New UK GAAP A guide to the largest change in UK accounting standards and financial reporting for a generation
Introduction On 1 January 2015 the Financial Reporting Council ( FRC ) replaced the accounting standards applicable in the UK (old UK GAAP) with new standards, FRS 100 to 104. The change was seen as necessary to bring UK accounting standards in line with International Financial Reporting Standards ( IFRS ). From 1 January 2016 two further standards FRS 102 1A and FRS105 were introduced for smaller companies. The FRC still deem IFRS excessive for unlisted entities, however, the reporting requirements of the new standards fall between old UK GAAP and full IFRS. All UK limited companies have now been impacted by these changes. The five new accounting standards, released by the FRC, to replace old UK GAAP (comprising SSAPs, FRSs and UITF Abstracts) from 1 January 2015 were: FRS 100 Application of Financial Reporting Requirements; FRS 101 Reduced Disclosure Framework; FRS 102 The Financial Reporting Standard applicable to the UK and Republic of Ireland; FRS 103 Insurance Contracts; and FRS 104 Interim Financial Statements. The standards introduced from 1 January 2016, for smaller entities, replaced an interim standard, FRSSE 2015, (applicable for only periods commencing 1 January 2015 to 31 December 2015) were: FRS 102 1A The Financial Reporting Standard applicable to the UK and Republic of Ireland for Small Entities; FRS 105 The Financial Reporting Standard applicable to the Micro Entities Regime 1 New UK GAAP
What are your options? Mandatory for: Optional for: IFRS This option is only mandatory for listed groups however, any entity can elect to prepare accounts under IFRS should they wish. IFRS carries more requirements to disclose information than FRS 101 and FRS 102 and has been written with large listed groups in mind. Listed companies Subsidiaries of listed companies Other companies of any size FRS 101 This is a reduced disclosure framework for entities that are part of a listed group which prepares consolidated financial statements under IFRS. Additionally the consolidated accounts of the group must, be publicly available, intend to give a true and fair view and the entity applying FRS 101 must be consolidated within. Please note that charities cannot apply FRS 101. Optional only Subsidiaries of listed companies Subsidiaries of other entities adopting IFRS whose financial statements are publically available FRS 102 Mandatory for any entity that is a medium or large non-listed company or group in the UK, but can be applied by any other entity that is not obliged to use IFRS. Small companies follow FRS 102 with reduced disclosure (FRS 102 1A) Non-listed large and medium-sized companies and groups not opting for IFRS Small companies from 2016 Any other entity unless required to adopt IFRS FRS 105 Principles follow FRS 102 but with significant simplifications Optional only Micro entities Definitions To qualify, a company must meet 2 of the following conditions Small company Turnover less than 10.2million Balance sheet less than 5.1million Employees less than 50 Micro company Turnover less than 632,000 Balance sheet less than 316,000 Employees less than 10 2 New UK GAAP
Impact on your accounts We outline the main changes to the financial reporting standards under FRS 102. Please note that this is a guide only and we would recommend reviewing the standards in full, either yourself or with our assistance, as well as discussing the potential impacts with your accountant. Terminology FRS 102 has brought the default terminology used in the financial statements in line with IFRS, although the old style terminology can still be adopted. A table of the changes is provided below. Under old UK GAAP Default under new regime (FRS 102) Balance Sheet Statement of Financial Position (but Balance Sheet can still be used) Profit and Loss Statement of Income Statement of Recognised Gains and Losses ( STRGL ) Statement of Comprehensive Income Share Capital and Reserves note Statement in Changes in Equity (now a separate statement rather than a note to the accounts) Cash Flow Statement of Cash Flows Stock Inventories Debtors Receivables Creditors Payables 3 New UK GAAP
Prior period adjustments The wording around prior period adjustments has changed. An adjustment is now required where there is a material error rather than a fundamental error. It is likely that this change will result in more prior period adjustments recognised in the future. Statement of Cash Flows The statement of cash flow under FRS 102 will refer to cash and cash equivalents. This will incorporate any deposits with a short maturity (less than three months from date of acquisition) and any amounts repayable on demand. Additionally the categories within the statement will now be simplified to: cash from operations ; investing activities ; and financing activities. Intangibles Intangible assets will now have a presumed maximum useful life of ten years if a company cannot reliably estimate the useful economic life. Many companies currently use the 20 year maximum under UK GAAP and could therefore have a large write-off on transition to FRS 102. Investment properties Investment properties must be revalued every year at fair value under the new regime. Gains or losses as a result of the revaluation will be presented in the Statement of Income (Profit and Loss Account) instead of the STRGL. Despite their appearance in the Statement of Income the revaluation gains and losses will not be subject to Corporation Tax until realised and will be treated as non-distributable. Attention must therefore be paid to ensure that gains from revaluation are not unlawfully distributed to shareholders. Retained earnings will need to be categorised between distributable and non-distributable reserves. FRS 102 does state that revaluation at fair value is required unless the process would cause undue cost or effort. In which case the normal cost less depreciation method of accounting can be used. Properties held by group companies and let within the group will now be treated as investment properties and subject to the changes above, whereas previously such properties would be accounted for under a normal fixed asset treatment. A property that serves as a business asset and generates rental income (such as a shop with a rented accommodation above) will have to be split between investment property and property, plant and equipment. Each element will then be treated under a separate standard. As explained in more detail below, deferred tax provisions will now be required in respect of revaluation gains. This could potentially reduce investment companies balance sheets considerably. Property plant and equipment ( PPE ) Assets held in PPE can be carried at depreciated cost or fair value. If the fair value method is chosen the assets must be revalued with sufficient regularity to ensure the value at the period end is approximate to fair value. This effectively will mean revaluing for each period. 4 New UK GAAP
