AICPA Continues to Build SME Framework

Many small private businesses are frustrated by the complexity inherent in U.S. Generally Accepted Accounting Principles (GAAP) and want to use a simpler alternative accounting framework. The American Institute of Certified Public Accountants (AICPA) recently released a sample of what financial statements prepared under its Financial Reporting Framework for Small- and Medium-Sized Entities (SMEs) might look like. 

The non-authoritative framework uses historical cost as its primary basis of measurement and draws upon a blend of traditional accounting principles and accrual income tax methods of accounting. 

What’s included in the illustration?

In June 2013, the AICPA issued its SME framework. Now it’s followed up with the Illustrative Financial Statements Prepared Using the Financial Reporting Framework for Small- and Medium-Entities to demonstrate how financial statements might be prepared under the simpler framework. The illustration presents sample financial statements prepared under the SME framework and GAAP.

It includes basic financial statements for the fictional Alpha Contractors Inc. (an industrial and commercial construction company in the southeastern region of the United States) and a wholly owned corporate subsidiary (Beta Building, which primarily leases land and buildings) as of December 31, 2013, and 2012. These illustrative statements include the following components:

• The independent auditor’s report, 
• Financial information, 
• Consolidated statements of revenues, expenses and retained earnings, and 
• Footnote disclosures. 

The first set of footnotes contains a summary of significant accounting policies that describes the basis of accounting, noting that the financial statements have been prepared in accordance with the SME framework. The sample provides no supplemental schedules that customarily accompany basic financial statements under the SME framework or GAAP, however.

In the illustration, the footnotes indicate the subject matter generally required to be disclosed. But they should be expanded, reduced or modified to suit individual circumstances and materiality considerations.

What’s different?

In the illustration, the primary differences between Alpha Contractors’ financial statements based on the SME framework and those based on GAAP are:

Deferred taxes. The SME framework, unlike GAAP, doesn’t require the recognition of deferred taxes. In the financial statements based on the SME framework, Alpha Contractors adopts the taxes payable method of accounting for income taxes. Under GAAP, Alpha Contractors is required to follow the deferred taxes method, including the accounting guidance for uncertainty in income taxes, and makes the related disclosures.

Long-lived assets. The SME framework doesn’t require impairment testing of long-lived assets. So, the financial statements based on the SME framework don’t include the impairment of long-lived assets disclosure in the summary of significant accounting policies. The GAAP-based financial statements do include this disclosure. 

These differences help smaller companies understand how their financial statements might differ under the alternative accounting framework. The SME framework also provides simplified reporting requirements for other complex issues, such as accounting for business combinations, derivatives, leases and stock-based compensation. 

In some cases, companies may also decide to include disclosures that aren’t explicitly required under the SME framework, because management decides that they are necessary to provide “fair presentation” to financial statement users. For example, in the illustration, the management of Alpha Contractors chose to disclose extra details about its contracts receivable and backlog from work to be performed on uncompleted contracts.

Who’s eligible to use the SME framework?

The SME framework isn’t intended to be a substitute for GAAP when GAAP-based financial statements are required. Before adopting this simplified accounting framework, companies must evaluate their financial reporting needs and responsibilities to determine whether the SME framework is a suitable accounting option to use in the preparation of their financial statements. 

Nonprofits, public entities, businesses with foreign operations and companies considering a public offering may be better off sticking with GAAP. Always discuss your decision to use the SME framework with your lenders, shareholders and accountants before proceeding. 

SME framework and IFRS 

It’s interesting to note that the Financial Reporting Framework for Small- and Medium-Sized Entities (SMEs) is based on a Canadian standard for private companies. This standard, in turn, is based on the International Accounting Standards Board’s (IASB’s) International Financial Reporting Standards (IFRS) for SMEs. 

The Financial Accounting Standards Board and IASB can’t seem to merge U.S. Generally Accepted Accounting Principles and IFRS. But it seems that smaller businesses are gradually moving in that direction. 

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