HARMONIZATION OF US GAAP WITH IFR 1

Harmonization of US GAAP with IFRS

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HARMONIZATION OF US GAAP WITH IFR 1

Abstract

IFRS and US GAAP have several similarities and various striking contrasts. Both

accounting standards are reputable and authoritative yet flawed in unique ways hence the need to

harmonize and create high quality accounting standards. It is possibly difficult to trace the need

of convergence with IFRS for the US because of considerations such as independence and

influence. Nonetheless, the wheel of globalization does not allow the US to relent on the

harmonization journey because of the new opportunities of harmonization such as elimination of

corporate tax avoidance and creation of more investment opportunities. The harmonization

process may be long and costly, but the benefits are far reaching. This essay has highlighted

three main benefits of harmonization: an aligned financial presentation, consistent accounting

practice, and reduced the conversions costs.

HARMONIZATION OF US GAAP WITH IFR 1

Harmonization of US GAAP with IFRS

Introduction

Every country around the world has a unique accounting system depending on economic,

cultural, social and environmental factors. Therefore, the aims and principles of accounting vary

across countries. While this was an acceptable trend in the past, the globalization process has

specifically highlighted the importance of compatibility of financial information (Okafor,

Akindayomi, & Warsame, 2019 p. 948). The transition to a comparative and single system of

high quality accounting guidelines is a major objective for the global community.

International Financial Reporting Standards (IFRS) and US GAAP (generally accepted

accounting principles) constitute two of the most authoritative accounting guidelines in the

world. However, there are striking contrasts between IFRS and US GAAP that make it hard for

US firms to adapt IFRS reporting. These differences result in varied measurement methods,

dissimilar information disclosure requirements and variance in interpretation of financial

statements (Herman, 2020, p. 351; Winiarska, 2020, p. 16). The differences in accounting

standards have caused various financial statement users a lot of time and money especially on

consolidation of financial statements (Moy, Heaney, Tarca, & van Zyl, 2020, p. 54). Some of the

contentious areas of reporting include goodwill impairment testing, research and development

costing, treatment of intangible assets, and advertising costs (Sedki, Posada & Pruske, 2018, p.

16). These factors and more create the need for synchronization of US GAAP and IFRS. The

U.S. should work to harmonize IFRS and GAAP standards to align financial presentation

globally, promote consistency among professional accountants, and reduce the conversions for

investors and stakeholders.

HARMONIZATION OF US GAAP WITH IFR 1

Similarities and Differences between IFRS and US GAAP

Understanding the difference and similarities between IFRS and US GAAP is critical in

determining the path to harmonization.

Similarities

One of the main similarities is the principle of useful financial statements. Both

accounting frameworks identify four main principles that render financial information useful:

relevance, reliability, comparability and understandability. However US GAAP imposes a

hierarchy to these principles focusing on relevance and reliability (Moore, McKnight & Routh,

2019, p. 30). Ricketts, Riley, and Shortridge, (2018, p. 126) and Popatia (2017, p. 137) alludes

that the US GAAP emphasizes on the verifiability of financial information, a factors that is

missing in IFRS. Therefore, the two accounting frameworks agree on the basic factors of

financial reporting.

Both accounting frameworks do not permit correction of inappropriate accounting

policies through disclosure on the notes or mere identification of the flaws by the reporting

entity. Moreover, both standards allow companies to disclose additional information on their

balance sheet or sub-classify line items according to the entity’s operations either in notes or

statement of financial position (Ricketts, et al., 2018, p. 138; Moore, et al., 2019, p. 32). The

overall presentation of information is also similar as well as the definition of various items on the

financial statement. The measurements and recognition methods are also relatively similar. Both

frameworks measure cash and cash equivalents, non-current assets in similar ways and allow

companies to report changes in accounting policies and correct errors in similar ways. The

recognition of assets such as property, plant and equipment (PPE) and their resultant depreciation

is similar across the board (Popatia, 2017, P. 139). Other similarities also exist in areas such as
HARMONIZATION OF US GAAP WITH IFR 1

lease liabilities, intangible asset recognition at fair value, inventories, income tax accounting and

general revenue recognition.

Differences

One of the outstanding differences between the two frameworks is the breadth of detail.

US GAAP is a more comprehensive framework as it encompasses more explanation and

analysis. US GAAP is also rules-based while IFRS is principle–based. The shortage of detail in

the IFRS framework cast doubts on the probability of the US to denounce its accounting

framework for a less comprehensive one hence on of the factors that may hinder harmonization.

There is also a slight difference in objective despite both frameworks providing useful guidance

on financial reporting. IFRS focuses on financial statements and standards of reporting while US

GAAP also encompasses standards of reporting beyond the financial statements (Moore, et al.,

2019, p. 40). IFRS noticeable objective is to encourage reasonability and fair presentation while

GAAP provides rules-based guidance. As a result, IFRS often calls for preparers to apply

assumptions and estimates in their judgment unlike GAAP which provides more comprehensive

guidance (Popatia, 2017, P. 140). The slight contrasts in objective are factors that can be ironed

out during convergence hence a limited hindrance to harmonization.

