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According to the IASB ED of a proposed IFRS for SMEs, the IASB’s definition of an SME is intended to (a) an entity with no public accountability and (b) an entity that publishes general purpose financial statements for external users. If entities fall under the definition of having a public accountability, as stated in paragraph 1.2 ED, they are not entitled to use the proposed IFRS for SMEs. The IASB’s definition of a public account-tability is not based on a size-threshold determination; rather it is the fact that an entity has issued equity or debt securities in a public market and thus has to lodge financial reports to external regulatory organisations or an entity holds assets in a fiduciary capacity for a broad group of outsiders. Furthermore, the criterion (b) of the international definition is basically a matter for each national jurisdiction to decide whether entities without public account-ability should be required to create general purpose financial statements.
In contrast, the currently existing Australian differential reporting regime is based on the ‘reporting entity concept’ which can be understood as the core element of the Australian financial reporting framework. That means, that one important factor in determining the applica¬bility of the accounting standards is the reporting entity concept. Reporting entities must, regardless of size and legal incorporation status, comply with full accounting stand-ards. In principle, small and large reporting entities are basically subject to the same financial reporting regime.
As the IASB ED will clearly not apply for listed entities, it is necessary to look at the Australian accounting requirements for unlisted (proprietary) entities and how these requirements differ to the international definition. Whether unlisted entities are subject to the accounting requirements of the Corporations Act 2001 depends on whether they are classified as small or large, thus a size-threshold test will be deployed. According to section 292 (2), 293 and 294 Corporations Act, small proprietary companies do not have to prepare and lodge financial reports unless there is a requirement from the ASIC, or they are directed by a 5% vote of their share¬holders, or they are controlled by a foreign company.
The IASB ED does not differentiate between for-profit and non-for-profit entities. There-fore, considering the current existing reporting requirements for SMEs in Australia and the international definition, there is a significant
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1.2 The AASB’s rationale for its proposal to revise the current differential reporting regime in Australia
With the adoption of the IFRS in Australia 2005, the AASB has committed itself to the international developments in financial reporting. Therefore, the harmonisation of national accounting standards involves issuing and revising accounting standards that are consistent with IFRS. Against the background of the discussed IASB’s ED for SMEs, the AASB considers its current differ¬ential reporting regime in terms of the reporting entity concept not to be consistent with international policies. The AASB sees the IASB ED for SMEs as a key opportunity to address and reconsider its approach to differential reporting.
In particular, the current deployed reporting entity concept is not used internationally for the purpose of determining the application of accounting standards. The Australian jurisdiction is the only one that uses the reporting entity concept in the application para-graphs of its accounting standards and thus this concept need to be revised. Furthermore, based on past experience, a range of interpretations of the reporting entity concept have been developed and have led to misunderstandings and confusion. For instance, many critical issues have been recognised which included lack of consistency in identifying reporting from non-reporting entities by preparers.
Taking the above mentioned reasons into consideration, it can be said that the AASB wants to address a concept which suits the Australian reporting regime in the most appropriate way but also wants to maintain its international approach in financial reporting. Therefore, regulations which are used internationally in a different way or not used at all, such as the Australian reporting entity concept, must be revised and tested for consistency.
1.3 The entities in Australia who would continue to comply with current IFRS based standards and the entities who would apply the proposed IFRS for SME standards
Under the proposed revised differential reporting regime there will be a two-tier approach deployed by the AASB. Entities which are preparing general purpose financial statements would either apply the Australian equivalents to IFRS or an Australian equivalent to the IFRS for SMEs. More precisely, entities will be divided into three different categories:
(1) For-profit entities, (2) Not-for-profit private sector entities and (3) Public sector entities. For each kind of the entities, we distinguish between the entities who would continue to comply with current IFRS and the entities who would apply the proposed IFRS for SME standards.
