Essay Example on Comparing IFRS & GAAP for Recording AFS Instruments

Introduction

The International Financial Reporting Standard (IFRS) and Generally Accepted Accounting Principles (GAAP) stipulates that reporting of the financial instruments available for sale should be at their market value in the balance sheet (Shamrock, 2012). The GAAP highlights that recording of the permanent impairment of the available for sale (AFS) financial instruments should appear as the income. The IFRS permits any write-ups for the inventory, financial securities, and plant, property, & equipment. On the foreign currency exchange, the IFRS requires reporting the resulting gain as an income and any arising loss on the income statement. In this case, the foreign currency exchange gain of $4000 regarding the short-term investment available for sale will not impact the balance sheet because its already included under the GAAP method. It will appear as a non-operating income under IFRS in the income statement.

Is your time best spent reading someone else’s essay? Get a 100% original essay FROM A CERTIFIED WRITER!

Save 25%

Inventory valuation

Unlike Under GAAP, IFRS uses FIFO. The costs of sales reflect the difference between GAAP and IFRS in the income statement and LIFO reserve in the balance sheet. Under the FIFO approach, the value of the inventory will increase by the amount equivalent to the difference between the opening and closing LIFO reserve balance. Jaunty Coffee Company will report a higher inventory by $10000 ($45000 - $35000) under the FIFA method, which is the increase in the LIFO reserve balance at the end of the year. Additionally, the company will increase the stock balance by $35000 under FIFO to reflect the opening balance of the LIFO reserve at the start of 2012. The impact will raise the FIFO inventory by $45000 ($10000 + $35000). As a result of the increase of the ending FIFO inventory by $45000, there will be a corresponding increase in the differed tax liability of $15750 (35% * $45000) and an improvement of the retained earnings by $29250 ($45000 - $15750).

The long-term contingencies lawsuit

Reporting of the contingency loss under GAAP and IFRS differs significantly. When the contingency loss is more likely, IFRS requires reporting the loss as a contingency liability payable in the balance sheet. On the other hand, GAAP stipulates that the amount of the contingency loss appear on the disclosure part of the financial information. The $10000 long-term contingencies loss Jaunty Coffee is likely to incur will increase the contingence liability payable by $10000 under IFRS, but will appear in the footnote under the GAAP.

Tax rate

The tax rate is crucial for determining the current tax liability arising from the difference between the net income under GAAP and IFRS. Since the net income under IFRS is higher than under GAAP, there will be an increase in the current tax liability payable from switching from the US GAAP to IFRS.

Fair market value

The fair market value amounting to $10000 and $20000 for copyright and trademark, respectively, will reflect in the balance sheet under IFRS. However, there will be no change in the two methods for the market value of the goodwill. In this, under IFRS, the value of the copyright and trademark will increase from $7000 and $17000 to $10000 and $20000, respectively. The value of the goodwill will remain the same under the two approaches. Under IFRS, the increase in the fair market value will offset the previous impairment on the copyright and trademark, and excess to increase the retained earnings.

Flood damage

The flood damage is an extra-ordinary item that IFRS does not recognize, and therefore does not impact the balance sheet (Harris & Arnold, 2013). In the case of the Jaunty Coffee company, there is no change in the balance sheet regarding the flood damage

Plant, property, & equipment (PP&E) and intangible assets

IFRS supports firms to revalue both tangible and intangible assets. In this, the increase in the value of the PP&E increases the accumulated depreciations and decreases the retained earnings. Similarly, the increase of the impairment loss lowers the amount of the shareholders' equity.

Impairments

Impairment loss lowers the value of the underlying asset and retained earnings. Under both methods, goodwill remains the same. Jaunty Coffee will record the same value of the goodwill under both regulations.

Similarities and Difference on the Additional Information Items

1). Both the GAAP and IFRS facilitate the impairment of tangible and intangible assets on a yearly basis. Therefore, an impairment loss will amount to a decline in the value of the asset under the two methods. Besides, IFRS and GAAP facilitate reporting of the impairment loss from assets (Intangible and tangible) in the income statement.

2). Both IFRS and GAAP permits reporting of securities available for sale at their fair market value in the balance sheet, and the resulting income or loss from foreign currency exchange is non-operating income (loss).

3). IFRS and GAAP recognize contingency loss/liability when it is likely or probable to happen. In both cases, the anticipated loss from flood damage is a contingency liability payable.

4). Under both techniques, there is no goodwill and other intangible assets amortization, especially if they have an unspecified useful life.

Recommendation

The accounting treatment for some accounting transactions differs between the US GAAP and IFRS. The primary reason for the difference noted in the two accounting approaches is that the US GAAP and IFRS are rule-based and principle-based, respectively. One of the items affected is STOCK. The US GAAP employs LIFO to value inventory while IFRS permits FIFO. Under IFRS, the use of FIFO inflates the inventory and consequently decreasing the cost of sales and increasing the net income. In the case study of jaunty Coffee Company, moving from the GAAP approach to IFRS raise inventory and the income before tax by $45000. Therefore, inflating the income reported. The LIFO method is the recommended approach for preparing a financial report for tax purposes. Since FIFO advocates selling the older stock first, it is appropriate for valuing inventory.

Both the US GAAP and IFRS measures and report available for sale securities at their fair value. However, the difference between the two occurs when reporting any gain or loss from AFS securities. In the case of the GAAP, gain or loss from the foreign currency exchange does not reflect in the income statement, but it appears in the comprehensive statement of income. Gains or losses from AFS are non-operating items, which should reflect on the income statement under other non-operating income or losses. At this moment, IFRS is the appropriate approach for treating the reported gain for AFS from foreign currency exchange.

IFRS does not differentiate gains or losses from extra-ordinary items when reporting on the income statement from other gains and losses. However, gains or losses from extra-ordinary items are non-operating transactions that should appear on the balance sheet. It means that the IFRS does not recognize the impact of the unusual items on the financial report. The damage of $15000 from the flood should reflect as an extra-ordinary item in the income statement, which reduces the retained earnings. At this moment, the use of the US GAAP is suitable for reporting the impact of the extra-ordinary items.

The US GAAP and IFRS allow the adjustment of the value of the assets to reflect their market value. The GAAP is more conservative and observes the lower of market value or cost to report revaluation of assets. At the same time, IFRS permits the management to report assets according to their market valuation. In this case, reporting the lower of cost or fair market value is the best approach to value assets because it eliminates chances of inflating assets by managers for selfish motives. Therefore, the US GAAP is appropriate for reporting the value of tangible and intangible assets. Compared with IFRS, GAAP demonstrates consistency and its proper for comparison from one period to another. It appears that the IFRS fair market model of revaluing assets is likely to be subjective than being objective because market conditions and other factors affect the value of assets, and they differ from one location to another. As a result of this, the US GAAP is the appropriate method when preparing a financial report for income tax reasons because it does not inflate the net income, and consequently, the retained earnings. Besides, the US GAAP is conservative when reporting assets, and thus promoting consistency and objectivity.

References

Harris, P., & Arnold, L. W. (2013). US GAAP Conversion to IFRS: A Case Study of The Balance Sheet. Journal of Business Case Studies (JBCS), 9(2), 133-140. https://doi.org/10.19030/jbcs.v9i2.7699

Shamrock, S. E. (2012). IFRS and US GAAP: A comprehensive comparison. New York: John Wiley & Sons.