Another significant difference is on the financial statement elements. IFRS enlists 5

elements of financial statements while US GAAP enlists ten. While IFRS only identifies assets,

liabilities and equity on the balance sheet, US GAAP treats owner investments and distributions

as separate balance sheet elements (Ricketts, et al., 2018, p. 142). On the income statement, US

GAAP defines five elements including revenues, income, expenses, losses and comprehensive

income while IFRS considers only income and expenses. Nonetheless, the fundamentals remain

similar; both frameworks recognize revenues and expenses as gains and losses and differentiate
HARMONIZATION OF US GAAP WITH IFR 1

between activities (Winiarska, 2020, p. 18). IFRS does not consider comprehensive income an

element of financial statement, an aspect that IFRS could benefit from during convergence.

Despite the similarity in fundamentals, GAAP and IFRS still differ in their treatment of

revenue. GAAP has a broad-based revenue recognition framework with numerous regulations

per sector, industry and transaction while IFRS relies on the professional judgment of the

preparers (Herman, 2020, p. 353). For service contracts, IFRS allows upfront revenue

recognition while GAAP stipulates amortization of such expenses over the service period

(Popatia, 2017, p. 136). Both positions reveal some defect on treatment of revenue. GAAP’s

multiple guidelines can sometimes result in different treatments of similar transactions while

IFRS limited guidance means that preparers must seek further clarifications from US GAAP

(Okafor, et al., 2019 p. 951). Similarly, the flexibility given to preparers by IFRS implies that

company information varies providing conflicting information to investors, government and

other financial statement users.

The orientation of the two accounting frameworks differs marginally. US GAAP is

skewed towards the income statement as opposed to the balance sheet as it attempts to address

the demands of equity holders and the capital markets. IFRS on the other hand is skewed towards

the balance sheet due to its close relationship with block-holder regimes like bank creditors

(Popatia, 2017, p. 137). These biases imply that neither of the two accounting frameworks is

entirely balanced hence the need for further modifications during convergence.

There is a unique treatment of capital maintenance by the two frameworks especially on

the treatment of changes between assets and liabilities. Majority of accounting controversy is

related to the recording of price and asset changes and the flexibility of the preparer to choose

under IFRS may not merge seamlessly with US GAAP’s specificity (Okafor, et al., 2019 p. 950).
HARMONIZATION OF US GAAP WITH IFR 1

On inventory accounting US GAAP allows for the sale of goods in order of production or

acquisition (FIFO) or in reverse order (LIFO). FIFO ensures that the financial statements reflect

the economic reality of the operating activities while LIFO captures the prevailing economic

conditions of the company (Moy, et al., 2020, p. 56). IFRS only permits FIFO unlike US GAAP

that allows companies to choose. In this regard, US GAAP is superior to IFRS (Popatia, 2017, p.

139). These glaring differences between US GAAP and IFRS paint the real picture of the various

obstacles to harmonization of these accounting guidelines.

Why Harmonize?

Given the gaping differences and perhaps an overall impression of superiority of US

GAAP over IFRS due to its attention to detail, it is possibly difficult to trace the need of

convergence with IFRS for the US. Accounting regulation is the core of proper communication

of economic position of companies from which the US economy directly benefits. Moy et al.

(2020, p. 58) argue that the ability of the US to streamline reporting of financials also impacts

revenue collection and tax compliance, a factor that literally drives economic power. The US like

every country around the world is interested in harnessing as much economic power as possible

thus its previous insistence on creating a rules-based accounting framework. However, as one of

the largest economies in the world, the US has a large base of multi-national corporations both

homegrown and foreign that contribute large amounts of revenue but still struggle to consolidate

their statements with IFRS (Moy, et al., 2020, p. 55). While independence and influence are key

considerations when adopting IFRS besides the quality and integrity of the accounting standards,

the time is rife for the US GAAP to harmonize with IFRS. There are many benefits of

harmonization. This essay will focus on three: aligning financial presentation globally,
HARMONIZATION OF US GAAP WITH IFR 1

promoting consistency among professional accountants, and reducing the conversions for

investors and stakeholders.

Aligning Financial Presentation Globally

The primary reason why the boards of both IFRS (International Accounting Standards

Board) and US GAAP (Financial Accounting Standards Board) have been working on

convergence of their accounting regulations is to ensure harmonization of financial presentation

globally. Indeed, the main incentive of harmonization is the comparability of financial

information across the board. Comparability in presentation of financial information will benefit

all stakeholders. Similarity in financial reports will enhance investor understanding of company

financial information allowing them to make informed investment decisions (Sedki, et al., 2018,

p. 18). Comparable financial statements will also attract more investors into the US economy

since international investors will have a clearer picture of what US company financial

information means reducing information asymmetry and undue information costs (Sedki, et al.,

2018, p. 18). Ricketts et al. (2018, p. 144) observe that the difference in information content

between IFRS and US GAAP often leads to loss of information which is a great disadvantage to

foreign investors. Ricketts et al. (2018, p. 144) study on SEC’s elimination of IFRS conversion

further shows that the conversion of GAAP-to-IFRS resulted did not result in loss of information

while GAAP-IFRS conversion experienced slight loss of information. These results suggest that

the harmonization of US GAAP with IFRS is beneficial as it guards against information loss.

