Exposure Draft ED/2015/8 October 2015
IFRS Practice Statement: Application of Materiality to Financial Statements
IASB introduced an exposure draft of the IFRS ‘Practice Statement Application of Materiality to Financial Statements’ in October 2015. IASB invited comments on this draft by February 2016. Different organisations responded including Accounting bodies, corporate bodies, practicing firms, solicitors etc. In this report, four respondents have been chosen for further discussion in view of their comments, suggestions and criticism on this draft.
The draft basically covers the characteristics of materiality, its applicability in financial statements and discussion on the nomenclature of information being material or not.
The exposure draft was mainly aimed to provide the guidance to assist management in applying the concept of materiality to general purpose financial statements prepared in accordance with the IFRS. This draft is a Practice Statement not a standard and is not compulsorily required for compliance of IFRS.
What is Materiality? Information is material if omitting or misstating it could influence decisions that users make on the basis of financial information about a specific reporting entity. Materiality is an entity specific aspect of relevance based on the nature and magnitude, or both, of the items to which the information related in the context of an individual entity’s financial report. (Exposure draft – October 2015, p. 10)
IASB asked the following 5 questions to the respondents before it could finalise the guidance.
QUESTION 1 – FORM OF THE GUIDANCE
A Practice Statement is not a Standard. The IASB’s reasoning for issuing guidance on applying the concept of materiality in the financial statements in the form of a non-mandatory Practice Statement is set out in paragraphs BC10–BC15.
- Do you think that the guidance should be issued as non-mandatory guidance? Why or why not?
- Do you think that a Practice Statement is the appropriate form for non-mandatory guidance on applying the concept of materiality? Why or why not? If not, what alternative(s) do you propose and why?
QUESTION 2—ILLUSTRATIVE EXAMPLES
Do you find the examples helpful in the [draft] Practice Statement? Do you think any additional practical examples should be included? If so, what scenarios should the examples address? Please be as specific as possible and explain why those example(s) would be helpful to entities.
QUESTION 3—CONTENT OF THE [DRAFT] PRACTICE STATEMENT
The [draft] Practice Statement proposes guidance in three main areas:
- Characteristics of materiality;
- How to apply the concept of materiality in practice when presenting and disclosing information in the financial statements; and
- How to assess whether omissions and misstatements of information are material to the financial statements.
It also contains a short section on applying materiality when applying recognition and measurement requirements.
Please comment on the following and provide any suggestions you have for improving the [draft] Practice Statement:
- Do you think that any additional content should be included in the Practice Statement? If so, what additional content should be included and why?
- Do you think the guidance will be understandable by, and helpful to, preparers of financial statements who have a reasonable level of business/accounting knowledge and IFRS? If not, which paragraphs/sections are unclear or unhelpful and why?
- Are there any paragraphs/sections with which you do not agree? If so, which paragraphs/sections are they and why?
- Do you think any paragraphs/sections are unnecessary? If so, which paragraphs/sections are they and why?
- Do you think any aspects of the guidance will conflict with any legal requirements related to materiality within your jurisdiction, or a jurisdiction in which you file financial statements?
The IASB plans to issue the Practice Statement before the finalisation of its Principles of Disclosure project.
The IASB has tentatively decided to include a discussion on the definition of materiality, and whether there is a need to change or clarify that definition within IFRS, in the Discussion Paper for its Principles of Disclosure project (expected to be issued early in 2016). Nevertheless, the IASB thinks that to address the need for guidance on the application of materiality, it is useful to develop the Practice Statement now.
The IASB does not envisage that the discussion about the definition of materiality or any other topics in its Principles of Disclosure project will significantly affect the content of the Practice Statement. Nevertheless, the IASB will consider whether any consequential amendments to the Practice Statement are necessary following the completion of the Principles of Disclosure project. Do you agree with this approach?
QUESTION 5—OTHER COMMENTS
Reacting to this question, many replies were received. Each has been uploaded on IASB website for public view. The following four respondents have been selected for further discussion:
- Australian Accounting Standards Board (letter dated 04.03.2016)
- Pitcher Partners Australia (letter KLB/da, dated 29.01.2016)
- Institute of Public Accountants (letter dated 18.02.2016)
- Ernst & Young Global Limited (letter dated 26.02.2016)
Question 1 has mixed reaction. AASB and EY agree with both parts of this question. IPA however commented that instead of Practice Statement a proper Standard is needed. Pitcher Partners are of the view that the guidance is more in the nature of education material and hence no support for this proposal by them.
For Question 2, AASB praised the act of inclusion of examples. EY also thinks it is good however; they need further elaboration in the examples contained in paragraph 53(b) and 53(c). Pitcher Partners are of the same view as of EY with a specific mention of paragraph 39(c), 43, 47 and 54(c), 27 and 51. IPA response is more exhaustive they think the examples are often no more than detailed matters to be considered in determination of materiality. There should be scenarios covering application of materiality. Examples should not only cover the determination of materiality, but also the assessment of issues on an individual or collective basis of the facts raised in the examples.
In response to Question 3, AASB discussed in detail and mentioned many paragraphs where further elaboration and detail is required, for example, paragraphs 25 and 26, 46, 47, 9, 23, 54, 28(c), 79, 27 (a) 40-44. The other three respondents more or less discussed the same paragraphs, each giving their own way of explanation. The response on these paragraphs remained focused on further guidance on how materiality applies to measurement criteria, removal of some unnecessary examples, and relevance of conceptual framework with the definition of Materiality etc.
Pitcher Partner did not respond on question 4. AASB endorsed the quick issuance of this guidance. EY and IPA also supported the proposed timing of this guideline.
Responses to question 5 were purely from individual perspective of each organisation. These reflect the organisation’s structure, i.e. private or public, organisation’s intended course of action and response on this guidance based on its own motive and organisation’s capability. For example, AASB, a Government body responsible for issuing Accounting standards in Australia, considers a common platform will enhance communication between auditor and entity. EY thinks that such ED shall improve the disclosure overload.
While looking at all the responses, owing to importance of materiality issue, response of IPA seems more critical, corrective and suggestive. Materiality is a subjective matter, and may vary from person to person and from organisation to organisation. IPA strongly supports an accounting standard instead of Practice Statement, as this fundamental issue needs more importance and attention.
After having critical review and detailed study of all the responses along with different Accounting standards related to Materiality and its judgement, the issuance of such guidance is a good step by IASB.
Although a standard is more appropriate document but as a first step the guidance can be accepted. The detailed discussion on materiality, its characteristics, and practical examples of information in financial statements and different point of views give the reader an in-depth knowledge of Materiality concept. But due to judgmental jurisprudence of this concept, whatever is written is not enough. Hence a continuous addition of views and judgements is always needed. For that reason IASB will need to work further in this regards.