IAS 8 Definition of accounting policies: The specific principles, bases, conventions, rules, and practices applied by an entity in preparing and presenting financial statements.
Accounting policies are procedures an entity uses to prepare its (consolidated) financial statements. Unlike accounting principles, which are rules, accounting policies are the standards for following those rules and define the fundamental policies that act as the financial reporting framework or basic structure of financial reporting in the financial statements in which these accounting policies are included.
These policies may differ from company to company, but all accounting policies are required to conform to generally accepted accounting principles (GAAP) and/or international financial reporting standards (IFRS).
- An enterprise’s financial statements must include a clear and concise description of the significant accounting policies adopted.
- As a minimum, disclosure of information on accounting policies must be provided in the following situations:
- When a selection is made from alternative acceptable accounting principles and methods;
- When accounting principles and methods used are peculiar to an industry the enterprise operates in, even if these are predominately followed in the industry.
- Accounting policies should be presented as the first note to the financial statements.
The accounting policies adopted by an entity are applied consistently to all similar items or, if it is permitted by a standard, to all similar items within a category. An exception occurs when a standard allows the application of different methods to different categories of items. [IAS 8 13]
|Accounting policies selected in accordance with IFRS do not need to be applied when their effect is immaterial. [IAS 8 8]
Consideration of materiality is also relevant when making judgements about disclosure, including decisions about whether to aggregate items, and/or use additional line items, headings or subtotals. Material items that have different natures or functions cannot be aggregated. In addition, IFRS does not permit an entity to obscure material information with immaterial information. [IAS 1 30A–31]
|For the purposes of consolidation or by equity-method investees, the financial information of all subsidiaries and investees is prepared/adjusted for consistent IFRS application on the basis of IFRS applied by the Group/parent company. Additionally, uniform accounting policies are used throughout the group for like transactions and events. [IFRS 10 19, IFRS 10 B87, IAS 28 35]|
Selecting and applying accounting policies
Derived from: Guide to Selecting and Applying Accounting Policies—IAS 8
When an IFRS Standard specifically applies to a transaction, other event or condition, an entity determines the accounting policy or policies for that item by applying the Standard.
In the absence of an IFRS Standard that specifically applies to a transaction, other event or condition, preparers of an entity’s financial statements use judgement in developing and applying an accounting policy that results in information that is (a) reliable and (b) relevant to the economic decision-making needs of users of financial statements (IAS 8 10). How preparers develop and apply such an accounting policy depends on whether IFRS Standards deal with similar and related issues.
Steps for selecting and applying accounting policies for a transaction, other event or condition
Step 1—Consider whether an IFRS Standard specifically applies to the transaction, other event or condition
If an IFRS Standard specifically applies to a transaction, other event or condition, an entity applies the requirements of that Standard. The entity does so even if those requirements do not align with concepts in the Conceptual Framework for Financial Reporting (Conceptual Framework See first two examples below).
|Why does an entity apply the Standard that specifically applies?
An entity applies the requirements of the Standard that specifically applies because:
Example – A levy triggered when an entity generates revenue in two years
A government charges a levy on entities as soon as they generate revenue in 2021. The amount each entity pays is calculated by reference to the revenue it generated in 2020. The levy is within
An entity’s reporting period ends on 31 December 2020. The entity generates revenue in 2020, and in 2021 it starts to generate revenue on 3 January.
IFRIC 21 Accounting policies Accounting policies Accounting policies
Conceptual Framework Accounting policies Accounting policies Accounting policies
Condition (a) is satisfied progressively in 2020 as the entity generates revenue in that year. If at that time the entity has no practical ability to avoid generating revenue in 2021, condition (b) is also satisfied. The liability would be viewed as accumulating as the entity generates revenue in 2020.