Leases A finance lease under FRS 102 exists when the risks and rewards of ownership of the asset in question have been transferred. This is a more judgemental test than old UK GAAP, which classified a lease as a finance lease when the sum of the present value of the minimum lease payments was greater than 90% of the fair value of the asset. More consideration will have to be made as to whether a lease is a finance lease or operating lease. The accounts will now have to disclose the total of future minimum lease payments rather than the annual lease commitment. Lease incentives will now have to be spread over the length of the lease rather than the next rent period, as is the case under old UK GAAP. Financial instruments FRS 102 splits the treatment of financial instruments between basic financial instruments and other financial instruments. Basic financial instruments include items such as cash, trade receivables and trade payables. They will be recorded at cost less amortisation, with certain items at fair value. Other financial liabilities refer to more complex items such as, derivative financial instruments (e.g. forward contracts, swaps etc.) and complex loans. Derivative financial instruments will need to be carried at fair value on the balance sheet under FRS 102. Calculating the fair value of a complex derivative is a difficult procedure and will require more work than the previous method. Gains and losses as a result of revaluing derivatives will be presented in the Statement of Income. Debt instruments due over one year, both payable and receivable, will be measured at amortised cost using the effective interest method. There is no need to discount the cash to be paid or received on a loan due within one year. Business Combinations FRS 102 does not allow the use of merger accounting and all business combinations must now use the purchase (acquisition) method. The cost of the new acquisition will be measured as the fair value of the assets and liabilities of the entity at the date of the transaction. The balance sheet of the acquisition will have to be fully restated to determine its value. Any non-owned special purpose entities that were previously excluded from a group may now have to be consolidated under the FRS 102. Revenue recognition FRS 102 aims to clarify revenue recognition for financial statements. Broadly speaking, the principles of revenue recognition remain the same, but to help an appendix containing examples of different revenue generating scenarios has been prepared within FRS 102. The aim of which is to make the application of the principles more consistent and clear. Pensions The treatment and disclosure of defined benefit plans has been amended, including bringing group plan deficits onto the balance sheet of at least one individual entity. 5 New UK GAAP
Employee costs It is now mandatory that holiday pay accruals or prepayments are included in the accounts of the entity. Calculating holiday pay accruals may be an issue if you have not prepared them in the past. Gathering the data could require a considerable amount of time and effort. Related party disclosures Related parties need no longer be named and instead may be presented by class of related party with a description of the type of transactions. In addition, generally only transactions not conducted at market rates need disclosing. There is also a new requirement to disclose the total remuneration, including employee benefits, for key management personnel. This will include key management personnel not just executive directors, as required in the director s remuneration disclosure. It will be worth considering whether there are any other key management personnel in an entity for reporting purposes other than directors. Government Grants Grants can now be accounted for in one of two ways, the performance model or the accrual model. The performance model allows the entity to recognise all of the revenue from the grant in the Statement of Income on completion of the performance related conditions. If there are no conditions it can be recognised on receipt of the grant. Using the accrual model an entity will first have to decide whether it is a grant relating to revenue or capital assets. If it relates to revenue the grant is released to the Statement of Income in a systematic basis to reflect the costs that the grant covers. Asset-based grants are released as revenue over the expected useful life of the asset funded. Agricultural and horticultural entities Entities with biological assets can now choose whether to value such assets at cost or fair value less costs to sell. Tax effect of the change Current tax In calculating the trading profits of an entity, HMRC require accounts to be prepared under the current accounting policies as defined in legislation. Therefore, a transition from one accounting policy to another that gives rise to an adjustment recognised in the Statement of Income will be included in the taxable profits of the entity. It is therefore important to remember that the adjustments to the accounts as a result of FRS 102 could lead to either more or less tax being charged than would have been under old UK GAAP. Deferred tax Any revaluations, including within business combinations, will have to be included within the deferred tax provision. The consequence of which will be a more complex calculation of deferred tax and it being recognised more regularly. 6 New UK GAAP
Discussing the changes further Our experts at Smailes Goldie would be happy to assist in answering any further questions that this guide may have raised. This is the largest change in accounting standards in recent history and its impact should not be underestimated. Should you have any queries or require any further information please contact us using the details on the following page. Our services: Audit & Assurance Accountancy Business Start-up Capital Allowances Capital Gains Tax Compliance Corporate Finance Corporate Self-Assessment Corporation Tax Credit Control Expenses & Benefits Financial Management Income Tax Inheritance Tax, Trusts & Estates Outsourcing PAYE & National Insurance Payroll & Bookkeeping Research & Development Self-Assessment VAT DISCLAIMER: The matters discussed in this guide are by necessity brief and comprise summations and introductions to the subject referred to. The content of this guide should neither be considered by any reader to be an exhaustive list of all differences between existing UK GAAP and FRS 102 nor to comprise full and proper legal advice and should not be relied upon for such purpose. www.smailesgoldiegroup.co.uk Registered to carry on audit work in the UK and Ireland and regulated for a range of investment business activities by The Institute of Chartered Accountants in England and Wales.