Comparison between the IFRS and U.S GAAP on depreciation

Depreciation is the method of allocating costs to the appropriate period (Needles & Powers, 2011) It is not the whole equation for figuring out the fair market price and therefore, accountants have to use different methods for determining the fair market price. There are various methods used for financial reporting that include the U.S GAAP and IFRS. This article will compare these two systems as applied in depreciation.

GAAP is the short form of Generally Accepted Accounting Principles. The principles are used as the standard framework of guidelines for financial accounting in any given jurisdiction. They are conventions, and rules that accountants follow in recording and summarizing financial data. GAAP is imposed on companies to allow a minimum consistency in the financial statements used when analyzing companies. Investors do this when analyzing companies to invest in. GAAP covers information such as revenue recognition, balance sheet, item classification and outstanding share measurements (Shamrock, 2012). The U.S GAAP was set due to numerous changes that continuously occurred in the markets.

IFRS on the other hand in full means the International Financial Reporting Standards. It is a single set of standard that is developed and managed by the International Accounting Board. This is done with the aim of standardizing the global accounting regulations. It provides investors and other relevant people that require the information with financial statements. They provide a basis for comparison on the financial performance of companies listed on the stock market with their international peers. The companies listed on their lists are the ones that appear on the stock exchange market and are legally acquired. These companies are required to publish their financial statements according to the relevant accounting standards. IFRS is utilized by 110 nations with the aim of making businesses around the world be based on a standard system.

There have been various similarities as well as differences between the U.S GAAP and the IFRS. They lie in the financial evaluation, entity consolidation debt covenants, contingencies, revenue recognition, asset evaluation, depreciation among others. IFRS is however considered to be principle-based while GAAP is deemed to be more rule-based (Rich, 2009). Due to the convergence of the two systems, the differences are decreasing as days go by.

Depreciation is based on three methods that are based on time; they include straight-line method, declining balances-of-the-year’ digits and units-of-production. The straight-line method spreads the cost of a fixed asset over its useful life. Declining -balance is an accelerated method that results in changes in the price of the asset in different years. Sum-of-the-year’s digits, on the other hand, compute depreciation expense summing up the expected useful life of the asset compared to the number of units produced. Units-of- production, on the other hand, takes in the total number of units estimated for the asset to produce over its useful life.

On depreciation, the US GAAP allows straight-line accelerated methods and units of production. It does not allow the component depreciation which is commonly used. Depreciation methods based The IFRS allows straight-line, accelerated methods and units of production as well but when asset component have diverse benefits patterns, component depreciation is required. The impacts of this are evident. The assets with different component will have different depreciation schedules that might increase or decrease assets revenue (Needles & Powers, 2011).

In straight-line depreciation, the asset’s cost is charged evenly throughout its life. It is seen as appropriate in economic benefits from assets that are expected to be realized evenly throughout its life and in cases where no reliable estimates can be made regarding the economic benefits’ pattern to be derived over an asset’s useful life (Shamrock, 2012). Accelerated depreciation, on the other hand, refers to any method which a company may use for financial accounting or taxation that depreciates fixed asset in a way that the fixed amount taken decreases each year (Rich, 2012).

In both systems, fixed assets are valued at a cost but after initial recognition, IFRS allows the assets to be adjusted up to affair value according to the nature and use of the asset. The value that is considered fair always has an alternative that is not used often in the appraisal costs that are involved. While IFRS requires component depreciation, U.S GAAP does not. This is when patterns of the economic benefits differ from the main asset (Deloitte, 2009). The latter permits component depreciating but does not require it. For I stance, an airplane might be considered a single asset under the U.S GAAP while in IFRS, different components of the airplane are valued differently. This means that the depreciation expense of the same asset will be different in the two systems. There are times the depreciation expense will be lower using IFRS and others higher than when using GAAP.

IFRS allows the use of LIFO in determining the cost of inventories. It, however at times consider FIFO (first in, first out) method in specific considers ions. An average cost formula is also allowed. In the U.S GAAP, inventory write-downs are allowed to be used in item-by-item basis. We can, therefore, conclude that IFRS allows inventories that were previously written down to market value to be reversed while U.S GAAP prohibits reversals of inventory write-downs (Deloitte, 2009).

There has, therefore, a gap between GAAP and IFRS. It has however been considerably reduced by the combination of the two systems due to pressure mounted on

the U.S and some countries by the SEC adoption of the International Standards and financial meltdown as has been witnessed in the recent years. The impacts of this have been felt all across the accounting arena. It impacts the corporate management, the accounting professionals, investors and stock markets.

References

Deloitte (2009), IFRS survey 2009 in Private Companies

Needles, B. E., & Powers, M. (2011). International financial reporting standards: An introduction. Mason, OH: South-Western Cengage Learning.

Rich, J. S. (2012). Cornerstones of Financial & managerial accounting. Mason, OH: South-Western/Cengage Learning.

Shamrock, S. E. (2012). IFRS and US GAAP: A comprehensive comparison. Hoboken, N.J: John Wiley.