The new LLP SORP
On 15 July 2014, the Consultative Committee of Accountancy Bodies (CCAB) published a revised version of the Statement of Recommended Practice (SORP) Accounting by Limited Liability Partnerships which is effective for periods commencing on or after 1 January 2015 (with earlier adoption permissible) for LLPs adopting FRS 102 The Financial Reporting Standard applicable in the UK and Republic of Ireland and the FRSSE (effective January 2015).
The SORP was revised because of new UK GAAP which comes into mandatory effect in 2015 – however changes to accounting standards which are made after 2 July 2014 are not reflected in the revised SORP (for example the changes issued to FRS 102 relating to financial instruments).
The SORP removes references to old UK GAAP and incorporates the terminology which is used by FRS 102 (eg statement of financial position for the balance sheet). The revised SORP also advises against LLPs presenting a single statement of income and retained earnings in place of the statement of comprehensive income and statement of changes in equity because there will be little benefit to users of LLP financial statements in the majority of cases.
Other points to note in the revised SORP are as follows:
Tax expense
Paragraph 29.22 to FRS 102 says that the tax expense of an entity (which includes withholding tax) should be presented in the same component of total comprehensive income (ie, continuing or discontinued operations, and profit or loss or other comprehensive income) or equity as the transaction or other event that resulted in the tax expense. The SORP requires that when an LLP incurs incremental tax expenses in respect of amounts presented in equity as distributions to members, that incremental tax expense should also be presented in equity.
Puttables exception
A puttable financial instrument can be classified as debt or equity depending on the substance of the instrument. When a puttable financial instrument places an obligation on the LLP to make payments to the holder of the instrument (eg interest or other non-discretionary returns), the instrument is classified as debt. When considering the puttables exception, the SORP requires the LLP to distinguish transactions between members and the LLP which are undertaken in their role as non-owners and those undertaken in their role as owners. The SORP cites an example of a profit or loss sharing arrangement which allocates profit or loss to instrument holders on the basis of services rendered or business generated during the current and previous years.
The SORP says that such arrangements are transactions with instrument holders in their role as non-owners and should not be considered when assessing the features listed in paragraph 22.4 of FRS 102. Conversely, profit or loss sharing arrangements which allocate profit or loss to instrument holders based on the nominal amount of their instruments relative to others in the class may represent transactions with instrument holders in their role as owners and hence should be considered further by applying the principles in paragraph 34 of the SORP.
The puttables exception provisions are fairly complicated to apply and there is some useful guidance contained in Appendix 2 of the SORP to help to demonstrate the impact of these in various scenarios.
For LLPs which apply the FRSSE, the SORP confirms that there are no plans to incorporate the principles of the puttables exception into the FRSSE and hence users of the FRSSE should have regard to the requirements of FRS 102 (Section 22 Liabilities and Equity) as a means of establishing current practice but may continue to comply with the requirements of the FRSSE in respect of liabilities and equity.
Members’ remuneration: presentation and disclosure
The provisions in FRS 102 allow entities a choice of presenting total comprehensive income for the accounting period in one statement (which is the statement of comprehensive income) or two statements (an income statement (profit and loss account) and a statement of comprehensive income).
The LLP Regulations require disclosure on the face of the profit and loss account/statement of comprehensive income of a subtotal, being ‘Profit or loss for the financial year before members’ remuneration and profit shares’. The total of members’ remuneration charged as an expense should be disclosed separately and deducted from this balance, hence:
Profit or loss for the financial year before members’ remuneration
and profit shares X
Members’ remuneration charged as an expense (X)
Profit or loss for the financial year available for discretionary
division among members X
FRS 102 at paragraph 4.12 requires certain disclosures concerning an entity’s share capital and reserves. LLPs do not have share capital and equivalent information is required to comply with paragraph 4.13 which show the changes in the period for each category of equity, and the rights, preferences and restrictions attaching to each category of equity.
This requirement is achieved by way of a reconciliation of the movement in members’ interests which is then analysed between ‘Members other interests’ and ‘Loans and other debts due to members’. An illustrative example is shown on page 23 of the SORP at paragraph 60 and this reconciliation may be presented as a primary statement instead of a statement of changes in equity. However, if this option is taken, comparative amounts should be presented by way of the full table relating to the prior period.
Cash flow statement
There are considerable presentational changes brought about by FRS 102 in respect of the cash flow statement and LLPs reporting under FRS 102 need to present such a statement to conform to the requirements in Section 7 Statement of Cash Flows which analyses cash flows during the period between operating, investing and financing cash flows.
