Saturday, 2 April 2011

Deduction of cost of inflation during low inflation and deflation authorized in IFRS since 1989

Accountants have to calculate the net monetary loss or gain from holding net monetary item assets or net monetary item liabilities, respectively, when they choose financial capital maintenance in units of constant purchasing power during low inflation and deflation (the Constant Item Purchasing Power Accounting model) in the same way as the IASB currently requires its calculation and accounting during hyperinflation in IAS 29 Financial Reporting in Hyperinflationary Economies. There are significant net monetary losses and net monetary gains during low inflation and deflation too, but they are not required to be calculated when accountants choose the traditional Historical Cost Accounting model.

It is an inexplicable contradiction that net monetary gains and losses are required in IFRS (IAS 29) to be calculated and accounted during hyperinflation but not during non-hyperinflationary periods, especially when the IASB-approved alternative to HCA, namely CIPPA does require their calculation and accounting during low inflation and deflation.

“Statement 33 was not a completed product. First, it required adjustment of only two of the items known to be affected by price changes, cost of sales and depreciation. Second, two adjusted amounts for cost of sales and depreciation were required to be reported, one on a constant purchasing power basis and one on a specific price basis. Third, the adjusted amounts together with two new items required to be disclosed, gain or loss on monetary items and certain holding gains, were not required to be reported in an articulating set of adjusted statements of financial position and performance.” FAS 89, p 6

“Computing the gains or losses from holding monetary items can be done and the information disclosed when the books are maintained on a historical-cost basis.”

Harvey Kapnick, Chairman of Arthur Anderson & Company, Value based accounting: Evolution or revolution, Saxe Lecture, 1976, Page 6.

Deducting the cost of inflation as an expense in the income statement has thus been authorized in IFRS since 1989. Harvey Kapnick´s viewpoint thus prevailed, but, not under the Historical Cost Accounting model as he advocated. It prevailed under financial capital maintenance in units of constant purchasing power, that is, under the Constant Item Purchasing Power Accounting model.

Copyright (c) 2005-2011 Nicolaas J Smith. All rights reserved. No reproduction without permission.

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