CPAs' and CFOs' Perceptions regarding Principles-Based versus Rules-Based Accounting Standards

By McEnroe, John F.; Sullivan, Mark | The CPA Journal, March 2012 | Go to article overview

CPAs' and CFOs' Perceptions regarding Principles-Based versus Rules-Based Accounting Standards


McEnroe, John F., Sullivan, Mark, The CPA Journal


As of today, non-U.S. companies using International Financial Reporting Standards (IFRS) are permitted to list their securities on U. S. stock exchanges without reconciling those statements to U.S. GAAP. The fact that this rule has not been extended to U.S. issuers is somewhat controversial, especially given that IFRS are considered by many to be more "principles based" in contrast to the more "rules-based" U.S. GAAP. The discussion below begins with a review of the more significant actions of the SEC over the past several years regarding the adoption, convergence, and the more recent "condorsement" of IFRS. The perceptions of auditors and chief financial officers (CFO) regarding certain attributes of principles- versus rules-based accounting standards are then considered. The authors' results should be of interest to many parties involved in the U.S. financial reporting process and especially relevant to the SEC as it deliberates on the potential use of IFRS by U.S. firms.

Background

In 2008, the SEC had considered a proposed rule (commonly referred to as the "SEC road map") that, if adopted without changes, would have required all U.S. issuers to employ IFRS by 2014 and permitted earlier adoption by some issuers. The SEC has released several other reports on the issue; the more important documents are listed in Exhibit 1, beginning with the SEC study of the adoption of a principlesbased accounting system for U.S. financial reporting. A brief summary of each document's purpose and conclusions is also included, which serves as a synopsis of the most significant SEC actions involving IFRS. The documents listed in Exhibit 1 vary in scope and purpose. Despite their diversity, perhaps the following statement by SEC Chairman Mary Schapiro in the SECs News Digest (Issue 2010-32) most succinctly summarizes the Commission's position and approach on the issue of IFRS incorporation:

For nearly 30 years, the Commission has promoted a single set of high-quality globally accepted accounting standards, which would advance the dual goals of improving financial reporting within the U.S. and reducing country-by-country disparities in financial reporting. But supporting is only the beginning of the discussion, not the end.

Principles-Based Versus Rules-Based Accounting Standards

Given the apparent movement toward permitting or requiring U.S. issuers to employ IFRS, an important and controversial aspect of IFRS should be examined more closely - that is, U.S. GAAP is viewed by many as being "rules based," while the International Accounting Standards Board's (IASB) IFRS is viewed as being "principles based." Some have suggested that a movement toward a principles-based system would provide management with too much flexibility and auditors with too little guidance, while others have suggested that a principles-based system, at least under certain circumstances, may reduce "aggressive" accounting practices.

While there is a widespread belief that principles-based standards, subject to certain conditions, are superior to rules-based standards, little has been done to test this belief. One exception is the 2003 SEC study described in Exhibit 1, where the SEC was mandated under the Sarbanes-Oxley Act of 2002 to study the impact of the adoption of the U.S. financial reporting system of a principles-based accounting system. An SEC observation resulting from the study is that even though U.S. GAAP is said to be rules based while IFRS is principles based, both regimes are based on underlying principles, and the guidance found in certain U.S. GAAP results in some standards that are principles based and others that are rules based, and the same is true of IFRS. The document also listed some of the limitations and negative impacts on financial reporting associated with the use of a strict rules-based system or a principles-based system. The SEC recommended that accounting standards setters develop them on a principles-based basis. …

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