Accounting Policies and Accounting Estimates [Agenda paper 26]

Background

When an entity changes an accounting policy it restates its comparative information as if the policy had always been applied. When an entity changes an estimate the consequences are recognised in the period of the change. The IASB has been considering ways to clarify the distinction between an accounting policy and an accounting estimate. The Board published an exposure draft in September 2017 proposing amendments to IAS 8.

At this meeting the Board will discuss a summary of the comments received on that exposure draft.

Staff analysis

Almost all respondents state that the proposals in the Exposure Draft would provide more clarity on how accounting policies relate to accounting estimates. But some respondents, question whether the proposals would result in sufficient improvements to make it appropriate for the Board to finalise the proposals. One respondent suggested removing the existing requirement in IAS 8 to distinguish between a change in accounting policy and a change in accounting estimate and instead requiring that all changes are applied prospectively.

Definitions of accounting policies and accounting estimates

The existing definition of accounting policies in IAS 8 includes five terms—‘principles’, ‘bases’, ‘conventions’, ‘rules’ and ‘practices’. The Board proposed removing from the definition the terms ‘conventions’ and ‘rules’ and referring to ‘measurement bases’ instead of ‘bases’. Many respondents agree overall with the proposal. Some respondents disagree with the addition of 'measurement bases' to the definition of an accounting policy, either because it is not necessary or because adding it could narrow the definition, inappropriately.  

The central clarification proposed by the Board to the definition of accounting estimates was to state explicitly that accounting estimates are used in applying an accounting policy. The staff state that most respondents agree with the proposed wording of the definition of accounting estimates.

Some respondents say that the amendments focus mainly on the definition of an accounting estimate, which leaves the proposed definition of an accounting policy with the terms that have proven to be ambiguous and open to differing interpretations and therefore cause diversity in practice. The terms ‘practices’ and ‘measurement basis’ are used in the definition of an accounting policy but are not defined. Some respondents think ‘practices’ should refer only to those accounting policies that are developed in the absence of specific guidance within Standards and that the Board should clarify this. There were also some concerns about the terms ‘estimation techniques’ and ‘valuation techniques’, as used in defining accounting estimates, reconciles with the term ‘practices.

Neither IAS 8 nor the Exposure Draft address practical expedients. Some constituents question whether adopting a practical expedient should be regarded as an accounting policy.

When it is difficult to distinguish a change in an accounting policy from a change in an accounting estimate, IAS 8.35 states that the change is treated as a change in an accounting estimate. Some respondents question whether this paragraph is still necessary.

Illustrative examples

Adding to IAS 8 illustrative examples of accounting policies and accounting estimates was a common request. Some respondents express doubts about whether the Standard will be understandable without illustrative examples. The Board proposed deleting Example 3 from the guidance, which illustrates prospective application of a change in accounting policy when retrospective application is not practicable because it could be causing confusion about the distinction between accounting policies and accounting estimates, and possibly about how to identify accounting errors and about materiality. However, some respondents say that some preparers, especially first-time adopters of IFRS Standards, rely on Example 3 in assessing how to account for changes that result from applying a components approach more fully for depreciation of property, plant and equipment.

Some respondents thought it would be more helpful, in future standards, if there is more than one method for determining the amounts to be presented in the financial statements that the standard state whether they are policy choices or estimation methods.

Cost formulas for interchangeable inventories

The Board proposed clarifying that, for ordinarily interchangeable inventories, selecting a cost formula (i.e. first-in, first-out (FIFO) or weighted average cost) in applying IAS 2 is an accounting policy. Most respondents agreed, although some think they are estimates of the flow of interchangeable inventories. Some respondents think this specific guidance should not be included IAS 8 but should be in IAS 2.

Other

A few respondents, including a regulator, a national standard setter and a large accounting firm, think that the Board should provide more guidance for drawing the distinction between changes in accounting estimates and corrections of error. These respondents think that it may be difficult to define estimates clearly enough without addressing errors as well. This issue was not in the scope of the project.

The staff think the Board’s proposals are generally consistent with proposals of the IAASB and are continuing to monitor the IAASB’s activities in this area.

Staff recommendations

The Board is being asked for feedback, but is not being asked to make any decisions.

Discussion

The Vice-Chair was concerned about the lack of feedback from investors, because she thought that retrospective versus prospective accounting for a change would be particularly important to them. Another member asked if further outreach would be undertaken. One member thought that talking to CMAC members was as far as you could probably go.

Two members commented on the IAASB project, but they said it was not clear whether the IASB will monitor the IAASB project passively or be more actively involved.  The staff said they wanted to be consistent with the IAASB.

One member thought that the Board should keep the discussion at a high level and not provide examples. He also agreed that if they proceed with the inventory example they should place that in IAS 2 and not IAS 8. Others agreed, although one member thought that just changing the definition is too general and could create a new set of questions.

The staff said that it was difficult getting clear messages from the comment letters. They generally seemed to think that this was a positive step, but it was not enough. They will be discussing the project with ASAF in April.

The Vice-Chair was discouraged that what she thought was the more helpful change of clarifying that valuation techniques are estimates attracted comments from experienced IFRS users that it was still not clear. She was not confident that the Board could redraft it to get clarity. One suggestion was to simply insert the statement that a change in valuation technique is a change in estimate.

One member would prefer to have an estimate more narrowly defined. A change in a valuation technique would be a change in how they achieve their estimate without a change in the economic circumstances and that should be accounted for retrospectively. However, that member thought the Board could make an exception for changes in techniques and allow them to be accounted for prospectively. The staff reminded them that the thresholds for changes in policies and estimates are also different and to characterise the change in technique as a policy would require the application of the higher threshold.

One member thought the Board should go ahead with this. One thought that the comment letters were raising issues that were beyond the scope of the project, although it was not clear that all Board members interpreted the messages in the staff paper in the same way. For example, two Board members said that practical expedients are just a fact of life whereas the concerns in the comment letters are about requiring retrospective application when an entity elects to start or stop a practical expedient.

The Executive Technical Director Staff asked how important retrospective versus prospective is to investors and whether it would be simpler to apply all changes prospectively. The investor Board member said that it depends on who you talk to and the circumstances. One Board member said the distinction was important, but did not explain why. One Board member asked about the relationship between this project and the forthcoming proposals for changes motivated by agenda decisions and was told that they were not being considered together.  

Board decisions

The Board was not asked to make any decisions.