Definition
Under ASC 830, the functional currency of an entity is the currency of the primary economic environment in which it generates and spends cash. Management assesses indicators such as the currency of cash flows, sales prices, sales markets, expenses, financing and intra-entity transactions. Each entity in a group, including branches and equity method investees, has its own functional currency, which can differ from its legal currency or the currency of its books.
Why it matters in an audit or review
The determination drives the accounting model. If the functional currency is foreign, the statements are translated and the effect goes to other comprehensive income. If books are kept in a currency other than the functional currency, the amounts are remeasured and exchange gains and losses go through net income. A wrong determination misstates earnings and equity.
Example
Illustrative: a US parent owns a subsidiary in Mexico that sells in pesos, pays costs in pesos and borrows locally. Peso is the functional currency, so the subsidiary's statements are translated into dollars. If the subsidiary instead sold mainly in dollars and bought mostly from the parent, dollars could be the functional currency even though the ledger is kept in pesos.
Common mistakes
- Assuming the functional currency is the local currency without testing the indicators.
- Never reassessing after a change in the business.
Sources
- FASB ASC 830-10, Foreign Currency Matters, Overall (functional currency definition and indicators)
- Deloitte DART, Roadmap: Foreign Currency Transactions and Translations (dart.deloitte.com/USDART/home/codification/broad-transactions/asc830-10)
Definitions paraphrase AICPA and FASB guidance; read the standard itself before relying on a requirement. Example figures are illustrative. This page is guidance, not professional advice. Report an error