What is Inflation Accounting?

Nisan 20, 2024

Inflation accounting is a process of adjusting nominal values in financial reports to reflect their real purchasing power. In the application process, non-monetary balance sheet items are adjusted using a general price index. This adjustment is not required for monetary assets. In this article, we have compiled the curiosities about inflation accounting for you.

Inflation accounting is a process of adjusting a company’s financial statements for the effects of inflation. This adjustment ensures that financial statements more accurately reflect current purchasing power. It is applied to solve the problem of nominal values in financial reports not reflecting the real purchasing power, especially in high inflation environments.

The advantages of inflation accounting include:

1. Elimination of fictitious profitability: Inflation may increase nominal profitability but may reduce profitability. Thanks to this correction, misleading information caused by inflation is eliminated. profitability is corrected.

2. Factual information: Past and current financial situation provides a more accurate basis for comparison. This gives company stakeholders It provides more realistic information. Inflation accounting is subject to different conditions within the scope of the Tax Procedure Law (VUK) and Turkish Financial Reporting Standards (TFRS). For example, VUK requires inflation adjustment if the PPI is more than 100% in the last three accounting periods and more than 10% in the current accounting period. According to TFRS, the conditions that constitute conditions for inflation accounting application are as follows: The majority of the population prefers to hold their wealth in non-monetary assets or a stable currency. Prices in credit sales and purchases are determined to cover expected losses in purchasing power during the credit period. Interest rates, wages and prices are based on a price index. The cumulative inflation rate of the last three years approaches or exceeds 100%. Inflation accounting is suitable for companies whose functional currency is other than TL. However, certain regulatory bodies (for example, Insurance and Private Pension Regulation and Supervision Agency) may set different transition dates for the implementation of inflation accounting. As for how inflation accounting is done, non-monetary balance sheet items are adjusted using a general price index. There is no need for correction for monetary items because there is no difference in their nominal values. First of all, monetary and non-monetary items are determined, then the correction dates are determined, and finally, inflation accounting is applied by calculating the correction coefficients. In line with the guidance of the POA, the Consumer Price Index (CPI) is an index generally used in inflation accounting.

When is Inflation Accounting Applied?

When inflation accounting will be applied is determined according to the Tax Procedure Law (VUK) and Turkish Accounting Standards (TMS) 29. According to the Tax Procedure Law, if there is more than 100% inflation in the last three accounting periods, including the current period in the Producer Price Index (PPI), and more than 10% inflation in the current accounting period, an inflation adjustment must be made. However, this implementation has been postponed until the end of 2023 with the temporary article 33 added to the Tax Procedure Law with Law No. 7352. Therefore, at the end of the 2023 accounting period, balance sheets will be subject to inflation correction according to VUK. While calculating the tax base, profits for the 2023 period will be determined according to the pre-correction financial statements, and starting from 2024, they will be associated with the income statement by taking into account the adjustment differences of the end of the 2023 period and will affect the tax base. TAS 29, on the other hand, determines the details regarding the application of inflation accounting in the preparation of financial statements. According to this standard, situations that constitute conditions for the application of inflation accounting are that the majority of the population prefers to keep their wealth in non-monetary assets or in a stable foreign currency, that prices for sales and purchases on credit are determined to cover expected losses in purchasing power over the credit period, that interest rates, wages, and prices are adjusted to cover expected losses in purchasing power over the credit period. This includes situations such as being tied to a price index. Under these circumstances, inflation accounting may need to be applied in accordance with TAS 29. How is Inflation Accounting Done? Inflation accounting is the process of adjusting companies’ financial reports by taking into account the effects of inflation. This adjustment allows financial statements to more accurately reflect current purchasing power. It is applied to solve the problem that nominal values in financial reports do not reflect real purchasing power, especially in high-inflation environments. In inflation accounting practice, non-monetary balance sheet items at the end of the reporting period are adjusted using a general price index. This adjustment is not necessary for monetary items, because although there is a change in the purchasing power of monetary assets as a result of inflation, there is no difference in their nominal values. The implementation process begins with determining monetary and non-monetary items. Then, inflation adjustment dates for non-monetary items are determined. Correction coefficients are used to ensure indexation with the date on which inflation accounting is applied, based on the determined dates.

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What is Inflation Accounting?