Accounting Standards: Introduction to IFRS

By Tax-News.com Editorial

February 12, 2013

As if tax wasn’t complicated enough in most jurisdictions, businesses must also contend with accounting standards rules that, internationally, are in a state of flux as countries harmonize their own rules with ever-evolving international standards at different speeds. This feature attempts to make sense of the current accounting standards situation, and the transition to global standards.

From National to International Financial Reporting Standards (IFRS)

It is a legal requirement in most jurisdictions that public companies must present their accounts and other financial information according to a standard set of accounting rules. Traditionally, these rules were developed at national level – US Generally Accepted Accounting Principles (GAAP) is but one example. However, globalization means that thousands of companies now operate in more than one jurisdiction – sometimes several – and this means that accounts have to be prepared and published under numerous different sets of national accounting rules. This undesirable situation has led to confusion and a general lack of transparency for investors when scrutinizing a company’s financial records. The answer to this has been the development of a single set of standards that can be used by companies to present information in a uniform way regardless of jurisdiction, a process begun in 1973 by the Board of the International Accounting Standards Committee, which issued International Accounting Standards (IASs). The fact that this is still very much a work in progress 40 years later is a testament to how arduous a task this has been.

Since April 2001, the International Accounting Standards Board (IASB), based in London, has been the body responsible for setting IASs, which are now known as International Financial Reporting Standards (IFRSs). The IASB is an independent body of the IFRS Foundation, which itself is an independent, not-for-profit private sector organization. It lists its objectives as:

  • developing a single set of high quality, understandable, enforceable and globally accepted international financial reporting standards through the IASB;

  • promoting the use and rigorous application of those standards;

  • taking account of the financial reporting needs of emerging economies and small and medium-sized entities (SMEs); and

  • promoting and facilitating adoption of IFRSs

The governance and oversight of the activities undertaken by the IFRS Foundation and its standard-setting body rests with its Trustees, who are also responsible for safeguarding the independence of the IASB and ensuring the financing of the organization. The Trustees are publicly accountable to a Monitoring Board of public authorities.

The 15 full-time members of the IASB are responsible for the development and publication of IFRSs, and for approving Interpretations of IFRSs as developed by the IFRS Interpretations Committee (formerly called the IFRIC). All meetings of the IASB are held in public and broadcast on the Internet. The IASB engages closely with stakeholders around the world, including investors, analysts, regulators, business leaders, accounting standard-setters and the accountancy profession.

The IFRS Interpretations Committee is the interpretative body of the IASB. The Interpretations Committee comprises 14 voting members appointed by the Trustees and drawn from a variety of countries and professional backgrounds. The mandate of the Interpretations Committee is to review on a timely basis widespread accounting issues that have arisen within the context of current IFRSs and to provide authoritative guidance (IFRICs) on those issues. Interpretation Committee Meetings are also open to the public.

The first International Accounting Standard – IAS 1, Disclosure of Accounting Policies - became effective on January 1, 1975. Another 40 standards under the IAS moniker were subsequently issued, although some of these have been superseded or withdrawn. The IASB has also issued IFRS1 to 13, as well as interpretations numbered from IFRIC1 to 20, some of which have also been withdrawn.

On July 9, 2009 the IASB published an IFRS designed for use by small and medium-sized entities (SMEs). SMEs include all entities that are not publicly traded and that are not banks or similar financial institutions and they are said to represent well over 95% of all companies in both developed and developing countries. The standard is the result of a five-year development process with extensive consultation of SMEs worldwide. Compared with full IFRSs (and many national GAAPs), the IFRS for SMEs is less complex and is available for any jurisdiction to adopt, whether or not it has adopted full IFRSs. Each jurisdiction must determine which entities should use the standard. However, listed companies and financial institutions are not permitted to use IFRS for SMEs.

IFRS – Must Be a Good Thing Then?

Obviously, the IASB believes that a single set of high quality, globally accepted accounting principles will be of huge benefit to companies doing business across borders, and their investors. As Ann Tarca, Professor of Accounting and the University of Western Australia observed in a report prepared for the IASB, entitled The Case for Global Accounting Standards: Arguments and Evidence: “The expected benefits of global accounting standards are compelling. The use of one set of high quality standards by companies throughout the world has the potential to improve the comparability and transparency of financial information and reduce financial statement preparation costs. When the standards are applied rigorously and consistently, capital market participants will have higher quality information and can make better decisions.”

However, in and of itself, the body of work that comprises IFRSs is something of an unwieldy beast, and it is constantly evolving to keep up with modern business practices. Since 2006, the IASB lists more than 60 projects that have been completed, are a work in progress, been deferred or been scrapped, including amendments and rewrites to current standards. Conversion to IFRS also comes at a time when companies are being inundated with regulatory change stemming from recent corporate scandals and the global financial crisis.

