“Relationships feed on credibility, honesty and consistency.”

Accounting Principles Governing Fair Value Reporting for Real Estate in Personal Financial Statements

By Paul L. Jones, CPA & Licensed Real Estate Broker, 10/17/2023

Fourth in a Series

The first article of this series on personal financial statements (PFS) highlighted the purposes and benefits of preparing fair value PFS which includes obtaining mortgage financing and demonstrating creditworthiness to lenders and investors, investment planning an decision-making, portfolio analysis and management, risk management, and estate planning.? While only one of these involves communicating your financial information to third parties, it is most often the primary reason principal(s) prepare a PFS to begin with.

The second article noted that accounting is the language of business and presenting your PFS in accordance with generally accepted accounting principles as they relate to presentation improves the impression you make on stakeholders and others and allows you to realize fully all of the aforementioned benefits in preparing PFS.

In the third article, the process of compiling the PFS was likened to a jigsaw puzzle and a monopoly board.? And we learned that “sometimes it’s the journey that teaches you a lot about your destination” as the process of gathering and organizing the information helps the entrepreneur to understand what assets he has, what stage of development or level of stabilization they are in, the liabilities and obligations that encumber them and then allows the principal’s team to organize the assets and liabilities that allows for improved portfolio analysis and management.

In this article, we bring to bear the importance of following generally accepted accounting principles in the reporting of the financial information.? As I quote Scott Borchetta, “Relationships feed on credibility, honesty and consistency.”? And these three items are the foundation of a fair presentation that is key to establishing a relationship with stakeholders – especially those that are new to you.

Generally accepted accounting principles (GAAP) refer to a common set of accounting rules, standards, and procedures issued by the Financial Accounting Standards Board (FASB).? They are guided by ten key tenets and is a rules-based set of standards.? Just like rules in sports gives credibility to the outcome, following GAAP gives credibility to the statements presented. The 10 principles that govern reporting on personal financial statements are:

1.????? Principle of Regularity:? GAAP-compliant accountants strictly adhere to established rules and regulations. The accountant has adhered to GAAP rules and regulations as a standard.

2.????? Principle of Consistency:? Consistent standards are applied throughout the financial reporting process. ?Accountants commit to applying the same standards throughout the reporting process, from one period to the next, to ensure financial comparability between periods. ?Accountants are expected to fully disclose and explain the reasons behind any changed or updated standards in the?footnotes to the financial statements.

3.????? Principle of Sincerity:? GAAP-compliant accountants are committed to accuracy and impartiality. The accountant strives to provide an accurate and impartial depiction of a company’s financial situation.

4.????? Principle of Permanence of Methods:? Consistent procedures are used in the preparation of all financial reports. ?The procedures used in financial reporting should be consistent, allowing a comparison of the company's financial information. Fair value reporting for real estate enhances comparability by presenting property values that align with market conditions, enabling individuals to benchmark their real estate holdings against industry standards and trends.?

5.????? Principle of Non-Compensation: All aspects of an organization's performance regardless of whether it is positive or negative, are fully reported with full transparency and without the expectation of debt compensation.

6.????? Principle of Prudence:? Speculation does not influence the reporting of financial data. This refers to emphasizing fact-based financial data representation that is not clouded by speculation.

7.????? Principle of Continuity: While valuing assets, it should be assumed the business will continue to operate.

8.????? Principle of Periodicity: Reporting of revenues is divided by standard accounting periods, such as fiscal quarters or fiscal years. Entries should be distributed across the appropriate periods of time. For example, revenue should be reported in its relevant accounting period.

9.????? Principle of Materiality: Financial reports fully disclose the organization's monetary situation. The materiality principle stipulates that financial information should be disclosed if its omission or misstatement could influence the decisions of users relying on that information. ?Accountants must strive to fully disclose all financial data and accounting information in financial reports.

10.? Principle of Utmost Good Faith: Financial reports fully disclose the organization's monetary situation. It presupposes that parties remain honest in all transactions.? Accountants must strive to fully disclose all financial data and accounting information in financial reports.

In addition, since personal financial statements reflect the fair value of marketable assets, GAAP defines fair value as ““the amount that would be obtained to sell an asset or pay to transfer a liability in an orderly transaction between market participants at the measurement date.” “Market participants” are purchasers and sellers in the item's primary market.? The disclosure requirements are intended to provide information about the valuation techniques and inputs used to measure fair value, including judgments and assumptions made, as well as the uncertainty in the fair value measurements as of the reporting date.

Benefits of employing GAAP in a Personal Financial Statement

The balance of this article explores the advantages of employing GAAP in fair value personal financial statements, emphasizing how it enhances financial decision-making and promotes trust and reliability.

?? Consistency and Comparability

One of the key benefits of using GAAP in fair value personal financial statements is consistency in reporting. GAAP provides a standardized approach to financial reporting, allowing individuals to consistently record and present their financial information. This consistency enables easy comparison of financial statements over different periods, facilitating trend analysis and aiding in making informed financial decisions.

?? Accuracy and Reliability

GAAP guidelines emphasize the importance of accurate financial reporting. By following GAAP standards, individuals can ensure that their fair value personal financial statements accurately represent their financial position. Accuracy and reliability in financial reporting instill trust among stakeholders, including investors, creditors, and other interested parties, fostering a positive image of the individual's financial stability and responsibility.

?? Transparency and Disclosure

GAAP encourages transparency and full disclosure in financial reporting. When preparing fair value personal financial statements in accordance with GAAP, individuals are required to provide comprehensive and transparent information about their financial activities and transactions. This level of disclosure enhances the clarity of the financial statements, making it easier for stakeholders to understand the financial position and performance of the individual.

?? Credibility and Trustworthiness

Compliance with GAAP enhances the credibility and trustworthiness of fair value personal financial statements. Stakeholders, including banks, investors, and potential business partners, often rely on financial statements to assess an individual's financial health and creditworthiness. When financial statements are prepared in adherence to GAAP, stakeholders have confidence in the accuracy and reliability of the reported financial data.

?? Compliance with Regulatory Requirements

Following GAAP ensures compliance with regulatory requirements. Many jurisdictions mandate the use of GAAP in financial reporting to ensure uniformity and comparability across different entities. Adhering to GAAP in fair value personal financial statements helps individuals comply with legal and regulatory standards, mitigating potential legal risks and penalties.

?? Facilitates Decision-Making

Employing GAAP in fair value personal financial statements provides individuals with a structured framework for evaluating their financial standing. Consistent and accurate financial reporting, as encouraged by GAAP, aids in making informed financial decisions, planning for the future, and identifying areas for improvement or adjustment in financial strategies.

Conclusion

Utilizing Generally Accepted Accounting Principles in fair value personal financial statements offers numerous advantages, including consistency, accuracy, transparency, credibility, compliance with regulations, and informed decision-making. By adhering to GAAP, individuals can present their financial information in a standardized and reliable manner, enhancing stakeholders' trust and facilitating better financial management.

About the Author

Paul Jones (linkedin.com/in/paul-jones-42b8147) is a Certified Public Accountant and a Licensed Real Estate Broker in the State of Florida.? He is a senior commercial real estate financial advisor with 45 years of experience providing underwriting, due diligence and valuation services for investors and lenders.?? In preparing personal financial statements, he combines his knowledge of commercial real estate, structured finance, property and portfolio management with his accounting discipline to provide his clients with accurate, reliable, professional and informative personal financial statements.