What is the difference between the GAAP and IFRS statement of retained earnings? The US GAAP and IFRS are the two common accounting standards that businesses follow. These accounting standards are necessary to ensure that companies’ financial information and statements are accurate and can be compared to the financial statements of other organizations.
There are some differences and similarities between the US GAAP and IFRS requirements for financial statement presentation. Hence, when it comes to the presentation of a company’s statement of retained earnings, GAAP vs IFRS requirements differ in several ways.
The US GAAP is an acronym for Generally Accepted Accounting Principles. This set of accounting guidelines is set by the Financial Accounting Standards Board (FASB) and is adhered to by most United States companies. The IFRS, on the other hand, is an acronym that stands for International Financial Reporting Standards. These accounting standards are dictated by the International Accounting Standards Board (IASB) which are adhered to by many countries outside the US.
Globally, more than 144 countries have adopted IFRS, which aims to establish a common global language for company accounting affairs. The Securities and Exchange Commission (SEC) has openly expressed a desire to switch from GAAP to IFRS, though this development has been slow. However, deciding which set of standards to use when making financial reports like the statement of retained earnings would depend on whether the company operates in the US or internationally.
In this article, we will be comparing the differences between GAAP vs IFRS requirements for preparing a statement of retained earnings as well as the similarities between these two accounting standards. But first, we will discuss what a statement of retained earnings is.
Statement of retained earnings explained
A statement of retained earnings is used to show how much net profit or net income an organization has earned during a certain period of time, usually a quarter or a year. This financial statement also shows how much of the organization’s net income was kept or retained as opposed to being paid out in dividends. The essence of the statement of retained earnings is to show investors and shareholders how profitable the organization is and how much money is being reinvested back into the business. Also, it is used to calculate the organization’s earnings per share (EPS).
Therefore, a statement of retained earnings is a financial statement that shows the changes in a company’s retained earnings over a period of time. A company’s retained earnings are the portion of its profits that are not paid out as dividends but are rather reinvested back into the company’s business. In accordance with the GAAP or IFRS statement of retained earnings requirements, the retained earnings statement can be prepared together with the income statement or the balance sheet or as a separate financial statement.
Furthermore, depending on the nature of a company or business, the statement of retained earnings is also known by other different names:
- Statement of changes in equity (or the equity statement) because it shows the changes in the company’s shareholders’ stake.
- For a company, it is also known as a statement of changes in shareholders’ equity
- Also called a statement of changes in owner’s equity for a sole proprietorship
- For government agencies, it is also known as the statement of changes in taxpayers’ equity
- For a partnership, it is also called the statement of changes in partners’ equity
Purpose of the statement of retained earnings
The statement of retained earnings is very important to investors and lenders because it is a financial statement that shows the amount of a company’s net income that has been kept by the company during a specific period of time. This financial statement provides information on the profit and losses of a company as well as the shareholders’ equity in the company. Hence, it can be used to help investors and creditors understand a company’s financial health and performance.
It gives investors an idea of what a company does with its money after the dividends have been paid. Therefore, this statement serves as an important tool for investors when making decisions about whether to invest in a company or not. It also gives creditors an insight into the company’s ability to pay debts; if a company has no money left after dividends have been paid, then the company is likely to default on its debt. Hence, the retained earnings statement is very important to lenders when considering whether or not to extend credit to a company.
Also, the purpose of the retained earnings statement is to outline what a company does with its profits to show the trend of how the company invests in growth and development. This financial statement shows the amount of profit that the company is retaining and reinvesting into the business, which can be used to finance future growth.
Statement of retained earnings GAAP vs IFRS
The standards that govern the financial reporting and accounting of companies vary from country to country. In as much as there are some differences between the US GAAP and IFRS guidance on financial statement presentation, there are several similarities as well. Under these sets of standards, the components of a complete set of financial statements include a balance sheet (statement of financial position), an income statement (statement of profit and loss), and a statement of comprehensive income (either a single continuous statement or two consecutive statements), as well as a statement of cash flows and accompanying notes to the financial statements.
Also, both the US GAAP and IFRS require the presentation of the statement of retained earnings (changes in shareholders’ equity). However, the US GAAP allows the statement of retained earnings to be presented in the balance sheet, income statement, or notes to the financial statements, while IFRS requires the statement of retained earnings to be presented as a separate statement. Let’s look at the statement of retained earnings according to the GAAP vs IFRS requirements:
Statement of retained earnings (GAAP)
In the United States, financial reporting practices are organized within the framework of the generally accepted accounting principles (GAAP) which are set forth by the Financial Accounting Standards Board (FASB). These generally accepted accounting principles are a common set of accepted accounting principles, standards, and procedures that the companies in the US and their accountants must follow while compiling their financial statements.
