The IASB has issued Definition of Accounting Estimates – Amendments to IAS 8.
IAS 8 currently defines a change in accounting estimate as “an adjustment of the carrying amount of an asset or a liability, or the amount of the periodic consumption of an asset, that results from the assessment of the present status of, and expected future benefits and obligations associated with, assets and liabilities. Changes in accounting estimates result from new information or new developments and, accordingly, are not corrections of errors.” Perhaps peculiarly, it didn’t provide a definition for the underlying term “accounting estimate,” and there’s occasionally been confusion or uncertainty about whether something falls under that umbrella or under that of accounting policies. The new amendments remove the passage above, and define the term directly: “Accounting estimates are monetary amounts in financial statements that are subject to measurement uncertainty.” They go on:
- An accounting policy may require items in financial statements to be measured in a way that involves measurement uncertainty—that is, the accounting policy may require such items to be measured at monetary amounts that cannot be observed directly and must instead be estimated. In such a case, an entity develops an accounting estimate to achieve the objective set out by the accounting policy. Developing accounting estimates involves the use of judgements or assumptions based on the latest available, reliable information….
- An entity uses measurement techniques and inputs to develop an accounting estimate. Measurement techniques include estimation techniques (for example, techniques used to measure a loss allowance for expected credit losses applying IFRS 9) and valuation techniques (for example, techniques used to measure the fair value of an asset or liability applying IFRS 13).
The description of what constitutes a change in an accounting estimate then flows accordingly:
- An entity may need to change an accounting estimate if changes occur in the circumstances on which the accounting estimate was based or as a result of new information, new developments or more experience. By its nature, a change in an accounting estimate does not relate to prior periods and is not the correction of an error.
- The effects on an accounting estimate of a change in an input or a change in a measurement technique are changes in accounting estimates unless they result from the correction of prior period errors.
As before, the effect of a change in accounting estimate is applied prospectively – this differs from material prior period errors, which are corrected retrospectively by restating comparative amounts. The examples provided of accounting estimates are the same as before: loss allowances for expected credit losses; the net realizable value of an item of inventory; the fair value of an asset or liability; the depreciation expense for an item of property, plant and equipment; a provision for warranty obligations (however, an illustrative example relating to property, plant and equipment was removed because it might cause confusion). A further addition to IAS 8 specifies: “The effects on an accounting estimate of a change in an input or a change in a measurement technique are changes in accounting estimates unless they result from the correction of prior period errors.” This addresses a concern expressed in the feedback to the draft amendments, that “measurement techniques might meet the definition of accounting policies—for example, a valuation technique is a measurement technique but could also be seen as a practice and, therefore, meet the definition of an accounting policy. Accordingly, there is a risk that the effects of a change in a measurement technique could be seen as both a change in accounting estimate and a change in accounting policy.”
In my experience, some of the “misunderstanding” around this concept in the past has been rather deliberate – that is, an entity may have been motivated to argue that a plain error correction wasn’t that, just to avoid the visibility of restatement and refiling. The basis for conclusions acknowledges that the amendments “might not solve all application questions identified by stakeholders. For example, they may not clarify in all situations whether a change results from: (a) a change in an underlying measurement objective (which would be a change in accounting policy); or (b) a change of the measurement technique applied to achieve the same underlying measurement objective (which would be a change in accounting estimate).” Still, the changes should generally make specious arguments easier to quash. It’s rather funny, perhaps, that while the concept of accounting estimates is one of the oldest in the standards, it’s never been explicitly defined before now – just an illustrative example of how while new ground is being broken in some areas, it’s a game of catch-up in others…
The amendments, which don’t entail any changes to disclosure requirements, are effective for annual reporting periods beginning on or after January 1, 2023, with earlier application permitted.
The opinions expressed are solely those of the author