When to recognise a liability Accounting policies
Example – Classification of a financial instrument with no contractual obligation to deliver cash or another financial asset
An entity issues a financial instrument. The terms of the instrument neither oblige the entity to pay dividends or interest to holders of the instrument, nor oblige it to redeem the instrument. However, the instrument includes a ‘dividend blocker’—a term specifying that the entity cannot pay dividends to its ordinary shareholders unless it has paid dividends of a specified amount to holders of the instrument. The effect of the dividend blocker is that the entity may be economically compelled to pay dividends of the specified amount to instrument holders, despite having no contractual obligation to do so. Accounting policies Accounting policies
The instrument is within the scope of IAS 32 Financial Instruments—Presentation. Accounting policies
In 2006, the Board considered whether economic compulsion affects the classification of a financial instrument. It confirmed that a contractual obligation to deliver cash or another financial asset to the holder of an instrument must be established through the terms and conditions of the instrument—IAS 32 does not require or permit factors outside the contractual arrangement to be taken into consideration. Thus, by itself, economic compulsion would not result in a financial instrument being classified as a liability applying IAS 32.
So, applying IAS 32, the entity classifies the instrument considering only its contractual obligations. An economic compulsion to pay dividends to ordinary shareholders has no effect on classification. Accounting policies Accounting policies Accounting policies
How to classify the financial instrument Accounting policies
Considerations for liabilities
For most transactions, other events or conditions, an IFRS Standard specifically applies. This is especially the case for transactions, other events or conditions that give rise to liabilities because the scope of IAS 37 Provisions, Contingent Liabilities and Contingent Assets is defined broadly. The scope of IAS 37 includes all liabilities of uncertain timing or amount and all contingent liabilities that are not within the scope of another IFRS Standard.
Furthermore, IAS 37 covers many aspects of accounting for items within its scope—it specifies which transactions and events give rise to a liability, the criteria that must be met for recognition of the liability, how an entity measures recognised liabilities initially and subsequently, and what information an entity discloses about both recognised liabilities and unrecognised contingent liabilities.
IAS 37 also addresses many of the questions that can arise in accounting for liabilities of uncertain timing or amount—uncertainty about whether an obligation exists (especially if there is a dispute or the obligation is not legally enforceable), uncertainty about when an obligation arises (especially if the outcome depends on the entity’s future actions), uncertainty about the outflows that will be required to settle the obligation, and how to account for the time value of money.
IAS 8 specifies that, in the absence of an IFRS Standard that specifically applies to a transaction, other event or condition, preparers use judgement in developing and applying an accounting policy that results in relevant and reliable information. IAS 8 goes on to specify that in making that judgement, preparers refer to and consider the applicability of, in descending order:
- the requirements in IFRS Standards dealing with similar and related issues; and Accounting policies Accounting policies
- the definitions, recognition criteria and measurement concepts for assets, liabilities, income and expenses in the Conceptual Framework. (IAS 8 10-11)
The phrase ‘in descending order’ creates a hierarchy. At the top of the hierarchy are the requirements in IFRS Standards dealing with similar and related issues. The hierarchy means that, to the extent that there are applicable requirements in one or more IFRS Standards dealing with similar and related issues, preparers of financial statements develop an accounting policy by referring to those requirements, rather than to the definitions, recognition criteria and measurement concepts in the Conceptual Framework. Preparers may need to apply judgement in deciding whether there are IFRS Standards that deal with issues similar and related to those arising for the transaction under consideration. Accounting policies
In developing an accounting policy with reference to the requirements in IFRS Standards dealing with similar and related issues, preparers need to use their judgement in applying all aspects of the Standard that are applicable to an issue. Such aspects could include disclosure requirements. In other words: Accounting policies
- it might be inappropriate to apply only some requirements in an IFRS Standard dealing with similar and related issues if other requirements in that Standard also relate to the transaction for which a policy is being developed; but Accounting policies
- it might not be necessary to apply all the requirements of the Standard. Accounting policies
|Back-to-back commodity loans
A bank borrows gold from one party (contract 1) and then lends that gold to another party for the same term and for a higher fee (contract 2). The bank enters into the two contracts in contemplation of each other but the contracts are not linked. In each contract, the borrower obtains legal title to the gold at inception and has an obligation to return, at the end of the contract, gold of the same quality and quantity as that received. Each borrower pays a fee to its lender over the term of the contract but there are no cash flows at the inception of the contract.
