Written by: nablasol

GAAP and IFRS are two different sets of accounting and reporting principles that apply to businesses. Learn more about the differences between GAAP vs. IFRS and how each works.

What is GAAP?

Ubiquitous in the worlds of business and finance, GAAP is an acronym for Generally Accepted Accounting Principles. GAAP refers to a common set of accounting standards, principles, and procedures issued by the Financial Accounting Standards Board (FASB). An external audit usually determines GAAP compliance.

GAAP is sometimes qualified as the U.S. Generally Accepted Accounting Principles in international dealings since it sees primary use within the United States. While businesses with under $5 million in yearly revenue are not required to follow GAAP, many do. However, those that do bring in $5 million or more per year must follow the GAAP guidelines to avoid possible fees, fines, and even criminal charges. 

Regardless of revenue, the Securities and Exchange Commission (SEC) mandates that all publicly-traded companies adhere to GAAP. While not required by law for non-publicly traded companies bringing in less than $5 million annually, GAAP compliance is still critical for cultivating a favorable perception from creditors and lenders. Most banks and financial institutions require GAAP-compliant financial statements when issuing business loans.

The 10 Principles of GAAP

GAAP is comprised of ten core tenets or principles. While GAAP may apply differently depending on whether a business uses cash vs. accrual accounting, the general principles remain the same. These principles are: 

1. The Principle of Regularity: The adherence to GAAP rules and regulations as a standard.
2. The Principle of Consistency: The application of the same standards throughout the reporting process to ensure financial comparability between periods.
3. The Principle of Sincerity: The provision of an accurate and impartial depiction of a company’s financial situation.
4. The Principle of Permanence of Methods: The commitment to using procedures used that are consistent, allowing comparison of the company’s financial information.
5. The Principle of Non-Compensation: The reporting of both positives and negatives with complete transparency and without the expectation of debt compensation.
6. The Principle of Prudence: The commitment to using fact-based financial data representation without speculation.
7. The Principle of Continuity: The commitment to operating a business while simultaneously valuing assets.
8. The Principle of Periodicity: The reporting of revenue during the appropriate accounting period.
9. The Principle of Materiality: The commitment to fully disclose all financial data and accounting information in financial reports.
10. The Principle of Uberrimae Fidei (utmost good faith): The commitment to honesty in all transactions.

What is IFRS?

IFRS, which stands for International Financial Reporting Standards, are principle-based reporting guidelines primarily utilized outside of the United States — in fact, more than 144 nations have committed to using IFRS. The IFRS are administered by the IASB or International Accounting Standards Board. 

With business dealings being notoriously opaque in the past, IFRS was explicitly designed to prioritize transparency for the sake of lenders and investors alike. The IFRS contains detailed instructions for record-keeping and financial reporting alongside guidelines for universal accounting practices.

What Does IFRA Require?

IFRS contains guidelines for creating five mandatory financial statements:

1. Statement of Financial Position: This document is equivalent to the balance sheet.
2. Statement of Cash Flows: This statement outlines financial transactions conducted during a specific period broken into three categories: operations, investing, and financing.
3. Statement of Comprehensive Income: Similar to a profit and loss statement, but this document also includes non-direct income.
4. Statement of Changes in Equity: Essential for investors, this statement details a business’s change in earnings during a specific period. Often, the statement of changes in equity is referred to as a statement of retained earnings.
5. Accounting Policy Report: While not a financial statement, this report details a business’s accounting approach to safeguard against strategically opaque accounting practices. 

Related Reading: Accounts Receivable

 

What is the Difference Between GAAP and IFRS?

As previously mentioned, the most notable difference between the two standards is their scope; while GAAP is primarily prevalent only in the United States, IFRS is used worldwide. This may change in the future — the SEC has been coaxing an American shift to the IFRS for some time now — but many American businesses do not see this transition as a priority. 

Another significant difference is that while GAAP seeks to enforce rules, IFRS is guided by principles. This becomes apparent in each standard’s language — while GAAP is rather particular, IFRS provides a more general overview of its tenets. As a result, IFRS does allow some room for interpretation. However, many experts consider IFRS to be more effective and representative of applicable business reporting, likely due to its inherent logic. 

Another primary difference is IFRS’s treatment of “intangible assets” — assets that, while not physical in nature, help a business’s bottom line. Common examples of intangible assets are concepts like brand recognition, brand goodwill, and intellectual property. Whereas GAAP does not provide guidelines for reporting intangible assets, IFRS very much does. 

Related Reading: eCommerce Accounting 

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