Materiality matters

The definition of ‘material’ has recently been refined by the International Accounting Standards Board (IASB). For preparers of financial statements, materiality matters. The use of materiality judgements is pervasive in the preparation of financial statements. It extends to decisions about recognition and measurement as well as presentation and disclosure of financial information. When it comes to disclosures, getting these judgement calls wrong can lead to financial statements that contain either too little or too much information, with either extreme eroding the usefulness of the information.

Why the change?

‘Decluttering’ and improving the relevance of financial information in financial statements has been, and remains, a key focus of the IASB. In response to stakeholders’ concerns that it was often difficult to apply the concept of materiality in practice, the IASB has enhanced this definition. Entities will hopefully now find it easier to make materiality judgements when preparing their financial reports and not simply ‘tick the boxes’ on disclosure checklists.

What has changed?

The definition of materiality in AASB 101 Presentation of Financial Statements has been updated, and consequential amendments have been made to ensure that the definition of material is aligned across all Australian Accounting Standards, the Framework for the Preparation and Presentation of Financial Statements as well as AASB Practice Statement 2 Making Materiality Judgements.

How entities make materiality judgements is not expected to change significantly as the refinements are not intended to alter the overall concept of materiality. However, the refined definition, and the guidance and improved explanations that now accompany the definition of material in AASB 101, will hopefully make it easier for entities to understand and apply this important concept. Entities are encouraged to refer to Practice Statement 2: Making Materiality Judgements for extensive guidance on applying the concept of materiality when preparing general purpose financial statements.

The key changes are explained below:

Old definition
Omissions or misstatements of items are material if they could, individually or collectively, influence the economic decisions that users make on the basis of the financial statements.

New definition
Information is material if omitting, misstating or obscuring it could reasonably be expected to influence decisions that the primary users of general purpose financial statements make on the basis of those financial statements, which provide financial information about a specific reporting entity.

Some stakeholders raised concerns that the superseded definition of materiality could encourage preparers to make irrelevant and immaterial disclosures in their financial statements. The inclusion of the word ‘obscuring’ in the new definition emphasises that obscuring information can have the same effect on decisions made by the users of financial statements as omitting or misstating information.

The IASB also increased the threshold for disclosure by changing ‘could influence’ to ‘could reasonably be expected to influence’. This is expected to alleviate the problem of information overload in financial reports by narrowing the pool of information that could be disclosed.

‘Users’ has been upgraded to ‘primary users’, clarifying that only primary users (and not all users) need to be considered when deciding if information is material. Primary users are described as those ‘existing and potential investors, lenders and other creditors that cannot require reporting entities to provide information directly to them and must rely on general purpose financial statements for much of the financial information they need.’

When do the changes apply?

The new definition applies prospectively for annual periods beginning on or after 1 January 2020.

Earlier application is permitted, however entities that choose to apply the amendments earlier must disclose this fact.

Should you have any questions or wish to learn more, please speak with your HLB Mann Judd contact.