I hope everyone is refreshed and ready for the new year — and a challenging one it will be for standard setters, with the convergence deadlines rapidly approaching.  To get you started, here are some thoughts on Principles vs. Rules, from Paul Miller and Paul Bahnson, academics who have a regular column (The Spirit of Accounting) for WebCPA, which publishes Accounting Today.  The article is called It’s principles and rules, not principles or rules.

This short anecdote gets to the heart of one key problem (my emphasis throughout):

Regulators who must enforce laws also prefer specific rules so they can determine when violations have occurred. It’s much easier to charge someone with fraud, negligence or malfeasance when a standard clearly states what should have been done. (Paul Miller remembers participating in a briefing at the SEC some years ago prior to a meeting of the Emerging Issues Task Force where several proposed interpretations of the literature were going to be under consideration. The chief accountant finally ended the discussion by telling the staff, “I don’t care which one you pick, just be sure we can enforce it.”)

The nub of their “and, not or” take is here:

[T]oday’s conceptual frameworks actually consist of principles-based standards that are helpful for education and for helping standard-setters and others cast visions for what could be done. In contrast, the more common technical standards are fine for constraining what can be done. In fact, it’s hard for us to envision an effective system that doesn’t generate both kinds. For example, recall the principle offered earlier: “Report assets at fair value.” While we think it’s a good concept, we acknowledge that it’s inadequate for guiding preparers, protecting auditors, and assisting regulators in keeping the capital markets humming along.

The best thing to do is … produce only what we call “principles-based rules.” In its July 2003 report, the SEC called these standards “objective-based” because the rules would follow from and work toward broader reporting objectives. This idea is equivalent to ours and, either way, the outcome would be no more convoluted rules like this one that FASB just published in Accounting Standards Update 2009-04: “Freestanding derivative instruments that are classified in stockholders’ equity pursuant to Subtopic 815-40 are not subject to ASR 268. (Footnote 6: A freestanding derivative instrument would not meet the conditions of Subtopic 815-40 to be classified as an equity instrument if it was subject to redemption for cash or other assets on a specified date or upon the occurrence of an event that is not within the control of the issuer.)”

Is the principles vs. rules debate really a non-controversy?  Paul and Paul make a good case.