Compiling Personal Financial Statements

• Chapter 0 - Overview
  • Course Objectives
  • Introduction
  • Organization
  • Conclusion
  • Note
• Chapter 1 - Introduction to Personal Financial Statements
  • Learning Objectives
  • Introduction
  • Key Issues in Preparing Personal Financial Statements
    • Ownership of Assets
    • Choosing the Basis of Accounting
    • Basic Financial Statements
    • Disclosures
    • Reporting
  • Question
• Chapter 2 - Accounting Guidance for Personal Financial Statements
  • Learning Objectives
  • Introduction
  • SOP 82-1
  • AICPA Audit Guide, Personal Financial Statements
  • Technical Practice Aids
  • Question
• Chapter 3 - Determining Estimated Current Values
  • Learning Objectives
  • Introduction
  • Guidelines for Determining the Estimated Current Values of Assets and the Estimated Current Amounts of Liabilities
    • Receivables
    • Marketable Securities
    • Options
    • Investment in Life Insurance
    • Investments in Closely Held Businesses
    • Real Estate (Including Leaseholds)
    • Intangible Assets
    • Future Interests and Similar Assets
    • Payables and Other Liabilities
    • Noncancellable Commitments
    • Income Taxes Payable
  • Estimated Income Taxes on the Difference between the Estimated Current Values of Assets and the Estimated Current Amounts of Liabilities and Their Tax Bases
  • Financial Statement Disclosures
  • Appendices
  • Questions
  • Cases
    • Case 3-1: Computation of Present Values and the Determination of Current Amounts
• Chapter 4 - Review of Engagement Arrangement
  • Learning Objectives
  • Introduction
  • Acceptance of Clients
  • Establishing an Understanding with the Client
  • Documentation
  • Other Comprehensive Basis of Accounting (OCBOA)
  • Gathering Information
  • Use of Estimated Current Values and Amounts
  • Representation Letters
  • Compilation of Personal Financial Statements
    • Smell Test
  • Cases
    • Case 4-1: Engagement Arrangement and Performance Standards for Compilations of Personal Financial Statements
• Chapter 5 - Reporting on Compiled Personal Financial Statements
  • Learning Objectives
  • Introduction
  • Standard Compilation Report
  • Reporting on Statements that Omit Substantially All Disclosures
  • Reporting When Not Independent
  • Compilation Reports on Personal Financial Statements Included in Certain Prescribed Forms
  • Departures from GAAP
  • Reporting on the Statement of Financial Condition Only
  • Reporting on OCBOA Statements
  • Reporting on Supplementary Information
  • Uncertainties
  • Cases
    • Case 5-1: Compilation Reports Appropriate for Personal Financial Statements
• Chapter 6 - Reporting on Personal Financial Statements Included in Written Personal Financial Plans
  • Learning Objectives
  • Introduction
  • Question
• Chapter 7 - Latest Developments
• Value Aid
• AICPA Personal Financial Statements Guide

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Chapter 1 - Introduction to Personal Financial Statements

Learning Objectives

• Understand the general nature of personal financial statements.

• Be aware of the key issues in preparing personal financial statements.

Introduction

Personal financial statements are prepared for individuals either to formally organize and plan their financial affairs in general or for specific purposes, such as obtaining credit, income tax planning, retirement planning, gift and estate planning, or public disclosure of their financial affairs. Users of personal financial statements rely on them in determining whether to grant credit, in assessing the financial activities of individuals, in assessing the financial affairs of public officials and candidates for public office, and for similar purposes. Personal financial statements include the financial statements of an individual or a group of related individuals, such as a husband and wife or a family.

Prior to 1982, the 1968 AICPA Industry Audit Guide, Audits of Personal Financial Statements, supported historical cost as the primary basis of measurement for personal financial statements and recommended the presentation of estimated current values as additional information. The preface to that guide stated that "generally accepted accounting principles and auditing standards developed for commercial enterprises are applicable in general to personal financial statements." However, the increasing use of personal financial statements and experience with the use of the guide suggested the need to reassess those conclusions in light of the purposes for which personal financial statements are prepared, the users to whom they are directed, and the ways in which they are used. Statement of Position (SOP) 82-1, Accounting and Financial Reporting for Personal Financial Statements, is the result of that reassessment; it supersedes the accounting provisions of the 1968 AICPA Industry Audit Guide, Audits of Personal Financial Statements.