What are the requirements of the U.S. GAAP for the statement of retained earnings? In the United States, under the U.S. Generally Accepted Accounting Principles (U.S. GAAP), a statement of retained earnings is required whenever comparative balance sheets and income statements are presented. According to GAAP, the statement of retained earnings may appear in the balance sheet, in the notes to the financial statements, or in a combined income statement and changes in retained earnings statement.
Therefore, under these accounting principles, the statement of retained earnings makes use of information from the income statement to provide information to the balance sheet. Retained earnings are part of the company’s balance sheet under ‘Stockholders equity (or shareholders’ equity)’ and are mostly affected by the net income that a company earns during a period of time less any dividends paid to the company’s owners or stockholders.
The retained earnings account on the balance sheet is considered to represent an ‘accumulation of earnings’ since the company’s net profits and losses are added or subtracted from the account from period to period. Hence, retained earnings are a typical part of the ‘Statement of Changes in Equity’. This is why the general equation for the statement of retained earnings is expressed as follows:
Ending Retained Earnings = Beginning Retained Earnings − Dividends Paid + Net Income
The ending retained earnings from the previous reporting period is the starting retained earnings balance for the current reporting period. The ending retained earnings balance is found on the equity portion of the balance sheet for the previous accounting period. For instance, when preparing a company’s statement of retained earnings for the year 2021, the starting retained earnings balance would be the retained earnings on the balance sheet at the end of 2020. The net income is reported on the income statement of the current reporting period while the dividends are the payout amount that is to be distributed to shareholders for the current reporting period.
Therefore, according to the statement of retained earnings equation, the retained earnings statement begins with the beginning balance of retained earnings. Then, it lists all of the net income or loss for the reporting period, any dividends that were declared and paid, and finally the ending balance of retained earnings. This equation is necessary when calculating a company’s Profit Before Tax which is used in the Cash flow statement under Operating activities when using the indirect method. It is used whenever only a balance sheet is given and a comprehensive income statement is not given.
Statement of retained earnings (IFRS)
International Financial Reporting Standards (IFRS) are a set of international accounting standards issued by the International Accounting Standards Board (IASB) which state how certain types of transactions and other events should be reported in financial statements. These standards were established in order to have a common accounting language so that business and accounts can be understood from company to company and from country to country.
What are the requirements of the IFRS for the statement of retained earnings? The IAS 1 sets out the overall requirements for financial statements, including how the statements should be structured, the minimum requirements for their content, and overriding concepts. Hence, IAS 1 (IFRS) requires a company or business to present a separate statement of retained earnings (statement of changes in equity SOCE) as one of the components of financial statements. This requirement is the key difference between the statement of retained earnings GAAP vs IFRS.
Hence, IFRS requires that the retained earnings statement should not be prepared combined with the balance sheet or the income statement but as a separate statement. According to the IFRS, it is required that a company’s statement of retained earnings must include the following information:
(a) total comprehensive income for the period, showing separately the total amounts attributable to owners of the parent and to non-controlling interests;
(b) for each component of equity, the effects of retrospective application or retrospective restatement recognised in accordance with IAS 8; and
(d) for each component of equity, a reconciliation between the carrying amount at the beginning and the end of the period, separately (as a minimum) disclosing changes resulting from:
(i) profit or loss;
(ii) other comprehensive income; and
(iii) transactions with owners in their capacity as owners, showing separately contributions by and distributions to owners and changes in ownership interests in subsidiaries that do not result in a loss of control.(IAS1.106)
Furthermore, according to the IFRS, the information to be presented in the statement of changes in equity
or in the notes are as follows:
106A- For each component of equity an entity shall present, either in the statement of changes in equity or in the notes, an analysis of other comprehensive income by item (see paragraph 106(d)(ii))
107- An entity shall present, either in the statement of changes in equity or in the notes, the amount of dividends recognised as distributions to owners during the period, and the related amount of dividends per share.
108- In paragraph 106, the components of equity include, for example, each class of contributed equity, the accumulated balance of each class of other comprehensive income and retained earnings.
109- Changes in an entity’s equity between the beginning and the end of the reporting period reflect the increase or decrease in its net assets during the period. Except for changes resulting from transactions with owners in their capacity as owners (such as equity contributions, reacquisitions of the entity’s own equity instruments and dividends) and transaction costs directly related to such transactions, the overall change in equity during a period represents the total amount of income and expense, including gains and losses, generated by the entity’s activities during that period.www.ifrs.org (IAS1)
Therefore, for small and medium enterprises (SMEs), the statement of retained earnings should show all changes in equity including:
- Total comprehensive income
- Owners’ investments
- Owners’ withdrawals of capital
- Treasury share transactions
However, if the company has no owner investments or withdrawals other than dividends, it can omit the statement of changes in equity and elects to present a combined statement of comprehensive income and retained earnings.
