Qualitative characteristics are the attributes that make financial information useful to the people who rely on it to make decisions, mainly existing and potential investors, lenders and other creditors. They are set out in the conceptual framework used by standard setters to write accounting rules, and they act as a test of whether a particular accounting method or disclosure actually helps users.
The Financial Accounting Standards Board (FASB) in the United States and the International Accounting Standards Board (IASB) worked together on this part of their frameworks, and since 2010 both have described essentially the same set of characteristics. They divide them into two fundamental characteristics and four enhancing characteristics, with cost acting as a general constraint on what is worth reporting.
Fundamental characteristics
Information must have both fundamental characteristics to be useful at all.
- Relevance means the information can make a difference to a decision. It does so if it has predictive value, helping users forecast future results, or confirmatory value, helping them check earlier expectations, or both. Materiality is treated as an entity-specific aspect of relevance: an item is material if leaving it out or misstating it could reasonably be expected to influence users.
- Faithful representation means the information shows the economic substance of what it claims to show. Ideally it is complete, neutral and free from error. Neutral does not mean free of judgment; it means not slanted to produce a favorable or unfavorable impression.
Older frameworks used the word reliability instead of faithful representation, and placed more weight on conservatism, the habit of choosing the less optimistic figure. The current frameworks dropped conservatism as a separate quality because a deliberate bias toward pessimism conflicts with neutrality, although the IASB later reintroduced the idea of prudence as caution when making judgments under uncertainty.
Enhancing characteristics
Enhancing characteristics improve the usefulness of information that is already relevant and faithfully represented. They cannot rescue information that lacks the fundamental qualities.
- Comparability lets users identify similarities and differences between companies and between periods for the same company. Consistent use of the same accounting policies from year to year supports it.
- Verifiability means different knowledgeable and independent observers could reach broadly the same conclusion, either by direct checking, such as counting cash, or by indirect checking of the inputs and method.
- Timeliness means information is available while it can still influence decisions. Quarterly and interim financial statements exist largely for this reason.
- Understandability means information is classified and presented clearly and concisely, for users with a reasonable knowledge of business who study it with diligence.
The cost constraint and trade-offs in practice
Reporting information has a cost for preparers, auditors and users, so standard setters weigh whether the benefit of a new requirement justifies it, a form of cost-benefit analysis. The characteristics also pull against each other. Measuring a building at historical cost is highly verifiable but may be less relevant than an up-to-date valuation, while a fair value estimate is more relevant but harder to verify. Releasing figures quickly helps timeliness but leaves less time to check them.
For example, a company that switches from one depreciation method to another every year would weaken comparability even if each year's figures were accurate, which is why a change must be justified and disclosed under the full disclosure principle. The characteristics therefore shape both US GAAP and IFRS standards and the day-to-day judgments that accountants make when preparing financial statements.