What is GAAP?
GAAP is short for Generally Accepted Accounting Principles. GAAP is a cluster of accounting standards and common industry usage that have been developed over many years. It is used by organizations to:
- Properly organize their financial information into accounting records;
- Summarize the accounting records into financial statements; and
- Disclose certain supporting information.
One of the reasons for using GAAP is so that anyone reading the financial statements of multiple companies has a reasonable basis for comparison, since all companies using GAAP have created their financial statements using the same set of rules. GAAP covers a broad array of topics, including:
- Financial statement presentation
- Business combinations
- Derivatives and hedging
- Fair value
- Foreign currency
- Nonmonetary transactions
- Subsequent events
- Industry-specific accounting, such as airlines, extractive activities, and health care
The industry-specific accounting that is allowed or required under GAAP may vary substantially from the more generic standards for certain accounting transactions.
GAAP is derived from the pronouncements of a series of government-sponsored accounting entities, of which the Financial Accounting Standards Board (FASB) is the latest.
The Securities and Exchange Commission also issues accounting pronouncements through its Accounting Staff Bulletins and other announcements that are applicable only to publicly-held companies, and which are considered to be part of GAAP. GAAP is codified into the Accounting Standards Codification (ASC), which is available online and (more legibly) in printed form.
GAAP is used primarily by businesses reporting their financial results in the United States. International Financial Reporting Standards, or IFRS, is the accounting framework used in most other countries. GAAP is much more rules-based than IFRS. IFRS focuses more on general principles than GAAP, which makes the IFRS body of work much smaller, cleaner, and easier to understand than GAAP. Since IFRS is still being constructed, GAAP is considered to be the more comprehensive accounting framework.
There are several working groups that are gradually reducing the differences between the GAAP and IFRS accounting frameworks, so eventually there should be minor differences in the reported results of a business if it switches between the two frameworks. There is a stated intent to eventually merge GAAP into IFRS, but this has not yet occurred. Given recent differences of opinion arising during several joint projects, it is possible that the frameworks will never be merged.