On 14 March 2013 the Financial Reporting Council issued FRS102, the financial reporting standard applicable in the UK and Republic of Ireland. This new single standard of around 350 pages will replace the multitude of existing UK GAAP accounting standards for accounting periods beginning on or after 1 January 2015, although companies are permitted to adopt the standard earlier if they wish.

In addition to FRS102, the LLP SORP is currently being revised with an exposure draft of the revised SORP expected in autumn 2013. The main changes in the revised SORP are expected to be the presentation of the financial statements and retirement annuities.

The new standard

FRS102 will apply to your firm if it is currently applying UK GAAP – unless it is a small company or group, as defined by the Companies Act 2006, and applies the financial reporting standard for smaller entities (FRSSE). If this is the case, it may continue to apply the FRSSE, at least in the short term. However, all entities will be allowed to adopt EU International Financial Reporting Standards (IFRS) voluntarily.

The terminology used in FRS102 has been aligned to IFRS terminology, with the profit and loss account becoming the income statement, the balance sheet becoming the statement of financial position, debtors becoming receivables and creditors becoming payables. Other titles may be used as long as they are not misleading.

Some of the changes in accounting treatment will also have an impact on tax, so understanding these changes sooner rather than later will help you to plan for the changes and, where possible, implement planning strategies to take advantage of them. Early adoption may, in some circumstances, be beneficial.

Impact on financial services firms

  • Financial institutions – if your firm is defined as a financial institution under FRS102, there will be a large number of additional disclosure requirements for the financial statements when compared to the current UK GAAP requirements.
  • Financial instruments – under FRS102 financial instruments are classified as either basic (e.g. cash, debtors) or other (e.g. investments in equity, derivatives). There is generally no change to the way that basic financial instruments are accounted for. However, there are differences for financial instruments classified as 'other'. For example, under current UK GAAP, forward contracts are not recognised on the balance sheet and are only disclosed in the financial statements. Under FRS102 they are measured at fair value (market value) and included in the statement of financial position, with movements recognised in the income statement.
  • More instances of fair value accounting for financial instruments will result in more movement through the company's income statement. While the starting point for tax calculations is the accounting treatment, there are special rules for the corporation tax treatment of financial instruments.
  • Operating Leases – lease incentives will have to be spread over the entire lease term, rather than the earliest break clause/rent review as is currently the case under UK GAAP.
  • Deferred tax – FRS102 uses a 'timing differences plus' approach in respect of deferred tax– more transactions will have to be considered for deferred tax, such as revaluation gains and business combinations.
  • Business combinations – there is no use of merger accounting under FRS102 (except for common control transactions) and there is no requirement to restate past business combinations. However, under FRS102 more intangible assets could be recognised on business combinations, reducing the value of goodwill calculated on acquisition. The useful economic life of goodwill and intangibles is five years, in the absence of any justification for a longer period. For corporation tax purposes, if no election has been made to claim the 4% writing down allowance there could be a change in available tax deductions.
  • Investment property – if the firm owns investment property it will have to be re-valued to fair value, unless the fair value cannot be measured reliably without undue cost, with movements in the fair value being included in the income statement.
  • Research and development (R&D) claims and software development – some assets, such as website and software development costs, could be reclassified as intangible fixed assets. This could provide companies with an opportunity to make additional claims for R&D tax relief (or credits) under the R&D tax regime.

Think ahead

These differences may well have a significant impact on reported and taxable profits and on profits available for distribution or values used when measuring loan covenant compliance.

We recommend you not only consider the impact of FRS102 on your business now, but also on any transactions, contracts and agreements that you may enter into in the future.

Although 2015 sounds a long way away, in reality this change will have an impact much sooner due to the requirement to restate comparatives, including the need for an opening balance sheet. This means that if the firm has a December year end, an opening balance sheet as at 31 December 2013 will be required.

Therefore, it is worth thinking about how the transition to FRS102 may affect your business as soon as possible.

Smith & Williamson LLP Regulated by the Institute of Chartered Accountants in England and Wales for a range of investment business activities. A member of Nexia International. Smith & Williamson Financial Services Limited Authorised and regulated by the Financial Conduct Authority. Nexia Smith & Williamson Audit Limited Registered to carry on audit work and regulated by the Institute of Chartered Accountants in England and Wales for a range of investment business activities. Member of Nexia International. The Financial Conduct Authority does not regulate all of the products and services discussed in this newsletter.