Key Issues in Preparing Personal Financial Statements

A basis of accounting is a framework for determining what and how information is presented in the financial statements and related notes. However, many issues have arisen in practice when preparing personal financial statements. These issues are summarized as follows.

Ownership of Assets

Personal financial statements generally present the combined assets and liabilities of a husband and wife. In these cases, it may be useful to disclose each individual's interest in the net assets in an additional statement or in a note to the financial statements.

When personal financial statements are prepared for only one of a group of joint owners, only the individual's share should be included as part of his or her assets. If an individual is a joint owner of property, state law should be used to determine the individual's interest in the property. The individual's interest in the property will determine what proportion of the value of the property should be included in the individual's personal financial statements. If ownership is based on joint tenancy, however, it may be necessary to consult legal counsel to determine the individual's interest in the property. In addition, if the client has an interest in a separate business (for example, is the owner of a closely held corporation), the property should be shown as a separate asset and not presented with other investments.

Choosing the Basis of Accounting

SOP 82-1 states that personal financial statements should present assets at their estimated current values and liabilities at their estimated current amounts and describes in detail the principles for such presentations. SOP 82-1 also states that assets, liabilities, and changes in them should be accounted for on the accrual basis.

The AICPA's Personal Financial Statements Guide (Guide) states that the accountant may compile, review, or audit personal financial statements that are prepared in conformity with a comprehensive basis of accounting that presents assets and liabilities at values and amounts other than estimated current values and amounts. The Guide states that other comprehensive bases of accounting include, for example, historical cost, tax, and cash.

• Historical cost basis - This basis generally measures the individual's assets and liabilities in accordance with GAAP used for business entities.

• Income tax basis - This basis measures the individual's assets and liabilities in accordance with the principles the individual uses for federal or other income tax reporting.

• Cash basis - Under the pure cash basis, the only asset reported is cash and there are no liabilities; only cash receipts and disbursements are reported as increases and decreases in net assets.

• Modified cash basis - Under the modified cash basis, the pure cash basis is modified to report certain assets and liabilities, generally as they would be reported under either the historical cost or income tax basis.

Basic Financial Statements

Under GAAP, a complete set of financial statements consists of a statement of financial condition, a statement of changes in net worth, and the related notes. Each financial statement should include references to the notes and should state that the notes are an integral part of the financial statements.

The GAAP statement of financial condition, or balance sheet, is divided into four main sections:

• Assets

• Liabilities

• Income tax effects

• Net worth

In the asset section, the economic resources of the client (individual or group of individuals) are presented. Generally, assets should be presented in order of liquidity. The liability section of the statement of financial condition displays the client's debt. Liabilities should be presented in order of maturity.

Significant assets and liabilities may represent limited business activities. That is, the activity does not constitute a separate trade or business. An investment in commercial real estate financed with a mortgage is an example of a limited business activity. Assets and liabilities related to a limited business activity should be reported as separate amounts and not netted against one another.

The third section of a statement of financial condition prepared in conformity with GAAP presents the estimated income tax effect on the difference between the reported assets and liabilities and their tax bases.

The final section of the statement of condition measures the net worth of the individual. In the net worth section, a single amount is presented, and no attempt is made to differentiate among the types of net worth (such as donated capital, earned capital, and appreciated capital). A statement of changes in net worth is the activity statement in a set of personal financial statements. The statement summarizes the transactions and events that have increased and decreased the client's net worth for the year.

Observation: SOP 82-1 states that the presentation of a statement of changes in net worth is optional. In practice, the statement is rarely presented because creditors do not normally consider it necessary.

Disclosures

Some information is better provided, or can only be provided, by notes to the financial statements, by supplementary information, or by other means. A common misconception about personal financial statements is that there are no requirements for disclosures in personal financial statements. Although there is no comprehensive list of what notes should be included in personal financial statements, according to SOP 82-1 the CPA should include sufficient disclosures to make the financial statements adequately informative. Specifically, informative disclosures can be classified in the following categories:

• Summary of significant accounting policies

• Financial statement items

• Presentation requirements

• Other information

Reporting

Certain modifications must be made when reporting on personal financial statements. The statement titles in the reports must reflect the personal financial statement titles. When compiled financial statements omit substantially all disclosures, the compilation report must disclose the fact that the assets are presented at their estimated current values and that the liabilities are presented at their estimated current amounts.

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