Therefore, one of the main incentives for harmonization is aligning presentation to prevent

information loss.

Promoting Consistency among Professional Accountants

HARMONIZATION OF US GAAP WITH IFR 1

Inconsistency in reporting standards is the greatest challenge of per country accounting

frameworks. Working with different accounting standards complicates the work of professional

accountants. The differences between US GAAP and IFRS present technical accounting issues

posed by their main fundamental difference: the brevity versus longevity of IFRS and GAAP.

For example, in lease accounting, IFRS allows both parties of the lease contract to determine the

discount rate at commencement and the lessor to determine the implicit rate at inception

(Herman, 2020, p. 352). US GAAP on the other hand allows the lessee an incremental borrowing

rate and also accounts for purchase and lease contract renewal. There are further contrasts in the

re-measurement of lease liabilities and different terms for sale and lease-back transactions. These

contrasting lease treatments call for different accounting methods that are time-consuming

(Herman, 2020, p. 354). Moreover, these differences can result in increased asset values, varied

asset carrying amounts, different depreciation rates, or different presentation requirements that

make accounting complex (Winiarska, 2020, p. 16). Harmonization of GAAP with IFRS will

make work much easier for professional accountants and financial statement preparers to

compile financial reports and attain consistent numbers in the different lease arrangements.

Reducing the Conversions for Investors and Stakeholders

The US began its initial steps to accept and harmonize with IFRS because of the hustle of

conversion for investors and stakeholders. The US Securities and Exchange Commission (SEC)

has been at the forefront of economic regulation and has shown interest in enhancing the ease of

doing business for investors hence the establishment of a roadmap for IFRS reporting and

harmonization in December 2007 (Herman, 2020, p. 354). The SEC revised its regulations to

allow foreign firms report in IFRS without the requirement to convert to GAAP. The SEC is also

considering IFRS reporting for local companies which will be the ultimate win for the
HARMONIZATION OF US GAAP WITH IFR 1

harmonization process (Winiarska, 2020, p. 14). Reducing conversions implies that US

companies will attract investors easily without the need for additional financial information.

The financial statements by US companies will also appear more reliable gaining further

investor confidence and attesting faithful presentation of financial information. After evaluating

the big four accounting firms in the US, Herman (2020, p 358) identified that multinational

companies audited by these firms are likely to have easier access to international credit and

grants from global grantors like the World Bank. Similarly, both governments and companies

will find it easier to file their tax returns. The US government will also be able to clearly

understand company activities improving their tax collection (Herman, 2020, p. 353). In

Canada, the adoption of IFRS resulted in increased revenue collected compared to US firms that

applied GAAP (Okafor et al., 2019 p951). Borrowing the evidence from Canada, the accrual

management under IFRS will be more beneficial to the US economy than accrual management

under US GAAP since it reduce corporate tax avoidance. The harmonization will result in

transaction ease for investors and companies especially during merger and acquisition activities

due to enhanced efficiency and comparability of the financial reporting. This will in turn even

the playing field for amateur investors who will now have simple and good quality financial

information improving their capacity to make business decisions.

Conclusion

International Financial Reporting Standards (IFRS) and US GAAP (generally accepted

accounting principles) are both authoritative accounting guidelines. It is beneficial for the US to

adopt IFRS standards despite the glaring differences in treatment of some financial statement

elements. The harmonization will ensure an aligned financial presentation, consistent accounting

practice, and reduced the conversions costs. The incentives for conversion are greater than the
HARMONIZATION OF US GAAP WITH IFR 1

disincentives and the benefits are far reaching for all investors including the US government,

companies and investors.

HARMONIZATION OF US GAAP WITH IFR 1

References

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intermediaries. Accounting History, 25(3), 349-374.

Moore, A. B., McKnight & Routh, T. B., (2019). Disclosing tax consequences of a LIFO repeal:

Considerations toward an ethical decision-making model based on potential convergence

of IFRS & US GAAP. Journal of Theoretical Accounting Research, 14(2), 29-45

Moy, M., Heaney, R., Tarca, A., & van Zyl, W. (2020). Conditional accounting conservatism:

Exploring the impact of changes in institutional frameworks in four countries. Journal of

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Okafor, O. N., Akindayomi, A., & Warsame, H. (2019). Did the adoption of IFRS affect

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Popatia, K. (2017). IFRS & GAAP: Reconciling differences between accounting systems and

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Ricketts, R. C., Riley, M. E., & Shortridge, R. T. (2018). Information content of IFRS versus

GAAP financial statements. Journal of Financial Reporting and Accounting. 16(1), 120 -

137

Sedki, S. S., Posada, G. A., & Pruske, K. A. (2018). Differences between US GAAP and IFRS in

accounting for goodwill impairment and inventory: Tax treatment under the internal

revenue code. Journal of Accounting & Finance (2158-3625), 18(4).

Winiarska, K. (2020). Differences between new IFRS and US GAAP lease standards and their

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