In recognition of what has come to be known as a state of “disclosure overload,” the IASB held a forum involving preparers, auditors, regulators, and users of financial statements on January 28, 2013, to discuss how the usefulness and clarity of financial statements could be improved. Input received from this forum will contribute towards the IASB's Conceptual Framework project, which aims to establish enhanced rules for the preparation and presentation of IFRS-compliant financial reports. In launching the consultation, the IASB explained: "It is a widely-held view that not all of the information presented in financial statements is useful. Various factors are cited that affect the clarity and usefulness of disclosed information. Some are critical of what they see as overly burdensome financial reporting requirements. Others point to the application of ‘boilerplate’ disclosure statements by companies, a ‘checklist’ approach used by auditors or a need to meet the perceived ‘compliance’ requirements of regulators."

Furthermore, in the area of taxation the switch to IFRS has caused more, rather than less, uncertainty in some cases. Highlighting this problem, a 2005 survey by Ernst & Young found that tax directors and Chief Financial Officers (CFOs) implementing IFRS were finding the process time consuming and difficult to explain to senior management. The survey, carried out between January and March 2005, involved telephone interviews with 192 tax directors and CFOs implementing IFRS in Australia, Belgium, China/Hong Kong, France, Germany, Italy, South Korea, the Nordic countries, the Netherlands, Spain, Switzerland and the United Kingdom. In terms of implementing IFRS from a tax perspective, the survey revealed that the top three areas of concern for the respondents were interpretation of the technical standards, the process or methodology used for implementing IFRS conversion, and risk analysis and impact modeling of the conversion. When asked their greatest areas of tax concerns in the actual implementation of IFRS, 54% of those polled mentioned calculation and explanation of deferred taxes, 44% cited overall impact on effective tax rate, 42% said impact on tax treatment of financial instruments such as derivatives and 37% said impact on the tax treatment of intangible assets.

“In many countries, IFRS involves a conceptual change in accounting for income tax, which may have a significant impact on the effective tax rate of companies and their reported tax balances. For example, IFRS requires a ‘balance sheet’ method regarding the calculation of deferred taxes that many companies may struggle with due to its complexity," noted Ernst & Young. “IFRS brings greater transparency and enables management to more readily compare their results with those of their competitors. However, there is the very real possibility that this will increase the pressure on tax directors to more proactively manage their effective tax rates but at a time when the effective tax rate is being viewed by some regulatory authorities as an indication of aggressive tax planning. The pressure from the financial markets to deliver a strong performance in terms of managing taxes needs to be balanced against perception and reputation issues associated with the effective management of tax risks.”

While it has called IFRS “a beneficial global trend with significant momentum,” Deloitte has, nevertheless, also warned that conversion to the global accounting standard could have significant ramifications for companies’ global tax planning for product and financial supply chains. In a 2008 report, Deloitte addressed five key areas where a conversion to IFRS could result in unanticipated tax consequences without proper planning. "Companies will need to pay close attention to the impact of a conversion to IFRS on their global tax structure, particularly in regard to tax issues associated with inter-company transfers, financing, shared service centers, supply chain planning, and entity rationalization,” commented Nathan Andrews, partner and leader of the Tax Accounting Services practice of Deloitte Tax LLP.

According to Deloitte, companies will likely need to adjust their global tax planning to reflect a tax and financial reporting environment that is migrating to IFRS at different paces in different countries. Such an update is of particular importance in global finance and product supply chain operations.

"Given the complexities multinational companies will face in converting to IFRS, many may now consider eliminating unneeded entities before undertaking a full conversion,” said Dan Lange, global managing partner of International Income Taxes for Deloitte Tax. “Now is the time for companies to take a hard look at the number of legal entities and rationalize them. Not only does it make sense to evaluate global tax planning when a major business change such as IFRS conversion occurs, this could go a long way toward reducing the time and cost of such a conversion.”

Then again, despite being recognized in the US as the “gold standard” for accounting rules, similar problems also arise under US GAAP. The main issue is that the impact of tax liability on certain key accounting calculations can cause a significant divergence from a company’s actual cash tax liability. For instance, under US GAAP, accelerated depreciation of capital investments can improve a company’s cash flow in the short term, but it does not improve a company’s earnings per share as calculated under GAAP. Therefore, comparing a corporate tax rate cut with the maintenance of depreciation allowances requires consideration of the impact of financial accounting considerations on business investment decisions.

Other critics point to more fundamental worries, though. While IFRS might be enforced to the letter in some countries, authorities elsewhere might take a more relaxed approach to enforcement of the rules. Indeed, there is a feeling that in some jurisdictions, high-quality accounting standards have been switched for a less effective substitute.

How International is IFRS?

Not completely. Over 100 countries now require or permit the use of IFRS for domestic listed companies, including three quarters of the G20. The preparation of accounts and financial reports under IFRS has been compulsory for listed companies in the European Union since 2005. Japan, however, has deferred its adoption of the global standard until at least 2015.

One country is conspicuous by its absence from the adopted countries list: the United States. In October 2002, the US standard setter, the Financial Accounting Standards Board, and the IASB announced the issuance of a memorandum of understanding, known as the Norwalk Agreement, marking a significant step toward formalizing their commitment to the convergence of US and international accounting standards. However, the US authorities now give the impression that they are unconvinced whether adopting or converging with IFRS would be a help or a hindrance to US reporting companies and their investors. As such, the US has been careful not to commit to a concrete timeline for a switchover from US GAAP to a global accounting standard, even though it would appear to support it in principle. Indeed, the final staff report from the US Securities and Exchange Commission (SEC), evaluating the implications of incorporating IFRS into the financial reporting system for US companies, released in July 2012, was criticized for not containing a recommended action plan or timetable.

