T he SEC has a longstanding commitmentto the goal of a single set of high-qual-ity global accounting standards. SEC

Chairman Mary Schapiro commented thatsupporting the development of a single setof high-quality accounting standards is, inmany respects, “only the beginning of thediscussion, not the end.” IncorporatingInternational Financial Reporting Standards(IFRS) into the U.S. financial reportingsystem would involve a “significant under-taking” that includes consideration and delib-eration of whether such a change is in thebest interest of U.S. investors and markets,according to Schapiro. While the SEC doesnot yet have all the information necessary tomake a decision regarding IFRS now,Schapiro says that it remains “on a steadypath” to be in a position to make such adetermination.

This article provides a comparisonbetween the guidance under U.S. GAAP andIFRS for stock compensation accounting.

Stock CompensationThe guidance for stock compensation,

Accounting Standards Codification (ASC)718, Compensation–Stock Compensation, andIFRS 2, Share-based Payment, are largelyconverged standards. The general frameworkis common to both GAAP and IFRS:� Require a fair value-based approachin accounting for stock compensation.� Apply to transactions with employeesand nonemployees.� Require that the fair value of stocks tobe measured based on market price, if avail-able, or be estimated using an option pric-ing model, such as Black-Scholes-Merton.� Require a similar treatment for modi-fication and settlement of awards.

� Require similar disclosures in quarter-ly and annual financial reports.

There are, however, significant differencesbetween the two standards, and such differ-ences have made the transition from one stan-dard to the other rather cumbersome.

Awards with Service Conditions and Graded Vesting

ASC 718 requires that awards with grad-ed vesting and performance or market con-ditions use the graded-vesting attributionapproach, but it also permits companies

Stock Compensation Under U.S. GAAPand IFRS: Similarities and Differences

A C C O U N T I N G & A U D I T I N G

i n t e r n a t i o n a l a c c o u n t i n g

FEBRUARY 2012 / THE CPA JOURNAL32

By Josef Rashty and John O’Shaughnessy

FEBRUARY 2012 / THE CPA JOURNAL 33

to make an accounting policy electionregarding the attribution method for awardswith service conditions and graded-vestingfeatures. Companies can make an electionto recognize compensation costs for awardscontaining only service conditions andgraded vesting either as if the award wasmultiple awards (graded-vesting attributionmethod) or on a straight-line basis for theentire award (straight-line attributionmethod), regardless of the method used tomeasure the fair value of the awards, eitheras a whole or each individual tranche.

IFRS 2, on the other hand, does not pro-vide the straight-line attribution methodalternative. Companies should treat eachtranche of the award as a separate grant.This means that each tranche will be sep-arately measured and attributed to expenseover the related vesting period.

For example, Entity A grants 200 optionswith service conditions at the beginning ofYear 1 and determines that the fair value ofeach option is $10. The options vest in twoyears and have one year of cliff vesting (i.e.,100 options are vested at the end of Year 1and an additional 100 options are vested atthe end of Year 2). (See Exhibit 1.)

Accounting for TaxesASC 718 (paragraphs 55-15 through 55-

22) requires that companies recognizedeferred tax assets based on the GAAPamount of stock compensation at the timeof grant. If the tax benefit at the time of exer-cise exceeds the deferred tax assets, theexcess (“windfall benefit”) will be reflectedin equity as a credit. The shortfall of tax ben-efit, however, will be charged to equity tothe extent of prior windfall benefits, and intothe income statement thereafter.

In the above example, assuming that theexercise price is $50, the tax rate of EntityA is at 40%, and the stock price is $70 and$80 in Year 1 and Year 2, respectively.Furthermore, the employee exercises optionsin Year 3 upon full vesting of options atthe end of Year 2. The financial informationbased on ASC 718 (U.S. GAAP, straightline) will be as shown in Exhibit 2.

