All financial statements are prepared in accordance with a financial reporting framework. The term financial reporting framework is defined as a set of criteria used to determine measurement, recognition, presentation, and disclosure of all material items appearing in the financial statements. Examples of financial reporting frameworks are generally accepted accounting principles (GAAP) in the United States of America, International Financial Reporting Standards (IFRSs), and special purpose frameworks (also known as other comprehensive bases of accounting [OCBOA]).The FRF for SMEs framework is a new accounting option for preparing streamlined, relevant financial statements for privately held owner-managed businesses that are not required to use GAAP.
The FRF for SMEs framework draws upon a blend of traditional methods of accounting with some accrual income tax methods. The framework was developed by a working group of CPA professionals and AICPA staff who have years of experience serving small businesses. The FRF for SMEs accounting framework was released by the AICPA in June 2013.
Small- and medium-sized entities (SMEs) pervade the business world and form the backbone of the U.S. economy. In terms of sheer numbers the segment is sizeable. Estimates put the number of SMEs in the United States at approximately 20 million.1 They are active in every industry group and involved in providing goods and services in a wide-ranging set of activities. There is no standard definition of SME in the United States. However, the term is intuitive, widely recognized, and effectively descriptive of the scope of entities for which the FRF for SMEs accounting framework is intended. The task force and AICPA staff who developed the framework deliberately did not develop quantified size criteria for determining what constitutes a small-and medium-sized entity because they decided that developing quantified size tests is not feasible and not an effective way of describing the kinds of entities for which the framework is intended. Rather, characteristics of typical entities that may utilize the framework are presented in the preface to the FRF for SMEs framework.
1 “IFRS for SMEs in your pocket,” Deloitte, April 2010.
The FRF for SMEs framework provides efficient, meaningful financial statements without needless complexity or cost for those SMEs that are not required to issue GAAP-based reports. The FRF for SMEs framework is a cost-beneficial solution for owner-managers and others who need financial statements that are prepared in a consistent and reliable manner in accordance with a framework that has undergone public comment and professional scrutiny. The accounting principles composing the FRF for SMEs reporting option are intended to be the most appropriate for the preparation of small business financial statements based on the needs of the financial statement users and cost-benefit considerations. Accounting principles in the FRF for SMEs framework are responsive to the well-documented issues and concerns stakeholders currently encounter when preparing financial statements for small private businesses.
The FRF for SMEs framework has been developed for smaller- to medium-sized for-profit private entities that need reliable financial statements when GAAP financial statements are not required. The FRF for SMEs framework may be used by entities in most industry groups and by unincorporated and incorporated entities.
It would be an impossible task to define conclusively the characteristics of a typical entity that would use and benefit from the FRF for SMEs framework. The framework is intended for owner-managers who rely on a set of financial statements to confirm their assessments of performance and of what they own and what they owe, and to understand their cash flows. Often, their financial statements support applications for bank financing, when the banker does not base a lending decision solely on the financial statements but also on available collateral or other evaluation mechanisms not related to the financial statements. A majority of these owner-managers have no expectations of going public.
The preface to the FRF for SMEs framework contains a list of certain characteristics of typical entities that may utilize the framework.
An owner-managed entity is a closely held company in which the people who own a controlling ownership interest in the entity are substantially the same set of people who run the company (in contrast with public companies where the ownership and the management are clearly separated). Owner-managed businesses represent the majority of all businesses in the United States. Often, owner-managed entities do not have a qualified CPA on staff. Rather, the owner-managers or bookkeepers maintain the entities’ books and records.
The term owner-managed was selected to help describe the typical entity that would benefit from using the FRF for SMEs framework. The AICPA does not intend to scope out entities that may not be owner managed from using the FRF for SMEs framework. Entities that have operational management who are not the owners may find that the framework is an ideal choice for their financial reporting needs and circumstances.
The AICPA cannot preclude an entity from preparing its financial statements under the FRF for SMEs accounting framework. The FRF for SMEs framework is intended to be used by small- and medium-sized for-profit entities. Typically, the framework would be used by owner managers who rely on a set of financial statements to confirm their assessments of performance, and of what they own and what they owe and the entity’s cash flows.
Special purpose frameworks (SPFs) include cash basis, modified cash basis, tax basis, regulatory basis, contractual basis, and other bases of accounting that utilize a definite set of logical, reasonable criteria that is applied to all material items appearing in the financial statements. Special purpose frameworks, with the exception of the contractual basis of accounting, are commonly referred to as other comprehensive bases of accounting (OCBOA).
By far, the tax and modified cash bases are the most frequently used SPFs today. Historically, there have been no definitive requirements for SPF financial statements.
Unlike the tax or cash bases of accounting, the FRF for SMEs framework has undergone public exposure and professional scrutiny and contains explicit and comprehensive accounting principles. These features result in a reliable and consistently applied financial framework.