Statement of retained earnings GAAP vs IFRS differences
Under U.S. GAAP, owner’s accounts are presented in the retained earnings statement which is most often called the Statement of Stockholders’ Equity. This statement, under IFRS, is usually called the Statement of Changes in Equity. What is the difference between GAAP and IFRS statement of retained earnings? When reporting the various accounts that appear in the retained earnings statements, some of the biggest differences between the U.S. GAAP vs IFRS that arise relate to either categorization or terminology differences.
Categorization of accounts on GAAP vs IFRS statement of retained earnings
On the retained earnings statement, the U.S. GAAP divides owners’ accounts into two categories such as contributed capital and retained earnings whereas IFRS divides owner’s accounts using three categories such as share capital, accumulated profits and losses, and reserves. The first two IFRS categories (share capital and accumulated profits & losses) correspond to the two categories used under U.S. GAAP.
However, the third category on the IFRS statement of retained earnings which is ‘reserves’ is a category that is used to report items such as revaluation surpluses from revaluing long-term (fixed) assets and other equity transactions (like unrealized gains and losses on available-for-sale securities and transactions that fall under Other Comprehensive Income). The U.S. GAAP, on the other hand, does not use ‘reserves’ for any reporting on the retained earnings statement.
The terminology used for GAAP vs IFRS statement of retained earnings
|Common stock||Share capital|
|Preferred stock||Preference shares|
|Additional paid-in capital||Share premium|
|Retained earnings||Retained earnings, retained profits, or accumulated profits|
|Retained earnings deficit||Accumulated losses|
Table showing the differences between GAAP vs IFRS statement of retained earnings
|GAAP statement of retained earnings||IFRS statement of retained earnings|
|US GAAP requires that a company may present the statement of retained earnings in either the balance sheet, in a combined income statement and changes in retained earnings statement, or in the notes to financial statements.||IFRS requires that a company presents a separate statement of retained earnings as one of the components of financial statements. That is, it should not be prepared combined with the balance sheet or the income statement|
|Most often called the Statement of Stockholders’ Equity or Statement of Changes in Stockholders’ Equity||Usually called the Statement of Changes in Equity|
|U.S. GAAP divides owners’ accounts into categories such as contributed capital and retained earnings.||IFRS divides owners’ accounts into three categories such as share capital, accumulated profits and losses, and reserves.|
|U.S. GAAP does not use the term ‘Reserves’ for any reporting on the retained earnings statement||IFRS uses ‘Reserves’ as a category to report items such as revaluation surpluses from revaluing fixed assets and other equity transactions|
Above is a table showing the difference between GAAP and IFRS statement of retained earnings. Let’s look at some of these differences in two samples of retained earnings statements.
Sample 1: Statement of retained earnings under GAAP
Our first sample is an excerpt of Amazon’s Statement of Changes in Stockholders’ Equity from its Notes to consolidated financial statements (pg 16).
We can tell that the retained earnings statement above is made under the US GAAP, especially because it was not presented as a separate financial statement but was presented in the company’s notes to financial statement and balance sheet under Stockholder’s equity (see Amazon balance sheet image below). Also, we can see the use of the GAAP terminologies that we discussed earlier such as Common stock, Additional paid-in capital, retained earnings, stockholders, etc.
Sample 2: Statement of retained earnings under IFRS
For our second sample, let’s use the Tesco 2016 Statement of Retained Earnings
The above is an example of a statement of changes in equity prepared in accordance with IFRS, which was prepared as a separate statement. We can see the use of the IFRS terminologies as discussed earlier such as share capital, share premium, retained earnings, etc. Also, we can see that in accordance with the IFRS, Tesco’s total comprehensive income, owners’ investments, dividends, and treasury share transactions are contained in its statement of changes in equity. In addition, we can also notice the use of the ‘Reserves’ category on Tesco’s statement which is not used in the GAAP statement of retained earnings.
Statement of retained earnings GAAP vs IFRS similarities
- One of the major statement of retained earnings IFRS vs GAAP similarities is that these two accounting standards both require a presentation of the statement of retained earnings in financial reports.
- In accordance with the GAAP and IFRS, the presentation of the statement of retained earnings should be consistent; these accounting standards both require that the presentation and classification of items in the statement of retained earnings are retained from one period to the next unless the accounting standards require a change or there is a significant change in the company’s operation or review of financial statements.
- IFRS and GAAP both require companies or entities to present comparative information in respect of the preceding period for all amounts reported in the current period’s statement of retained earnings.
- US GAAP and IFRS both formulate financial statements on an accrued basis. Hence, one of the similarities between the statement of retained earnings GAAP vs IFRS is that the retained earnings statements are reported on an accrual basis.
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