In-the-money nonqualified stock optionawards are tax deductible upon their vest-ing and exercise, under U.S. tax law. IFRS,on the other hand, requires that companiescalculate deferred taxes based on the intrin-sic value of awards at the end of each peri-

od. According to International AccountingStandards (IAS) 12, Income Taxes, if the esti-mated future tax deductions exceed cumu-lative remuneration expense, the excess iscredited to equity. If the tax deductions areless than or equal to cumulative remunera-tion expense, the excess deferred taxes arerecorded in the income statement. This pro-vision of IFRS is different from U.S. GAAP,which allows for the shortfall of tax benefitto be charged to equity to the extent ofprior windfall benefits, and into the incomestatement thereafter.

The financial information based on IFRS 2 (straight line) will be as shown inExhibit 3.

Equity and Liability Classified AwardsThe liability-classified awards differ

from equity-classified awards. The lia-bility-classified awards are remeasured ateach reporting period at fair value, where-as equity-based awards are measured atfair value at the date of grant. The guid-ance under U.S. GAAP and IFRS hassome differences when it comes to clas-

Year 1 Year 2 Total

Number of options vested 100 100 200

Stock compensation:

Straight-line method $1,000 $1,000 $2,000

Accelerated method $1,500 $ 500 $2,000

EXHIBIT 1 Graded Vesting

Year 1 Year 2 Year 3

Deferred tax assets $ 400a $ 400b $ (800)

Additional paid-in capital $ – $ – $(1,600)

Deferred tax income $ (400)a $(400)b $ –

Deferred tax expense $ – $ – $ 2,400c

Current taxes payable $ 2,400

Current tax expense $(2,400)

a40% tax rate times $1,000 stock compensation in Year 1. b40% tax rate times $1,000 stock compensation in Year 2.c([$80 market price less $50 exercise price] times 200 number of shares) times40% tax rate.

EXHIBIT 2Tax Implications, U.S. GAAP

There are, however, significant differences between the two standards, and such differences have made the transition from

one standard to the other rather cumbersome.

FEBRUARY 2012 / THE CPA JOURNAL34

sification of such awards as equity ver-sus liabilities.

For example, an entity grants awards toone of its executives that will be fully vest-ed if the percentage of increase in rev-enue outperforms the Standard & Poor’s(S&P) 500 performance. These awards willbe classified as equity under IFRS 2 but asa liability under ASC 718.

Exhibit 4 reflects a summary of equityversus liability classification under IFRSand U.S. GAAP.

Transactions with NonemployeesGAAP definition of an employee is

based on the common law definition ofan employee, whereas IFRS has abroader definition of an employee that

includes individuals who provide servicessimilar to those rendered by employees.

ASC 718 states that for transactions withnonemployees, companies can use eitherthe fair value of the goods or servicesreceived, or fair value of the equityinstruments, whichever is more reliablymeasurable. When an entity (whether pub-lic or private) grants equity awards tononemployees, it should apply the provi-sions of ASC 505-50, Equity–Equity-BasedPayments to Non-Employees, whichrequires that nonemployee awards beaccounted for at fair value. ASC 505-50-30-6 establishes that stock compensationtransactions with nonemployees shall bemeasured at the fair value of the consid-eration received or the fair value of the

equity instruments issued, whichever ismore reliably measurable.

IFRS 2, however, requires companies touse the fair value of the goods and servicesreceived, and they can only use the fairvalue of the equity instruments if they can-not reliably determine the fair value ofgoods and services.

ASC 505-50 requires that if the fairvalue of the equity instruments, in con-junction with selling goods and services,is used, the earlier of the date at whicha commitment by the counterparty isreached or the date at which the coun-terparty’s performance is complete,should also be used. IFRS 2, however,does allow for a performance commit-ment concept. According to IFRS 2, themeasurement date is the date that the enti-ty obtains the goods and services.

