Although for more than half of my 53-year career in auditing, I managed to avoid any involvement with government GAAP. Yet I found myself interested in two articles about it in the April CPA Journal: “Is Government GAAP Necessary?” by Sheila Weinberg, and “The Future of Government Accounting Standards” by Joel Black. What appealed to me about both articles is that they were critical of the archaic, shortsighted, and conceptually groundless second set of “basic” financial statements prepared on the hybrid “modified accrual basis” that have been required in addition to full accrual financial statements since 1999 by GASB 34. Both authors are to be complimented.
The Black article is a scholarly summary of the long history of government GAAP and an explanation of the rationale for several differences from commercial GAAP. Accordingly, I believe the article would make a useful training tool for young staff. Black’s criticism of modified accrual basis reporting and his implied support for probable future improvements to the current model that he characterizes as “not major” follow:
There are rumors that the Biden administration is thinking of a 15% minimum tax on companies with book or accounting income (“GAAP” income) of $100 million or more. This proposal tends to bubble up on the national policy agenda off and on with unfailing regularity. For example, in April 2019 Senator Elizabeth Warren raised a similar proposal in the early days of her presidential campaign and the Joint Committee on Taxation, as far back as 2006 examined Treasury’s advocacy of such a tax. Sadly, this was tried once and was a failure. In 1986, the corporate minimum tax was amended to include an adjustment for book-tax differences, being applied from 1987 to 1989 before it was not renewed.
There are many pitfalls associated with the idea of taxing book income. For starters, companies that meet the threshold will try and minimize GAAP income to pay lower taxes. One could argue that is desirable as we often suspect that companies today inflate GAAP income to look better to their shareholders. Tying tax rates to book income would imply that earnings management, or attempts to artificially inflate GAAP earnings, will now incur a real cash outflow cost in terms of higher taxes. However, the usefulness of GAAP earnings would be severely compromised and if distorted by tax related maneuvers, will give managers and speculators even more fuel to spin narratives to justify wild valuations. One can even imagine a world where stock return volatility driven by uninformative earnings numbers might drive away uninformed investors from equity markets.