IASB US Member Urges Timely US Adoption of IFRS; Agrees with FASB on Fair Value

Bucking a growing trend to delay the US adoption of IFRS, one of the three American members on the IASB has urged the US to adopt IFRS within the next five years. In remarks at a recent European Commission seminar, John Smith said the over 100 countries that have already adopted IFRSs would not accept a situation where the United States remains outside the system indefinitely, yet also has a seat at the table. He praised the European Union for being a catalyst and the leader in the effort to have global accounting standards by adopting IFRS in 2005.

The financial crisis has emphasized the need for a single set of worldwide accounting standards, he noted, adding that current accounting rules create numerous options, which reduce comparability and add unnecessary complexity. There is thus an urgent need to address the accounting for financial instruments to reduce complexity, enhance comparability and relevance and provide a basis for convergence worldwide

Mr. Smith emphasized that the IASB takes very seriously the recent G-20 call for standard setters to take action by the year end to reduce the complexity of accounting standards for financial instruments. Currently, the IASB has 12 different measurement methods for financial instruments, including three for impairment. The goal is to reduce the measurement methods to two. As part of the project, the Board will address the issue of transfers out of fair value. The consideration here will depend on how to draw the line to distinguish the fair value and non-fair value categories.

Concerns have been expressed about recognizing gains on the reduction in the fair value of an entity’s own debt from credit deterioration. The Board will consider whether to limit the use of fair value accounting in this regard as part of the project.

In response to concerns about fair value measurements in illiquid markets, The Board set up a panel of experts to identify best practices for estimating fair value in illiquid markets and for disclosure. The resulting Board guidance includes an emphasis on significant judgment to coincide with the FASB and SEC interpretations.

The Board specifically examined FASB’s recent guidance on fair value measurement in illiquid markets and concluded that it does not differ from the IASB’s guidance. There was some confusion when the initial draft of the FASB guidance contained a presumption that transactions in illiquid markets could be ignored unless there was evidence to show those transactions were not distressed. That presumption was removed from the final guidance. He said that the exposure draft that the Board will soon publish on fair value measurement will include the FASB language.
He also noted that the Board amended and proposed amendments to IFRS 7, dealing with disclosures about risk of financial instruments. Further, the Board introduced a three-level hierarchy for fair value measurement similar to the US standard, along with disclosures about the reliability of those measurements.

Another IASB goal is to get to a single impairment method. He believes that if the instrument was toxic from the start it should probably be at fair value. For plain vanilla instruments, a cost model seems appropriate, assuming that management is not trading the instrument, and impairment should be based on expected cash flows.

As part of its evaluation of impairment, the IASB will consider developing an expected loss model to replace the current incurred loss model. The Board is exploring an expected loss model whereby provisions would be recognized for expected losses that have been identified on the basis of history and current expectations. There are other issues here about going beyond expected losses and recording additional amounts today to provide a buffer for the future to promote financial stability. But the Member views this issue as more about the objective of financial reporting and a question about providing useful information to users.

The IASB pledged to work with banking regulators through the Basel Committee to explore the expected loss model. The Board believes that additional reserves beyond expected losses that might be required by regulators for capital purposes are more a regulatory issue than an accounting issue. However, the Board will be exploring with the regulators what might be done to provide transparency around regulatory reserve requirements through a capital allocation

The next step is to reduce the complexity of hedge accounting. The Board expects to issue a separate document on this subject following its proposal for the classification and measurement of financial instruments. The objective is to reduce complexity and increase transparency of hedge accounting activities. But first the Board must understand how hedge accounting would change if an expected loss methodology is adopted.
The staff has developed various alternatives for presentation to the Board in the next few months. The Board, in turn, will be deciding on which alternatives to propose for exposure; and will work with the FASB on this project. After a joint meeting with the FASB in July, Member Smith expects the Board to move towards the exposure draft phase.