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Katherine Schipper, “Principles-Based Accounting Standards”, Accounting Horizons, March 2003

The U.S. accounting system moves from the rule-based standards to the principle-bases standards. Furthermore, the section 108 of the Sarbanes-Oxley Act of 2002 required that the Securities and Exchange Commission (SEC) to draft a report on the principles-based accounting standards that would better align the interests of management and auditors with investors.

Several scope and treatment exceptions are the reason that U.S. financial reporting standards are viewed as rule-based. In the view of high quality financial reporting, the current U.S. financial reporting system based on the rule-based standards is inappropriate because the principle-based standards allow the appropriate exercise of professional judgment. The rule-based standards increase the complexity and add to the length of the standards. Although some have claimed the rule-based standards are required for the sake of comparability, verifiability, opportunities for earnings management, and enforcement and litigation, such opinion should be denied because of not enough evidence.
As far as U.S. Generally Accepted Accounting Principles (GAAP) provides the three basic elements of Conceptual Framework such as comparable, relevant, and reliable financial reporting, it requires the principle-based standards. The reason is that rule-based standards sometimes cause the conflict among Concept Statements by Conceptual Framework. Rather, it is required a single accounting treatment to avoid complexity and conflict.

However, when U.S. adopts the principle-based standards, several issues will occur. These issues are accounting education, volatility of reported income, inconsistencies in financial reporting, and transition. Without scope and treatment exceptions, volatility in reported income would increase. Further, the companies will rewrite the historical financial reports according to the principles-based standards. During the transition period, the quality of financial reporting may be temporarily diminished. In addition, this transition will require the greatest cost on prepares and auditors. Those issues would impair consistency and comparability of the financial statements.

Posted on 07/19/2008 | in books, travel | Tags: accounting