Appendix B

IFRS Standards

IFRS Current Standards and Interpretations

   

Hierarchy: IFRS. IFRS employs a four-level hierarchy to rank the authoritative support for its various accounting standards, as outlined in Exhibit 3.8 [The IFRS hierarchy is found in IASC, International Accounting Standard 8, "Accounting Policies, Changes in Accounting Estimates and Errors" (London, UK: International Accounting Standards Committee, 1978, Revised), Paragraphs 7-12]. 

EXHIBIT 3.8 IFRS Hierarchy

When moving to Levels 2 and 3, IFRS addresses the need for management to use judgment in developing and applying accounting policies. Managers use their judgment to provide information that is relevant to the economic decision-making needs of users and is reliable. For information to be considered reliable in the financial statements, it must have the following characteristics:

1. Faithfully represents the financial position, financial performance, and cash flows of the entity.

2. Reflects the economic substance of transactions, other events and conditions, and not merely the legal form.

3. Is neutral (i.e., free from bias).

4. Is prudent (i.e., conservative).

5. Is complete in all material respects.

Basis for Conclusions

The FASB includes a section in most of its pronouncements referred to as the Basis for Conclusions (BC), which are discussions of the board's reasoning and thought processes used to create the standard. The BCs are not considered authoritative, but they are very useful in understanding the thought processes of the board and thus the substance of the standard. The BCs are not included in the Codification but can be found in the accounting standards updates or the statement of financial accounting standards themselves.

Basis for Conclusions: IFRS. Unlike U.S. GAAP, the BCs are included directly in the International Accounting Standards and International Financial Reporting Standards. 

*GORDON, RAEDY, SANNELLA, 2019, INTERMEDIATE ACCOUNTING, 2ND ED., PP. 66-69, 88-89*

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