Type III Modifications (Improbable-to-Probable)

Type III modification changes theexpectation about the ultimate vesting ofthe awards. For example, a companychanges a condition that it expects willnot be satisfied to a condition that itexpects will be satisfied. Consider anaward that initially had a performancecondition stipulating that it would vest ifa particular product’s market shareincreases by 20%—a condition that man-agement had originally expected wouldnot be fulfilled. The company modifiesthe performance condition, whereby vest-ing would be achieved if only a 15%increase in the product’s market share

Year 1 Year 2 Year 3

Deferred tax assets $ 800a $ 1,600b $ (2,400)

Equity $ (400) $ (1,200) $ –

Deferred tax income $ (400) $ (400) $ –

Deferred tax expense $ – $ – $ 2,400

Current taxes payable $ 2,400

Current tax income $ (2,400)

a ($70 market value less $50 exercise price) times 100 (number of shares) times40% (tax rate).b ($80 market value less $50 exercise price) times 200 (number of shares) times40% (tax rate) less amount recognized in Year 1.

EXHIBIT 3Tax Implications, IFRS

IFRS 2 ASC 718

The awards are classified as liabilities if they The awards are classified as liabilities if 1) grantor has an obligation to are cash settled. deliver cash or other assets or 2) no equity holder relationship is

established—for example, due to other conditions—based on the classification criteria of ASC 480, Distinguishing Liabilities from Equity.

Puttable shares (excluding contingency puttable Puttable shares are equity-classified if 1) employee has made a shares) are classified as liabilities. substantial investment and bears the risks and rewards of ownership

for a reasonable period of time (six months) and 2) redemption price is at fair value.

Compound instruments are broken down to Compound instruments are generally classified as liabilities unless the liability and equity portions. compound financial instruments are tandem awards.

EXHIBIT 4Equity Versus Liability Classification, IFRS Versus U.S. GAAP

FEBRUARY 2012 / THE CPA JOURNAL 35

occurs—a condition that the companyexpects will be fulfilled.

In the above example, under ASC 718,the compensation cost for the original unvest-ed award should be zero at the date of themodification, because none of the optionsare expected to vest. The incremental fairvalue is equal to the full fair value of themodified award, which represents the totalcumulative compensation cost that thecompany should recognize for the award.On the date it becomes improbable that theservice condition of the original award willbe satisfied, the company should reversethe compensation cost previously recognizedfor the unvested award, if any, and then onthe modification date recognize compensa-tion cost equal to the full fair value of themodified award. A Type III modificationcould result in the recognition of a total com-pensation cost less than the award’s grant-date fair value, because at the date of themodification, the original vesting condi-tions are not expected to be satisfied.

IFRS 2, however, treats Type III mod-ifications differently. If the fair value of themodified awards exceeds the fair value ofthe original awards, the incremental valueshould be recognized over the remainingvesting period.

Fair Value MeasurementThe SEC’s Staff Accounting Bulletin

(SAB) 107 states that IFRS 2 and ASC 718provide fundamentally similar guidance onfair value measurements. The staff believesthat application of the ASC 718 measurementguidance would not generally result in areconciling item being reported under Item17 or 18 of Form 20-F for a foreign privateissuer that has complied with the provisionsof IFRS 2 for share-based payment transac-tions with employees. In Topic 14-L, how-ever, the staff reminds foreign private issuersthat there are certain differences betweenthe guidance in IFRS 2 and ASC 718 thatmay result in reconciling items (www.sec.gov/interps/account/sab107.htm).

ConclusionEven though the guidance for stock

compensation under U.S. GAAP andIFRS consists of largely converged stan-dards, the companies that have adoptedIFRS have found stock compensation oneof the most cumbersome areas to convert.This reflects the challenges that the SECand U.S. companies are facing in con-verting to IFRS. A high-level conver-sion has been achieved; nevertheless,low-level differences remain between thetwo standards. �

Josef Rashty, CPA, has held managerialpositions in several publicly held technol-ogy companies in the Silicon Valley regionof California. He can be reached atjrashty@sfsu.edu. John O’Shaughnessy,PhD, CPA (inactive), is an accountingprofessor at San Francisco StateUniversity. He can be reached atjoshaun@sfsu.edu.