Accounting is an essential part of any business. As a small business owner, you can choose your accounting method. If you answer to investors, you may prepare financial statements regularly, but you’re not held to the same standards as large, publicly-held companies.
If you’re planning to expand your business, appeal to new investors, offer shares or sell your business down the road, you may want to follow generally accepted accounting principles, or GAAP. The Financial Accounting Standards Board develops these standards.
The purpose of the FASB (Financial Accounting Standards Board) is to establish, examine and clarify generally accepted accounting principles (GAAP).
GAAP refers to the principles accountants are required to follow when putting together publicly available financial statements. Financial statements are documents that show a company’s financial standing during a specific time frame. GAAP standardizes financial statements so investors can easily look at a statement and make an informed decision about the financial health of a company.
GAAP was developed to help prevent fraud. Accountants using GAAP commit to accuracy and transparency. Companies that are publicly traded must also follow guidelines set by the Securities and Exchange Commission.
The FASB is an independent body that establishes GAAP. The FASB periodically sends out updates and clarifications around principles. It was founded in 1973 and continues principles established after the stock market crash of 1929.
When it comes to the SEC vs. FASB, the SEC recognizes the FASB as the authority to establish GAAP. The SEC provides additional rules for publicly-traded companies to follow, but GAAP is the starting point for accountants developing financial statements.
The FASB oversees GAAP in the United States. Another body, the International Accounting Standards Board (IASB), oversees accounting standards for most companies outside the U.S. When it comes to the FASB vs. IASB, the FASB is working with the IASB to establish standards worldwide.
The Financial Accounting Foundation (FAF) oversees the FASB as well as its government counterpart, the Governmental Accounting Standards Board. Like the FASB, the FAF is a nonprofit, independent body. The FASB is also directed by FASB board members.
The FASB board has seven members who serve full time. The FAF board appoints them, and they serve five-year terms. They can serve up to 10 years altogether. The FASB board members are required to sever their ties with any firms or institutions with which they worked in the past to ensure independence.
The FAF works to appoint board members from a variety of backgrounds. The board includes academics, financial statement users and accounting experts from the public and private sectors.
The FASB might not seem relevant to small businesses since small businesses aren’t required to use GAAP. GAAP might not be the best accounting method for small businesses since it uses the accrual method of accounting. Many businesses initially use cash accounting, which records transactions when they occur. It’s a simple accounting method that easily shows the cash available to your business at a given time.
As your business grows, though, you might want to switch to accrual accounting with an eye toward GAAP. Accrual accounting records transactions when they are earned rather than when money changes hands. For example, you might order inventory from a vendor in March, but you don’t pay the invoice until April. With accrual accounting, you would record the transaction in March even though money doesn't change hands until April.
In general, though, small businesses don’t interact with the FASB. Depending on your business goals as you grow your business, you may want to move to GAAP, which is overseen by the FASB,