No IFRS Standard that specifically applies
The preparers of the bank’s financial statements might conclude that no IFRS Standard specifically applies to these contracts. They might judge that:
Requirements in IFRS Standards dealing with similar and related issues
How to develop an accounting policy
If the preparers reach this conclusion, they develop an accounting policy for the contracts by referring first to applicable requirements in one (or more) of the IFRS Standards dealing with similar and related issues. The preparers use their judgement in applying all aspects of the Standard(s) applicable to those issues, including applicable disclosure requirements.
The policy developed might not be the same as one that the preparers would have developed if they had instead referred to the Conceptual Framework definitions.
Step 3—Refer to and consider the applicability of the Conceptual Framework
Preparers of financial statements refer to the definitions, recognition criteria or measurement concepts in the Conceptual Framework if both: Accounting policies
- no IFRS Standard specifically applies to a transaction, other event or condition; and Accounting policies
- no IFRS Standards deal with similar and related issues. Accounting policies
For some transactions, other events or conditions, there could be several issues to consider in developing an accounting policy. For some of those issues, IFRS Standards may deal with similar and related issues; but for other issues, there may be no such Standard. In such situations, preparers of financial statements might refer to the requirements in an IFRS Standard for some issues and to concepts in the Conceptual Framework for other issues—see below: Accounting policies
An entity and a tax authority dispute whether the entity is required to pay a tax. It is not an income tax, so is outside the scope of IAS 12 Income Taxes. Any liability or contingent liability to pay the tax is instead within the scope of IAS 37.
Taking account of all available evidence, preparers of the entity’s financial statements judge it probable that the entity will not be required to pay the tax—it is more likely than not that the dispute will be resolved in the entity’s favour. Applying IAS 37, the entity discloses a contingent liability and does not recognise a liability.
To avoid possible penalties, the entity has deposited the disputed amount with the tax authority. Upon resolution of the dispute, the tax authority will be required to either refund the deposit to the entity (if the dispute is resolved in the entity’s favour) or use the deposit to settle the entity’s liability (if the dispute is resolved in the tax authority’s favour).
Decisions required in developing an accounting policy
Whether the deposit gives rise to an asset, a contingent asset or neither
If the tax deposit instead gives rise to an asset, it may be that no IFRS Standard specifically applies to the asset. For example:
In the absence of an IFRS Standard that specifically applies, preparers of the entity’s financial statements consider first whether IFRS Standards deal with issues similar and related to those that arise for the tax deposit.
The preparers might conclude that no IFRS Standard deals with similar and related issues. IAS 38 includes a definition of an asset and requirements to apply in assessing whether particular types of expenditure give rise to assets. However, the assets within the scope of IAS 38 are non-monetary assets and the issues that IAS 38 addresses primarily concern separability from goodwill and uncertainty about the probability or amount of potential future economic benefits. The issues that preparers need to consider for a tax deposit are different from those addressed by IAS 38—the economic benefits are a determinable amount and the uncertainty relates to whether the entity will receive a refund.
If preparers conclude that no IFRS Standards deal with similar and related issues, they refer to and consider the applicability of the asset definition and supporting concepts in the Conceptual
Applying those concepts leads to a conclusion that the entity has a right that will produce economic benefits irrespective of the outcome of the dispute with the tax authority—if the outcome is favourable to the entity, the economic benefits will be the cash refund; if the outcome is unfavourable, the economic benefits will be the use of the deposit to settle the entity’s tax liability.
Although there is uncertainty about the form of the economic benefits, there is no uncertainty about the entity’s right to obtain benefits in one form or the other. Consequently, applying the Conceptual Framework asset definition and supporting concepts leads to a conclusion that the tax deposit gives rise to an asset. It is an asset, not a contingent (possible) asset, because there is no uncertainty about whether the asset exists.
