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IASB struggles to find middle ground on prudence, neutrality

The International Accounting Standards Board (IASB) has instructed staff on its conceptual framework project to make a fresh attempt to incorporate a reference to the accounting concept of prudence into the main body of the framework. 

The board has already proposed reintroducing the term into its accounting rubric by including a reference to so-called cautious prudence in the Basis of Conclusions of the framework’s draft chapter on measurement. 

A wafer-thin majority made up of just seven board members agreed staff should rethink their drafting and elevate the concept to the main body of the framework.

Speaking during the board’s 22 September meeting, IASB chairman Hans Hoogervorst said: “What worries me [about this] is that it is contaminating or weakening the definition of neutrality.” 

Among the board members opposed to any change, Mary Tokar said the most appropriate place for the reference to prudence was in the Basis.

“The less we do on this, the better at this point in time,” she said.

The battle to reintroduce prudence into the IFRS conceptual framework has become as totemic as the row over the relative merits of fair value and amortised cost in the past decade.

Critics of IFRS claim that only by including prudence as an accounting concept is it possible to reel in over-exuberant management.

Those who oppose prudence argue that it is a by-word for conservatism in accounting and can lead to both the under- and over-valuation of assets and liabilities.

The inclusion of prudence in the Basis of the new framework was seen by many as a bid to arrive at a compromise on a vexed topic.

This latest bid to move the reference to prudence to the main body of the measurement chapter underscores the challenge facing the board.

Project manager Anne McGeachin said: “We did find it difficult to draft in the main body of the Framework language that talked about asymmetry because, in the Basis, we do have time to explain what we mean by that term, and it is much easier.

“When we put those words into an attempt to draft the Framework itself, we were left with sentences that you looked at and thought ‘Nobody is going to know what that means’.”

One further factor complicating the landscape is the fact that the IFRS framework is converged with the US GAAP framework in that neither entertains any notion of conservatism.

The IASB removed references to prudence as a qualitative characteristic from its 2010 iteration of its conceptual framework in an effort to align with the US objective of general-purpose financial statements.

That move has had the effect, however, of drawing out the tension between IFRS, US GAAP and the capital maintenance requirements of legislation such as the UK Companies Act 2006.

Leaked correspondence obtained by IPE reveals that senior staff at the IASB have long viewed any notion of capital maintenance as alien to the US audit community.

Potentially, any changes to the IFRS framework in this area could undermine efforts to persuade the US to adopt IFRS for its domestic entities.

The board is expected to discuss the conceptual framework at its October meeting.

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