Intercompany Eliminations

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What is Intercompany Elimination?

Intercompany elimination is the process of eliminating transactions between companies in a group when preparing consolidated financial statements. The process of intercompany elimination is useful in managing the elimination of transactions between companies within a group. In addition, intercompany eliminations promote and establish controls in diverse business environments. However, the process involves a lot of reporting and the paperwork for intercompany relationships can be quite complicated. This process is important because it helps to avoid double counting of revenues, expenses, assets, and liabilities that arise as a result of transactions between group companies.

Types of Intercompany Eliminations

Generally, elimination entries are made for removing the effects of intercompany transactions. There are, basically, three types of intercompany eliminations as follows:

  • Elimination of intercompany stock ownership

This type of intercompany elimination transaction eliminates the assets as well as the stockholders’ equity accounts for the ownership of subsidiaries by the parent company.

  • Elimination of intercompany debt

This type of elimination entry is performed when the parent company makes a loan to the subsidiary and the parent company and the subsidiary possess a note receivable and a note payable respectively. In the event of consolidation or amalgamation of two companies, the loan is merely a transfer of cash, and thus the note receivable as well as the note payable is eliminated.

  • Elimination of intercompany revenue and expenses

The elimination of intercompany revenue and expenses is the third type of intercompany elimination. These intercompany revenues and expenses are eliminated as they are merely transfers of assets from one associated company to another. Moreover, it also does not have any effect on consolidated net assets. Some good examples of intercompany revenue and sales elimination can be indicated by sales to associated companies, interest expense or revenue on loans to or from associated companies, cost of goods sold as an outcome of sales to associated companies, and similar more.

 Intercompany elimination entries, therefore, occur in the event of a merger, or when one company absorbs another company. During these processes, it is highly essential to clean up and consolidate the financial accounts and relationships between the two for the sake of legality as well as efficiency. Thus, it can be concluded that finances cannot be vanished. Rather, elimination entries are made indicating changes that have been brought about.  

The process of intercompany elimination involves identifying and removing any transactions or balances between group companies that could result in double counting of revenues, expenses, assets or liabilities. Examples of such transactions include intercompany sales, intercompany loans, and intercompany dividends. Intercompany balances that need to be eliminated could include intercompany receivables and payables, or intercompany investments.In a consolidation worksheet, which is a worksheet used to correct the parent company's financial accounts and those of its subsidiaries to eliminate intercompany transactions and balances, intercompany elimination entries are often made. On the basis of the revised financial statements, the consolidated financial statements are then created.

Intercompany Elimination in IFRS and US GAAP

Intercompany elimination is a requirement under both International Financial Reporting Standards (IFRS) and US Generally Accepted Accounting Principles (GAAP), although there are some differences in the way that the two frameworks approach this issue.

Under IFRS, intercompany elimination is governed by IAS 27 (Separate Financial Statements) and IAS 28 (Investments in Associates and Joint Ventures). These standards require that all intercompany transactions and balances be eliminated in preparing consolidated financial statements. IAS 27 also provides guidance on how to account for the acquisition of a subsidiary and how to prepare consolidated financial statements when the parent company does not own 100% of the subsidiary.

Under US GAAP, intercompany elimination is governed by ASC 810 (Consolidation), which requires that all intercompany transactions and balances be eliminated in preparing consolidated financial statements. ASC 810 also provides guidance on how to account for the acquisition of a subsidiary and how to prepare consolidated financial statements when the parent company does not own 100% of the subsidiary.

The methods of intercompany elimination under IFRS and US GAAP are generally similar, and include the use of consolidation worksheets, intercompany accounts, and elimination entries. However, there may be some differences in the way that certain types of transactions are eliminated or in the specific accounts that are used for elimination purposes.

In addition, both IFRS and US GAAP require disclosure of intercompany transactions and eliminations in the notes to the financial statements, although the specific information that must be disclosed may differ.

Overall, intercompany elimination is an important aspect of financial reporting for multinational corporations, and it is essential that companies follow the relevant accounting standards to ensure that their consolidated financial statements are accurate and transparent.

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