In terms of for-profit entities, there are three classifications. The first one is that publicly accountable for-profit entities would need to continue to comply with current IFRS based standards. The second classification describes for-profit entities which do not meet the definition of a publicly accountable entity, but are considered to be important in respect of their size; these entities would also need to apply current IFRS based standards. Entities would be regarded as economically important, if their sizes are bigger than either of the following size- thresholds: $500mil. for the consolidated revenue and $250mil. for the consolidated assets of the group at the end of the financial year. All other for-profit entities not included in the first and second sorting, fall under the third classification and would apply the proposed IFRS for SMEs. However, these entities can also apply the full set of current IFRS based standards.
In order to differentiate the not-for-profit private sector entities, there are also two size- thresholds which should be considered. These thresholds are $25mil. for a group’s consoli-dated revenue and $12.5mil. for the consolidated assets at the end of the financial year. If the size of a not-for-profit private sector entity is in excess of either of the two size criteria, these entity need to comply with current IFRS based standards. In contrast, entities whose sizes fall under the two size-thresholds would apply the proposed IFRS for SME standards and an Australian equivalent respectively. Such entities could also choose to comply with the full set of the current IFRS based standards.
The third category describes public sector entities where also a size-threshold test must be applied to differentiate. The size test is correspondent to that for not-for-profit entities. Therefore, public sector entities, which exceed either of the two above-mentioned size criteria, should continue to comply with current IFRS based standards. If the public entities’ size is smaller than the two size thresholds, these entities need to apply the proposed IFRS for SME standards. In this case, entities are also allowed to apply the full set of the current IFRS based standards.
1.4 Discussion of positive and negative implications of these proposed reporting framework changes
As the proposal is currently the top issue in the accounting world, there is much to be said for the positive and negative implications of the AASB’s pro¬posed framework changes.
At first glance a concept of a separate, stand-alone accounting standard for SMEs with fewer accounting options and complexities than current full IFRS can be seen as a positive effect. The proposal relieves SMEs of potentially burdensome cost- and time-intensive accounting requirements, such as complex disclosures, and thus costs and time can be saved. Moreover, there is a positive implication on the global harmonization for inter-national accounting standards. This leads to an enhancement of the comparability of finan-cial information as well as to an improvement of the consistency in audit quality, thus, given a more transparent international trading and a better national accounting reputation.
Furthermore, with the change of the application focus of the accounting standards from the reporting entity concept to a general purpose financial reports approach, the discussed inconsistency of the current reporting entity concept in Australia can be avoided. Therefore, a better identification of an SME can be attained with the proposed deter¬minations factors.
On the other hand, there will be also negative implications of the AASB’s proposal, especially in regards to the abolishment of the reporting entity concept. There are questions of consistency to adopt the same public accountability concept as the IASB requires for the not-for-profit and public sector entities in Australia.
The issue will be whether the IFRS for SMEs should be applied to the majority of proprie-tary, and many non-listed public sector entities that are non-reporting entities and which currently prepare special purpose financial reports. This is a crucial point because the level of reporting will largely be determined by the concept of public accountability and the proposed size-threshold test. With the AASB’s proposal many non-reporting entities fall into a different category and are required to report considerably more detailed information, state¬ments, and disclosures than was previously required under the current reporting regime. This can be seen as a major negative implication as this change will be cost-intensive especially for the above-mentioned companies.
Moreover, it can be discussed if SMEs really have a benefit under the prospective accounting standard. Taking the IASB ED for SMEs into consideration, there are still many disclosure requirements and complexities which under the current reporting regime certain SMEs do not have to comply with.
In conclusion, the above-mentioned positive and negative implications are based on the current proposed reporting framework changes by the AASB. It becomes apparent that the proposal will have a more negative implication on Australian reporting regime. However, it is necessary to point out that the proposal will most likely to be changed after the AASB has received all the comments from accounting firms and affected entities.
AASB, ITC Request for Comment on a Proposed Revised Differential Reporting Regime for Australia and IASB Exposure Draft of A Proposed IFRS for Small and Medium-sized Entities, May 2007
Net: http://www.aasb.com.au/public_docs/acc_eds/ITC12_05-07.pdf (viewed at 17.09.2007)
SAC 1 (8/90) Definition of the Reporting Entity, August 1990
(viewed at 22.09.2007)
IASB Illustrative Financial Statements and Disclosure Checklist, February 2007
(viewed at 22.09.2007)