Recognising, measuring, presenting and disclosing the tax deposit asset
If no IFRS Standard specifically applies to the asset, the preparers apply the IAS 8 hierarchy. They identify the issues that arise in making decisions about recognition, measurement, presentation and disclosure of the tax deposit asset and refer first to any IFRS Standards dealing with similar and related issues. The preparers could, for example, refer to and consider the applicability of requirements for financial assets in IFRS 9 and requirements for income tax assets in IAS 12.
To the extent IFRS Standards deal with similar and related issues, the preparers develop accounting policies for recognising, measuring, presenting and disclosing the tax deposit asset by reference to applicable requirements in one (or more) of those Standards. The preparers use their judgement in applying all aspects of the Standard(s) that are applicable to those issues.
To the extent no IFRS Standards deal with similar and related issues, the preparers refer to the Conceptual Framework.
Other considerations Accounting policies
Other sources of reference Accounting policies
IAS 8 states that in the absence of an IFRS Standard that specifically applies to a transaction, other event or condition, management may also consider the most recent pronouncements of other standard-setting bodies that use a similar conceptual framework to develop accounting standards, other accounting literature and accepted industry practices. Management may consider these other sources to the extent they do not conflict with the Conceptual Framework or with the requirements in IFRS Standards dealing with similar and related issues. (IAS 8 12)
General disclosure requirements Accounting policies
IFRS Standards include disclosure requirements. If no IFRS Standard specifically applies to a transaction, no disclosure requirements may specifically apply to that transaction. However, disclosure of information about the transaction may be necessary to satisfy the general presentation and disclosure requirements in IAS 1.
Presentation and disclosure requirements in IAS 1 include requirements to: Accounting policies
- present—in the statement of financial position and statement of profit or loss and other comprehensive income—line items additional to those specifically listed in IAS 1. Presenting additional items is required when such presentation is relevant to an understanding of the entity’s financial position or performance; and
- disclose: Accounting policies Accounting policies Accounting policies Accounting policies
- the nature and amount of material items of income or expense; Accounting policies
- information relevant to an understanding of any of the financial statements; Accounting policies
- significant accounting policies; and Accounting policies
- information about assumptions made about the future, and other major sources of estimation uncertainty. (IAS 1 55, IAS 1 85, IAS 1 97, IAS 1 112(c), IAS 1 117 and IAS 1 125)
In addition, if preparers of financial statements are developing an accounting policy by reference to the requirements in IFRS Standards dealing with similar and related issues, they consider all the requirements dealing with those issues, including disclosure requirements. Accounting policies
Example of importance of accounting principles
R&D Expenses – which are capitalized and which are called expenses? This is a significant consideration in financial accounting and a company needs to follow the accounting policy to recognize the expenses or the capitalization. But how it is done? R&D expenses certainly have future benefits. That’s why R&D expenses have been treated as assets rather than expenses. But when a company is expensing R&D, it doesn’t know any specific future benefits. That’s why it can’t be capitalized in most cases. Sometimes when R&D expenses have specific future benefits, it can be capitalized. As per GAAP, one should recognize R&D expenses when they’re incurred. Accounting policies
Following are examples of accounting policies:
- Valuation of inventory using FIFO, Average Cost or other suitable basis as per IAS 2 Accounting policies
- Classification, presentation and measurement of financial assets and liabilities under categories specified under IFRS 9 such as: Accounting policies
- valued at amortised cost Accounting policies
- valued at fair value through other comprehensive income, or Accounting policies
- valued at fair value through profit and loss Accounting policies
- Timing of recognition of assets, liabilities, expenses and income Accounting policies
- Basis of measurement of non-current assets such as historical cost and revaluation basis Accounting policies
- Accrual accouniting of preparation of financial statements Accounting policies
Management must consistently review its accounting policies to ensure they comply with the latest pronouncements by IASCF and that the adopted policies result in presentation of most relevant and reliable financial information for users. Accounting policies
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