GAAP are the Generally Accepted Accounting Principles, guidelines or best practices established by the Financial Accounting Standards Board. In short, GAAP standards ensure that U.S.-based bookkeeping is accurate, consistent, reliable, and easy for anyone familiar with financial statements to interpret. Publicly-traded companies must adhere to GAAP standards, but for privately-held companies, it is a choice. Since it’s always a good idea to follow “best practices” in any industry (they were established as best practices for a reason, after all!) it’s wise for small business owners to find a virtual bookkeeper who adheres to GAAP standards of financial accounting.
The GAAP constraints are important because they help ensure objectivity and truthfulness in reporting. Let’s explore the primary GAAP constraints and what they mean for ensuring more accurate financial accounting records.
Objectivity – Financial statements are statements of fact, not opinion or interpretation. The GAAP principle of objectivity ensure that all data included must be supported by verifiable evidence.
Materiality – Like the disclosure principle, the materiality constraint means states that if information would be significant to a third party reviewing and analyzing your financial statements, it should be included.
Consistency – You must use the same financial reporting methods each year. Under GAAP principles, this is the accrual based method of accounting. Straying from this method, to use cash basis accounting, requires special permission and must be reported in the notes of your company’s financial statement. If you currently use cash-based accounting for your Indiana small business, your financial statements are not GAAP compliant. A virtual bookkeeper can help you transition to accrual based accounting and GAAP compliance.
Prudence – This simply means that, when reporting your profit and assets in accrual based accounting, err on the side of caution. Do not risk overstating assets and income.
But if you’re doing business internationally, as so many of us do in today’s interconnected world, there’s another set of standards your financial bookkeeper and part-time financial controller should know, as well: The International Financial Reporting Standards. Like GAAP, these are best practices used by bookkeepers and financial accountants. These are the standards adopted by European countries and most other developed countries around the world.
If you’re seeking international investment capital, plan to acquire companies or do business with companies overseas, or are selling your goods and services internationally, you’ll want a bookkeeper who can, when necessary, use IFRS standards for your small business bookkeeping.
Many of the GAAP and IFRS practices overlap, but there are some significant differences between the two sets of financial accounting standards. Some of the changes might exist within the areas of:
- When revenue is recognized
- Inventory accounting
- Stock-based compensation
Publicly-held companies will face, in the next few years, a move to the convergence of GAAP and IFRS principles, resulting in a new worldwide financial accounting standard largely based on IFRS principles.
Privately-held U.S.-based small businesses, however, will continue to have their choice of which accounting standards to follow. In today’s global economy, a bookkeeper who is expert in GAAP compliance but also familiar with IFRS standards may be best suited to help your company grow.