FASB Issues Exposure Draft on GAAP Hierarchy

On April 28, 2005, the Financial Accounting Standards Board (FASB) issued an Exposure Draft (ED) entitled "The Hierarchy of Generally Accepted Accounting Principles (GAAP)." The ED proposes certain changes to what is commonly referred to as the "GAAP Hierarchy," or the relative authority of accounting principles issued by various standard-setters (the FASB, American Institute of Certified Public Accountants (AICPA), Securities and Exchange Commission (SEC) and others).

The GAAP Hierarchy currently resides in AICPA's Statement on Auditing Standards No. 69, "The Meaning of Present Fairly in Conformity With Generally Accepted Accounting Principles" (SAS 69), and FASB has taken on this project in line with the SEC's reaffirmation of the FASB's role as the designated private-sector standard setter for public companies. [Note: the scope of FASB's ED applies not only to public companies but to all nongovernmental enterprises.] The proposed changes are made in response to three major criticisms that have been levied at the GAAP Hierarchy, and are part of a broader response by the FASB that includes its "codification and retrieval" project.

The ED states the three criticisms that have been directed at the current GAAP hierarchy are:

1. it is directed to the auditor rather than the [reporting] enterprise;
2. it is complex; and
3. it ranks FASB Statements of Financial Accounting Concepts, which are subject to the same level of due process as FASB Statements of Financial Accounting Standards, below industry practices that are widely recognized as generally accepted but that are not subject to due process.

By taking on responsibility for this project and by the changes proposed therein, the FASB proposes to address the first issue above by redirecting the focus of the GAAP Hierarchy to the reporting enterprise, instead of primarily to the auditor as in SAS 69.

On the second issue, FASB states the complexity issues will largely be addressed through its codification and retrieval project, which is a longer term project.

As to the third issue, FASB is not proposing changes to elevate its Concepts Statements in the GAAP Hierarchy at this time, although FASB "acknowledges that its Concepts Statements meet the characteristics of category (a) [the highest category in the GAAP Hierarchy] accounting principles, even though the Concepts Statements currently explicitly state that they do not constitute GAAP." FASB states it will consider the issue of where the Concepts Statements fall in the hierarchy further over time, in line with the SEC's recommendation cited in the ED that "the FASB's conceptual framework be designated as authoritative literature once improvements to the framework have been completed," along with ongoing efforts to converge with international accounting standards (e.g., FASB notes the International Accounting Standards Board (IASB) "accords its conceptual guidance a higher standing in its hierarchy" than is presently accorded to FASB concepts statements in the GAAP Hierarchy.

Specific changes proposed by FASB to the current GAAP Hierarchy are:

1. To carry forward the categorization of the sources of accounting principles by document type as presented in paragraph .10 of SAS 69, and not by their characteristics as presented in paragraph .05 of SAS 69;
2. To expand the sources of category (a) to include accounting principles that are issued after being subjected to the FASB's due process;
3. To present FASB Staff Positions and FASB Statement 133 Implementation Issues, which are not addressed in SAS 69, as sources of category (a) accounting principles.

The revised GAAP Hierarchy as proposed in the ED is as follows:

"The sources of accounting principles that are generally accepted are categorized in descending order of authority as follows:

1. AICPA Accounting Research Bulletins and Accounting Principles Board Opinions that are not superseded by action of the FASB, FASB Statements of Financial Accounting Standards and Interpretations, FASB Statement 133 Implementation Issues, and FASB Staff Positions.¹

   ¹Rules and interpretive releases of the Securities and Exchange Commission (SEC) are sources of category (a) accounting principles for SEC registrants. In addition, the SEC staff issues Staff Accounting Bulletins that represent practices followed by the staff in administering SEC disclosure requirements.
   
   

2. FASB Technical Bulletins and, if cleared² by the FASB, AICPA Industry Audit and Accounting Guides and Statements of Position.

   ²For purposes of interpreting category (b) and category (c), the word cleared means that the FASB does not object to the pronouncement's issuance.
   
   

3. AICPA Accounting Standards Executive Committee Practice Bulletins that have been cleared by the FASB and consensus positions of the FASB Emerging Issues Task Force (EITF).
4. d. Implementation guides (Q&As) published by the FASB staff, AICPA accounting interpretations, and practices that are widely recognized and prevalent either generally or in the industry."

Effective Date, Comment Deadline

FASB states it does not expect the proposed changes to the GAAP Hierarchy to affect current practice.

However, FASB also states it has" coordinated the effective date of the proposed standard" - which is for fiscal periods beginning after September 15, 2005 - "with the effective date of AICPA and Public Company Accounting Oversight Board (PCAOB) literature that will be amended as a result of the proposed standard."

The FASB's ED to amend the GAAP Hierarchy is available here and the comment deadline is June 27, 2005.

Prepared May 2, 2005 by Edith G. Orenstein (eorenstein@fei.org), Manager of Research, Financial Executives Research Foundation (FERF). This summary does not represent FEI opinion, unless specifically noted above.

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