A recently published survey of 110 countries has indicated that use of International Financial Reporting Standards (IFRS) is permitted currently in more than 70 per cent of these jurisdictions, with their use already mandatory for listed entities in 65%. However there has also been recognition of their potential complexity, with only 25% of jurisdictions requiring use of IFRS by unlisted entities.
Adoption is expected to increase further, encouraged by active programmes to converge the requirements of financial reporting standards across the major worldwide economies. To achieve this will, in some cases, require further changes to national financial reporting standards and IFRS. As well as the convergence programme, IFRS are also revised to reflect the increasing complexity of commercial and financial activities, together with the growing expectations of users of financial statements.
IFRS include the remaining older international standards, known as International Accounting Standards (IAS).
Making the choice
Where there is a choice, the decision as to which GAAP to adopt is for our clients to make. However, we can provide advice to clients on the factors they should consider in reaching their decision. The following factors may indicate that it would be appropriate for clients to move to IFRS:
- expectation of listing in the foreseeable future;
- membership of an international group which will be adopting IFRS, either because it will be mandatory, or because it will ease the consolidation process (in determining if this is the case, attention will need to be paid to the countries in which other group entities are incorporated and whether they will be required or allowed to adopt IFRS);
- whether the change to IFRS will be irreversible, once made.
Particular issues may arise with taxation:
- whether taxation liabilities will be based on the accounting framework adopted, which means that entities whose profits are reduced by a change to IFRS may be able to reduce their tax bills accordingly;
- whether taxation liabilities will continue to be based on national financial reporting standards differing from IFRS. This could require the preparation of two differing sets of financial statements, together with recognition of the related deferred taxation in the financial statements prepared in compliance with IFRS.
This could mean that entities are able to reduce their tax liabilities for one year by the move to IFRS, but find that in later years their tax bills are higher than they would otherwise be. A decision to change the basis of financial reporting as a result of the short term impact on tax liabilities should not be taken without consideration of the longer term and practical implications. But it will not always be possible to predict the future impact on profits that the change to IFRS will cause.
Making the change
The transition to IFRS is governed by IFRS 1: First-Time Adoption of International Financial Reporting Standards. The basic requirement is that entities apply IFRS as though they had always reported in accordance with those standards. This means that entities will need to produce an opening balance sheet in accordance with IFRS as at the first date of the comparative period. For companies with a 31 December 2005 accounting reference date, this means they will need a balance sheet prepared under IFRS as at 1 January 2004, effectively 31 December 2003.
Many international standards had transitional provisions when they were first issued. However none of those transitional provisions will be available to companies adopting IFRS for the first time. IFRS 1 does itself allow a limited number of transitional provisions, particularly in the areas of business combinations, deemed cost and pensions.
The transition to IFRS will require work not only at the preceding financial reporting year end but also the one prior to that if a modification to the audit report is to be avoided. The decision to change financial reporting basis must recognise the cost and practical issues arising from the obtaining all necessary information. It may be expensive, difficult, or even impossible, to obtain that information retrospectively. The transition needs to be planned well in advance using good knowledge of the issues likely to arise.