The American Institute of CPAs recently urged smaller, privately held companies to adopt its new accounting guidelines called "Financial Reporting Framework for Small and Medium-Sized Entities." Designed to make financial reporting to banks and the Internal Revenue Service easier, there are some notable differences between the new guidelines and the U.S. Generally Accepted Accounting Practices.
Asset value is the first major difference between the FRF and U.S. GAAP accounting guidelines. Smaller companies may use market value, rather than fair value, to determine the value of an asset. Fair value calculations use complex math, research, data and assumptions to assign a dollar value to an asset. Market value essentially means what someone is willing to pay for an asset. A small business owner may state he received an offer to buy a piece of property for $100,000, which may be higher or lower than a price based on a professional appraisal.
The framework document simplifies accounting guidelines by omitting standards for subsidiaries. Small- and medium-sized businesses do not necessarily have to separate profits, inventory, assets and liabilities of various divisions, subsidiaries or departments. The reason for the difference is that most people and entities, except for the IRS and banks, probably are not interested in these specifics.
The historical cost approach is used for investments, meaning market values do not come into play. The FRF accounting guidelines make an exception for property held for sale, in which case the company states the market value of the investment.
Owners that lease items can account for them as capital or operating expenses within the framework, even though the Financial Accounting Standards Board proscribes leases as liabilities on balance sheets for publicly traded companies. Revenue under the FRF is principle-based, which means companies can assume their products and services will be paid for if revenue collection is reasonably certain after the goods or services are delivered. U.S. GAAP accounting guidelines for revenue recognition are in the process of being updated.
The key factor that fosters quicker adoption of the new financial reporting framework guidelines involves banks. The 188-page condensed version of the AICPA's rules needs to have a trickle-down effect from banks to small businesses. If banks switch to these new guidelines in order to ascertain the creditworthiness of a business, small business owners must comply or be denied loans. Many banks understand U.S. GAAP rules better, even though small, private firms are not required to follow the same accounting standards as publicly traded companies.
One easy solution for small business owners involves hiring an accountant who knows these rules and guidelines. Although hiring an accountant costs money and reduces profits, a mistake on a balance sheet may make a huge long-term difference with lower loan rates and more accurate IRS reporting.
Accounting firms that seek more clients now have another method to recruit paying customers. Accountants familiar with the FRF document show their worth to small business owners and firms looking to hire them for tax season.
New accounting guidelines are confusing for everyone, but U.S. GAAP standards are not appropriate for all U.S. companies. The new private-company framework is a step in the right direction for small business owners, banks and accountants looking for a better way to communicate with each other.
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