No. The FRF for SMEs framework is a type of special purpose framework that has been developed by the AICPA’s FRF for SMEs task force and AICPA staff and was exposed to public comment and professional scrutiny. The FRF for SMEs framework has not been approved, disapproved, or otherwise acted upon by any senior technical committee of the AICPA or the Financial Accounting Standards Board (FASB) and has no official or authoritative status.
Yes. Non-CPAs may prepare financial statements using available financial frameworks including the FRF for SMEs framework, cash, tax, and even GAAP bases of accounting.
CPA practitioners performing audit, review, or compilation engagements on financial statements prepared under the FRF for SMEs framework follow the same standards as they do when reporting on other special purpose framework financial statements.
The FRF for SMEs framework is a principles-based framework that can be used by incorporated and unincorporated entities across industries. Specific industry-specific guidance is therefore not included in the framework.
A key feature of the FRF for SMEs framework is that it will be a stable, yet nimble, framework. Accordingly, the task force and AICPA staff intend to monitor and assess input related to the implementation of the framework after its initial release and propose modifications they deem necessary. Afterward, staff, with assistance from the task force, intends to review and propose amendments to the framework approximately every three or four years. Amendments will be primarily based on input from stakeholders and developments in accounting and financial reporting.
The FRF for SMEs framework is constructed of accounting principles that are especially suited and relevant to a typical SME. Examples include the following:
- The FRF for SMEs framework uses historical cost as its measurement basis and steers away from complicated fair value measurements.
- The framework does not require complicated accounting for derivatives, hedging activities, or stock compensation. Moreover, the FRF for SMEs framework 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 they desire.
The FRF for SMEs accounting framework is designed specifically to suit the needs of small- and medium-size entities and their stakeholders. Familiar traditional accounting and accrual income tax accounting principles compose the FRF for SMEs framework and only financial reporting topics that are pertinent and have meaning to most SMEs and their financial statement users are included (for example, there is no concept of comprehensive income in the framework). The framework assists owner-managers and other SME stakeholders in focusing on the performance of the SME, its assets, liabilities and cash flows
No. Natural candidates to use the FRF for SMEs framework are private companies that have no desire to ever go public or sell themselves to a public company. The time and effort required to switch from the FRF for SMEs framework to GAAP, which is what must happen in order for the company to go public, is significant and therefore it is likely not worth using FRF for SMEs in the first place.
Owner-managers and their CPA practitioners should consult with lenders and other key external stakeholders about the use of the FRF for SMEs framework. With substantial relevance and cost-benefit factors, experiences to date demonstrate that lenders accept financial statements using the framework. Lenders are often very flexible in accommodating various financial frameworks for smaller entities. For example, many lenders today permit their customers to supply financial statements prepared using the cash or income tax basis of accounting. Important to lenders is the consistent application of the accounting principles underlying the financial statements. The FRF for SMEs framework consists of traditional accounting principles and accrual income tax accounting methods which are very familiar to lenders and have served the lending community well for many years. The FRF for SMEs framework is intended to be utilized by entities whose lenders base their decisions principally on reliable operations and cash flows. The framework appeals to such lenders because it is a reliable financial framework, providing relevant information, is simplified, contains explicit and comprehensive accounting principles, and has been subjected to professional scrutiny. Moreover, the FRF for SMEs framework is a cost-beneficial financial reporting option for their customers.
The AICPA understands, and observations to date support this understanding, that bank examiners view FRF for SMEs as another form of OCBOA. Other forms of OCBOA financial statements (such as cash basis and tax basis) have been supporting documentation in loan files for many decades.
The AICPA and FAF are both committed to the private company financial reporting constituency; however, the objectives of these two efforts are different. The FAF’s Private Company Council focuses on modifications to U.S. GAAP for private companies that need or are required to have financial statements prepared in accordance with GAAP. The FRF for SMEs framework is a concise, highly relevant framework for owner-managers of SMEs and their external stakeholders where U.S. GAAP financial statements are not required.
The International Accounting Standards Board has been recognized by the AICPA as an international accounting standard setting body and, as a result, the IFRS for SMEs may be an alternative for those SMEs needing GAAP financial statements. Although there will be some similarities between the FRF for SMEs framework and the IFRS for SMEs, the AICPA believes that the FRF for SMEs framework will be more understandable and more useful at this time because it is specifically written for U.S. entities. Additionally, the FRF for SMEs framework will reduce differences between the FRF for SMEs framework and the U.S. tax code. For example, last in, first out (LIFO) inventory is not permitted by the IFRS for SMEs whereas it will be permitted by the FRF for SMEs framework.
The responsibilities related to a peer review will be no different from what they are today when a peer review is conducted of an audit, review, or compilation of financial statements prepared in accordance with a special purpose framework. A peer reviewer will need to be familiar with the performance and reporting standards of the Statements on Auditing Standards or the Statements on Standards for Accounting and Review Services, as well as the FRF for SMEs framework. The peer reviewer must apply professional judgment to determine if the recognition, measurement, presentation, and disclosure principles followed are appropriate in determining whether the CPA’s report is correct.