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IASB publishes proposed Practice Statement on materiality

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28 Oct 2015

The International Accounting Standards Board (IASB) has published an Exposure Draft (ED) of a proposed IFRS Practice Statement (PS) 'Application of Materiality to Financial Statements'. The PS aims at explaining and illustrating the concept of materiality and at helping preparers of financial statements in applying the concept. Comments are requested by 26 February 2016.

 

Background

The IASB initiated its disclosure initiative in December 2012 as part of its response to the Agenda Consultation 2011. In March 2014, a project on materiality was added to the disclosure initiative. The objective of the project is be to help preparers, auditors and regulators use judgement when applying the concept of materiality in order to make financial reports more meaningful. The final pronouncement the IASB is driving at is a Practice Statement, not a standard. Consequently, entities applying IFRSs are not required to comply with the Practice Statement, unless specifically required by their jurisdiction. Furthermore, non-compliance with the Practice Statement will not prevent an entity's financial statements from complying with IFRSs, if they otherwise do so.

 

Suggested guidance

The guidance proposed in ED/2015/8 IFRS Practice Statement - Application of Materiality to Financial Statements is intended to provide explanations and examples to help management apply the definition of materiality. The guidance covers three main areas: characteristics of materiality, presentation and disclosure in the financial statements, and Omissions and misstatements. It also contains a short section on applying materiality when applying recognition and measurement requirements.

Characteristics of materiality. The PS builds on the definition of materiality in the Exposure Draft ED/2015/3 Conceptual Framework for Financial Reporting that states: "Information is material if omitting it or misstating it could influence decisions that the primary users of general purpose financial reports make on the basis of financial information about a specific reporting entity." It states that materiality is pervasive to the preparation of general purpose financial statements and needs to be considered in the primary financial statements as a whole. The IASB also concedes that judgement needs to be applied to assess whether information could reasonably be expected to influence decisions that its primary users make. The PS also notes that the assessment of whether information is material needs to be on both an individual and a collective basis and also needs an overall assessment and does involve assessing qualitative and quantitative factors.

Presentation and disclosure in the financial statements. The PS notes that in preparing the financial statements, management should consider the objective of providing information that is useful to users in assessing the prospects for future net cash inflows to the entity and in assessing its stewardship of the entity's resources. This objective provides the context for materiality judgements and may lead to different materiality assessments in different parts of the financial statement. The IASB proposes three steps - to assess what information should be presented in the primary financial statements, to assess what information should be disclosed within the notes (including assessment of appropriate emphasis), and then to review the financial statements as a whole - to ensure that the financial statements are a comprehensive document with an appropriate overall mix and balance of information. The IASB also states that an entity shall not reduce the understandability of its financial statements by obscuring material information with immaterial information or by aggregating material items that have different natures or functions, although it concedes that "IFRS does not prohibit entities from disclosing immaterial information".

Omissions and misstatements. The PS notes that the materiality of identified errors or omissions needs to be assessed individually and on basis of the financial statements as a whole. Material misstatements or omissions that offset each other still are considered material misstatements of the financial statements as such. The PS also states that intentionally made misstatements shall always be considered material.

Recognition and measurement. The PS notes that materiality considerations also apply to decisions not to apply a requirement in an IFRS when recording a particular item on grounds of the effect of not applying it being considered immaterial. It stresses that some entities might choose practical expedients for this reason. However, the PS states that IFRS recognition and measurement requirements need to be applied if their effect is material and that financial statements do not comply with IFRSs if they contain either material errors or immaterial errors made intentionally to achieve a particular presentation of an entity’s financial position, financial performance or cash flow.

 

Initial application and transition

Given the proposed PS is not a mandatorily applicable IFRS, it does contain neither a proposed effective date nor transition guidance. The IASB also notes that the PS may undergo further changes even after being finalised depending on developments in the conceptual framework project and the project on principles of disclosure.

 

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