IASB and FASB papers on Equity and Liability

In November 2007, FASB published a Preliminary Views document "Financial Instruments with Characteristics of Equity". That paper discusses three possible approaches to distinguishing between liabilities and equity. However, it favours the "basic ownership" approach which limits the instruments that can be classified as equity to the lowest residual interest in the entity. All other instruments are categorised as liabilities or assets under this approach.

The IASB discussion paper ‘Financial Instruments with Characteristics of Equity’ issued in February 2008 is based on the FASB document. The IASB discussion paper compares and contrasts the three ‘FASB approaches’ with a fourth approach: the existing IFRS approach, which is set out in IAS 32 Financial Instruments: Presentation. It also sets out the criticisms levelled at IAS 32 and provides the possible implications for IFRSs of the three approaches in the FASB document. The IASB discussion paper can be downloaded from the IASB’s website here and the comment deadline is 5 September 2008.

The ASB responded to the IASB in July 2008 and its response can be downloaded here.

PAAinE paper on Equity and Liability

The PAAinE discussion paper, developed by the German Standard-Setter and issued jointly by EFRAG and the standard-setters of Denmark, France, Germany, Italy, and the UK, presents a fifth possible approach: the so-called loss absorption approach. The paper analyses the existing IASB distinction between equity and liabilities and concludes that it has apparent shortcomings. It goes on to note that rather than addressing the shortcoming it would be more appropriate to perform a fundamental review of the principle. It concludes that the sharing is losses is the decisive factor in distinguishing equity from liability, therefore, any capital available to absorb an entity’s losses are classified as entity under this approach.

The paper has been prepared to stimulate and contribute to the ongoing debate on the subject. The comment period for the PAAinE Discussion Paper is six months and ends on 28 July 2008.

The paper can be downloaded from here.

Contact Project Directors: Simon Peerless and Seema Jamil-O'Neill