U.S. Generally Accepted Accounting Principles (GAAP) is the most widely used accounting framework throughout the United States. However, U.S GAAP continues to become more complex, requiring additional time and resources to comply. Further, the resulting financial statements may no longer provide clear, concise, and relevant information. As private entities prepare to implement the new lease accounting standard, many business owners are starting to ask about alternative solutions.
The Financial Reporting Framework (FRF) for Small and Medium Sized Entities (SMEs) provides an alternative to U.S. GAAP. Based on traditional and proven accounting methods, targeted disclosure requirements, and increased optionality, this framework allows SMEs to produce relevant, streamlined financial statements that meet the needs of many business owners and their stakeholders.
What is the FRF for SMEs?
The FRF for SMEs was created by the American Institute of Certified Public Accountants (AICPA) as an alternative to U.S. GAAP. The framework blends traditional accounting principles with accrual income tax methods of accounting and provides increased optionality when selecting policies to better meet the needs of the end users of the financial statements.
U.S. GAAP is often overly complex for SMEs, as it’s intended to meet the needs of a very large and diverse business base. As a result, adherence to U.S. GAAP may produce financial statements that don’t accurately represent how SMEs run their business. Designed by certified public accountants (CPAs) that work specifically with SMEs, the FRF for SMEs simplifies this process to produce useful and practical financial statements.
Key Differences Between FRF for SMEs & U.S. GAAP
While U.S. GAAP continuously undergoes changes, the FRF for SMEs has seen minimal changes since its issuance in 2013.
The FRF for SMEs provides simplified accounting for areas that have been especially challenging for private companies in recent years, including:
- Fair Value Measurements: The FRF for SMEs steers clear of fair value measurements and relies on historical cost methods.
- Asset Impairment: There’s no concept of asset impairment in the FRF for SMEs. Assets (including goodwill and intangibles) are depreciated or amortized and written off when no longer used.
- Revenues: Revenues are recognized when performance is achieved and ultimate collection is reasonably assured. S. GAAP Topic 606 isn’t relevant to the framework.
- Lessee Leases: The FRF for SMEs will maintain a traditional accounting approach with classification as operating or capital leases, whereas lease accounting under S. GAAP is undergoing significant changes.
- Disclosures: Disclosure requirements are targeted, providing users of financial statements with the relevant information they need while recognizing that those users can obtain additional information from management if desired.
There are many other differences between the FRF for SMEs and U.S. GAAP that are included within the framework, such as the accounting for business combinations and share-based compensation.
Who Would Benefit from FRF for SMEs?
The FRF for SMEs is specifically tailored to the needs of SMEs, which are deliberately not defined by size in the framework. This framework is best suited for for-profit lower-and-middle market closely held businesses that:
- Are looking to simplify financial reporting
- Don’t have overly complicated business models
- Don’t intend to go public
- Have ownership involved in management
- Limit financial statement use to lenders and owners
The framework is intended to appeal to lenders because it provides relevant information, is simplified, contains explicit and comprehensive accounting principles, and has been subjected to professional scrutiny.
There isn’t a lot of education around the framework, which is one of the reasons why it hasn’t gained significant traction yet. However, with some of the recent and upcoming changes in U.S. GAAP, more businesses may transition to the FRF. Businesses should speak with their lenders and their CPA firms to understand if the FRF for SMEs is a viable alternative to U.S. GAAP.