US GAAP versus IFRS Essay
US GAAP versus IFRS
Due to the controversy economies have had towards which method to use for accounting, there has been a compromise to converge the two most commonly used methods – GAAP and IFRS. However, these two methods are still very different. The convergence project has yet to be completed; in the meantime, more and more countries are running towards the IFRS since it is more reliable and relevant. The main difference between these two methods is the US GAAP is rule-based while the IFRS is principle-based; this means that the US GAAP makes its decisions based on research and literature, while the IFRS bases its decisions on patterns that result in facts.
A deeper look into the differences between these two methodologies shows that there’s a distinguishable diversity between their approaches for revenue recognition, valuation of assets, assessing impairment of long-lived assets, financial statement presentation, and changes in accounting policy and correction of error. When it comes to revenue recognition, there are a lot of similarities between GAAP and IFRS; however, the differences that exist are greater. The main difference is the specificity of when revenues are recognized. GAAP focuses more on the industry, and places different rules for different industries (Ernest & Young, 2011b).
GAAP has specific rules to rendering of services with software, and also GAAP has prohibited the use of long-term contract accounting for industries other than construction, while IFRS allows the use of it as long as revenues and costs can be measured reliably and benefits are probable (Ernest & Young,2011b). Also, construction services have different accounting methods. GAAP can either use percentage of completion or the completed contract method; however, IFRS prohibits the use of the completed contract method, and uses the percentage of completion method.
This means that IFRS recognizes its revenues after each period according to how far the project has been completed, while GAAP may wait until the entire project is completed to recognize its revenues (Ernest & Young, 2011 b). Valuation of assets is considered a great difference between the two methods. GAAP always records its assets at historical price – the price paid at the point of sale – and not at their fair market value – an estimate of the price of an asset in the market today – which has had a lot of accountants say that historical cost is unreliable and irrelevant. IFRS, on the other hand, records its assets at fair market value, as long as there is market for the assets being revalued (Ernest & Young, 2011b). Assessing the impairment of long-lived assets are slightly different.
At first both GAAP and IFRS test for impairment if indicators exist, but it is the test that is different. GAAP has two steps that need to be followed in order to assess the impairment. First, it needs to assess if the impaired asset is recoverable, if not, then it proceeds to the next step, which is to calculate the impairment loss. IFRS has only one step, which is to calculate the recoverable amount.
If the recoverable amount is less than the carrying amount – value of asset after deducting depreciation – then the carrying amount needs to be reduced to the recoverable amount and the difference between them is the impairment loss (Earnest & Young, 2011 a). Financial statement presentation varies from GAAP to IFRS. The first variation is the financial period required for comparison. GAAP requires public companies to include the previous 2-year periods of their balance sheets, and 3-year periods of their other statements.
The IFRS needs to include all the financial statements of the previous period only. Another variation is the extraordinary items. They are recognized in GAAP’s income statement, while prohibited in IFRS (Grant Thornton, 2010). Changes of accounting policies and correction of errors have different impacts on GAAP and IFRS. When a correction of error is necessary, GAAP needs to go back to prior periods to adjust the error and reissue the statements, while IFRS includes errors of prior periods in the upcoming statements of the current period. GAAP has more literature to what needs to be done when changes of accounting policies occur, which do not exist for IFRS (Grant Thornton, 2010).
Ernest & Young, LLC. (2011a). Impairment of long-lived assets, goodwill, and intangible assets. Retrieved from http://www.ey.com/Publication/vwLUAssets/Impairment_of_long_lived_assets,_goodwill_and_intangible_assets/$FILE/ME_Impairment%20goodwill%20and%20intangible.pdf Ernest & Young, LLC. (2011b). US GAAP versus IFRS the basics. Retrieved from http://www.ey.com/Publication/vwLUAssets/US_GAAP_v_IFRS:_The_Basics/$FILE/US%20GAAP%20v%20IFRS%20Dec%202011.pdf Forgeas, R. (2008). Is IFRS that different from U.S. GAAP? Retrieved from