The SEC directed the staff in its Office of the Chief Accountant in February 2010 to develop and execute a Work Plan related to global accounting standards. However, the SEC now makes it clear that publication of the staff report does not imply that any policy decision has been made as to whether IFRS should be incorporated into the financial reporting system for US issuers, or how any such incorporation, if it was to occur, should be implemented.

Although, says the SEC, the staff report is constructive and an important contribution, “the Work Plan does not set out to answer whether transitioning to IFRS is in the best interests of the US securities markets generally and US investors specifically. Additional analysis will be necessary before any decision by the SEC.” In fact, the SEC staff are still welcoming further feedback from stakeholders on their report.

The SEC staff found, for example, that there appears to be relatively less support within the US financial reporting community for the designation of the IFRS standards as authoritative for use by US issuers for domestic reporting purposes. However, there was found to be substantial support for exploring other methods of incorporating IFRS that demonstrate the US commitment to the objective of a single set of high-quality, globally accepted accounting standards.

In addition, while it is felt that the IASB and the IFRS Foundation have made significant progress in developing a comprehensive set of accounting standards, there continue to be areas that are underdeveloped (for example, accounting for extractive industries and insurance). By comparison, US GAAP also contains areas for which guidance is in need of continued development, but the perception among US constituents is that the “gap” in IFRS is greater.

The IASB noted the publication of the staff report, but Michel Prada, Chairman of the IFRS Trustees said that “the report reiterates the many challenges that a large economy such as the US faces when transitioning to IFRS – challenges that other jurisdictions have successfully overcome when completing their own transition to IFRS.”

While the IASB recognized the right of the SEC to determine the method and timing for incorporation of IFRS in the United States, it regretted that the staff report is not accompanied by a recommended action plan for the SEC. It stated that: “given the achievements of the convergence program inspired by repeated calls of the G20 for global accounting standards, a clear action plan would be welcome. For the benefit of both US and international stakeholders, the Trustees look forward to the SEC resolving the continued uncertainty regarding the US’s commitment to global accounting standards."

The American Institute of Certified Public Accountants (AICPA) has added its voice for prompt action. While it has commended the SEC staff for the thoughtful analysis and the preparation of a comprehensive report regarding incorporation of IFRS into the financial reporting system for US public companies, Barry C. Melancon, its president and CEO, urged the SEC “to consider the staff report with expediency because the world’s capital markets know no borders. The participants in those markets need high quality, transparent, and comparable financial information to enable them to make sound investment decisions.”

The AICPA also urged the SEC to allow US public companies the option to adopt IFRS. "An adoption option would provide a level of consistency in the treatment of US companies and foreign private issuers that report under IFRS that does not exist today, and would facilitate the comparison of US companies that elect IFRS with their non-US competitors that use IFRS.”

Several large multinational corporations, however, have started using IFRS for their foreign subsidiaries where allowed by local law. Also, some US subsidiaries of foreign-owned companies are also using IFRS.

What Does The Future Hold

On December 18, 2012, the IASB concluded its far-reaching public consultation on its future agenda by releasing a Feedback Statement that maps out its future priorities. The public consultation featured a program of public discussions, meetings with investors and online discussion forums that involved thousands of interested parties across more than 80 countries. The IASB received more than 240 comment letters in response to the consultation document that it had published in July 2011.

Five broad themes emerged from responses to the public consultation. First, respondents asked that a decade of almost continuous change in financial reporting should be followed by a period of relative calm. Second, there was almost unanimous support for the IASB to prioritize work on the Conceptual Framework, which would provide a consistent and practical basis for standard setting. Third, the IASB was asked to make some targeted improvements that respond to the needs of new adopters of IFRSs. Fourth, the IASB was asked to pay greater attention to the implementation and maintenance of the Standards. Finally, the IASB was asked to improve the way in which the IASB develops new Standards, by conducting more rigorous cost-benefit analysis and problem definition earlier on in the standard-setting process.


If, when complete, IFRS leads to a situation where companies spend less time and effort complying with international accounting and financial reporting rules, regulators use fewer resources to uphold them and investors make better decisions as a result of them, they will clearly be of benefit. However, the situation as it stands is far from perfect, and it is difficult to assess, when the project is only partially complete, whether IFRS is having a positive or negative impact on those it is designed to help. Getting the US on board IFRS would lend it a huge amount of credibility. However, the IASB must also be mindful of the points raised in its consultation exercise which suggest that companies are suffering from a certain amount of “change fatigue,” so perhaps this should be the appropriate moment to pause and reflect on what has been achieved.


Tags: tax | accounting | standards | financial reporting | business | tax planning | investment | United States | interest | G20 | audit | Australia | Belgium | China | France | Germany | Hong Kong | Italy | Japan | Netherlands | Spain

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