Critical decisions the FASB makes that can ultimately move markets start with the Conceptual Framework, a set of theoretical guidelines the board uses to determine what gets reported and how. But the framework is not complete and at times ignored, which cause more issues than apparent, accounting professionals said in July 2022.
Will new accounting projects such as cryptocurrencies and disaggregation of income statement expenses run aground as a result? Not likely, but it will create issues for the board, some said.
“The framework is important, and I think incompleteness is going to pose problems in exactly the situations where they don’t have a chapter, like measurement,” Kurt Gee, Assistant Professor of Accounting at Pennsylvania State University, said on July 13.
Measurement relates to the determination of the amount to record in financial reports for items that bring economic benefit—e.g., assets.
Recently, the FASB decided to discuss measurement of cryptocurrencies because of a market push for improvements. But without preestablished criteria, developing those rules will be challenging, Gee said.
“One board member says measurement should be based on how the company receives cash flows from cryptos; another board member says it should be based on fungibility; another board member says they need to consider volatility too; and collectively they don’t agree on which criteria are important to deciding about measurement,” he said.
The FASB, the nation’s main accounting rulemaker for developing U.S. GAAP, added the project on cryptocurrencies to its technical agenda in May. Rulemaking discussions have not yet started.
“Either they’ll agree on measurement for different reasons that won’t help guide future decisions, or they’re not going to agree because they can’t come to terms with what the criteria should be in the first place,” Gee said.
It’s Often Misunderstood
Surprisingly, many accountants do not understand the conceptual framework, according to FASB discussions. During redeliberations last year of comment letter responses to proposals on concepts for elements and presentation of financial statements, some board members said many who wrote in misunderstood what the framework is and how the board uses it.
Some of the letters came from large public companies.
Practitioners said that the lack of understanding might stem from the educational system, including textbooks, college classes, the CPA exam, firm training programs, and so forth.
“While some of the blame might be attributed to educators, I think the other elements of the systems by which professional accountants are trained are also part of the supposed problem,” Ray Pfeiffer, Professor of Accounting School of Business at Simmons University in Boston, Mass., said on July 8.
“I think it’s easy for people to kind of casually think ‘well it’s all just rules; it’s all the same thing,’” he said. “So I think it might start at the educational level – maybe we as faculty members aren’t clarifying it sufficiently for our students and then those students are going out and becoming those professional accountants.”
Others said it is largely a necessary tool that is at times ignored.
“My opinion is the conceptual framework is necessary, and incomplete, and definitely helpful,” Michael Durney, Assistant Professor of Accounting at the University of Iowa, said on July 14. “It might be misunderstood because it’s ignored,” he said. “If you look at the curriculum of accounting programs, conceptual framework is not heavily focused on by many of them,” he said. “Some of the textbooks differ on their interpretation and extent of focus on it.”
In a Nutshell: the Conceptual Framework and Where it Stands Now
What exactly is the conceptual framework and how does the board use it?
The conceptual framework is a document of Chapters 1-8, which provide the foundational concepts that the FASB uses to determine the way items like assets, liabilities, revenues, and expenses get recorded in financial statements filed with the SEC—and how.
It is used by the board as a foundation to build accounting standards and related disclosures so that they are cohesive and comprehensive. The concepts are not authoritative, which means they are not generally accepted accounting principles (GAAP).
Much has been done on the framework since the 1970s when it was developed, according to a FASB summary.
In the early 2000s, the board decided to work jointly with the IASB, the rulemaker that develops IFRS accounting standards, to make improvements to the framework with the goal of developing a converged and updated conceptual framework. Those discussions aimed to establish new Concepts Statement (CON) No. 8, Conceptual Framework for Financial Reporting, an update of all seven chapters in the old framework plus an added Chapter 8 on note disclosures.
Together the boards deliberated Chapter 1, The Objective of General Purpose Financial Reporting, and Chapter 3, Qualitative Characteristics of Useful Financial Information, and issued them as newly revised chapters in 2010. After that, converged discussions stopped and the FASB put its project on hold.
In 2014, the project was reactivated by then-chair Russell Golden to update old concepts and fill in the missing chapters and/or concepts. In 2018, Chapter 8, Notes to Financial Statements, was published; in 2021, Chapter 4, Elements of Financial Statements, and Chapter 7, Presentation, were published.
Currently, there is no Chapter 2 on a Reporting Entity as there was none in the original framework. The board recently discussed that topic and plans to issue a proposal later this year to solicit public comment.
Planned next are revisions to Chapter 5 on recognition in financial statements of business enterprises, which will be discussed on July 20.
The board also has a project on its agenda to develop concepts related to measurement.
Is the Framework an Effective FASB Tool? Yes—But!
Many speculate that in general the conceptual framework is effective but said some FASB members find it restrictive and thus do not adhere to it, which muddies the waters.
“It only functions the way it is designed if FASB members agree to adhere to it, Pfeiffer said. “It’s been alleged that some board members in those moments of tension have said ‘I don’t really adhere to the conceptual framework because I think there’s a practical issue or I disagree with part of the conceptual framework,’” he said. “And so anytime that the board’s decisions don’t reflect what’s in the conceptual framework, then it’s not serving its purpose and the whole system kind of breaks down.”
Others agree it is effective, stating it is generally referenced in the “Basis for Conclusions” section of accounting standards to explain the board’s conclusions as influenced by the framework.
“Recently, one way the framework recently proved useful to the board was on its project on the subsequent accounting for goodwill,” said Spencer Anderson, Assistant Professor in the Department of Accountancy at University of Illinois Urbana-Champaign.
The board was exploring potentially requiring goodwill to be amortized before dropping the project completely in June.
“I can’t think of a single conceptual basis for amortizing goodwill!” Anderson said on July 14. “I think that the board eventually came to that realization.”
Some Want it Codified into U.S. GAAP
There is also another view surfacing among some practitioners: that the conceptual framework be codified as an integral part of GAAP. They pointed to the IASB’s approach to its framework as ideal.
“The IFRS framework is mandatory—it is an integrated part of IFRS, whereas the FASB statements are not,” Scott Ehrlich, President Mind the GAAP, LLC, in West Chester, Pa., said on July 5.
“The IFRS framework is designed for all constituencies, including standard setters, preparers, financial statement users, and auditors and again, the FASB concept statements are not,” he said. “It just seems like the IFRS model is a better approach.”
Ehrlich likes that the IFRS Framework sets the overarching principles that serve as a foundation to all the detail guidance that follows in specific IFRS.
“If there are deviations from these principles, the IASB needs to deliberate as to whether those deviations are appropriate and/or to make improvements to the framework,” he said. “On the other hand, the Concept Statements need not be followed by the FASB in creating U.S. accounting standards, and if new standards deviate from the Concept Statement principles, so be it …. there are no repercussions or consequences.”
This article originally appeared in the July 18, 2022 edition of Accounting & Compliance Alert, available on Checkpoint.
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