LLPs are also required to separately disclose transactions with members (and former members) and these are reported as follows:
| Nature of transaction | Classification of cash flows |
| Remuneration that is paid under an employment contract | Operating cash flow |
| Other remuneration (discretionary or non-discretionary) for services provided | Operating cash flow |
| Post-retirement payments to former members | Operating cash flow |
| Capital introduced by members (classified as equity or liability) | Financing cash flow |
| Repayment of capital or debt to members | Financing cash flow |
| Payments to members that represent a return on amounts subscribed or otherwise contributed | Financing cash flow |
Retirement benefits
Paragraph 76 requires LLPs to analyse their contractual or constructive obligations to make payments to members in their capacity as members at, and after, the point of their ceasing to be members. This analysis is required to be made between:
- Those that meet the definition of an insurance contract and, therefore, fall within the scope of FRS 103 Insurance Contracts;
- Those that give rise to financial liabilities falling within the scope of Section 11 Basic Financial Instruments of FRS 102;
- Those that give rise to financial liabilities falling within the scope of Section 12 Other Financial Instruments Issues of FRS 102; and
- Those that give rise to non-financial liabilities of uncertain timing and amount falling within the scope of Section 21 Provisions and Contingencies of FRS 102.
This is an extremely complicated part of the SORP and there is a flowchart shown at paragraph 76B which offers guidance on how to determine a particular obligation. FRS 103 will apply when an annuity includes significant insurance risk (eg mortality risk) and will usually apply when the total amount payable by the LLP is significantly affected by how long the former member lives. Section 21 of FRS 102 will apply when the member builds up their entitlement to retirement benefits during their period of service and hence to the extent that the liability falls within the scope of Section 21, the value of the liability should reflect the latest expectations in respect of the likely date of ceasing to be a member and the amounts likely to be payable from that date and will be the best estimate of the present value of future cash flows. In practice, it will be appropriate to value the liability on an actuarial basis to be consistent with the principles in Section 28 Employee Benefits of FRS 102.
A financial liability will arise when there is an unconditional contractual obligation to deliver cash or other financial assets and this will then fall under the scope of Section 11 or Section 12 of FRS 102 (unless it meets the definition of an insurance contract). If the liability falls under the scope of Section 11, the LLP measures the liability at amortised cost using the effective interest method. If the liability falls under the scope of Section 12, the liability is measured at fair value. The SORP contains a useful table which sets out examples of applicable guidance for particular scenarios as follows:
| Example of post-retirement benefit | Applicable guidance |
| Former member is contractually entitled to an agreed percentage of annual LLP profits each year until death. | Obligation includes significant mortality risk, so FRS 103 applies (see paragraph 80C for discussion of accounting treatment). |
| Former member is contractually entitled to payment of pre-determined amounts annually for five years after retirement (amounts continue to be payable after death). | No mortality risk and liability qualifies as a ‘basic financial instrument’, so section 11 of FRS 102 applies. |
| Former member is contractually entitled to an agreed percentage of annual LLP profits after retirement (amounts continue to be payable after death). | No mortality risk and liability does not qualify as a ‘basic financial instrument’, so section 12 of FRS 102 applies. |
| No contractual obligation to pay post-retirement benefits to members, but past practice has established a constructive obligation to do so. | Obligation does not qualify as a financial liability, so section 21 of FRS 102 applies. |
| An individual has to be a member for five years in order to become entitled to receive post-retirement benefits. A particular individual has only been a member for three years. | Obligation does not qualify as a financial liability during the initial five-year period, because it is conditional on future service, so section 21 of FRS 102 applies in that period. |
Merger accounting
Under FRS 102, merger accounting can only be applied in group reconstructions whereas in current UK GAAP the use of merger accounting has a wider scope. In merger accounting, book values, not fair values, are used because this method reflects the substance of the transaction (fair values are used in a business combination when one party is the acquirer and one party is the acquiree – ie a parent/subsidiary relationship). When an existing partnership, limited company or other form of undertaking transfers into an LLP this could be accounted for as a group reconstruction. FRS 102 provides a choice of merger accounting or the purchase method, but the SORP recommends that the merger accounting method be used where permitted to reflect the substance of the initial ‘conversion’ to LLP with the initial ‘opening’ balance sheet following the accounting policies adopted by the LLP.
Related parties
FRS 102 at paragraph 33.7 requires the disclosure of total compensation paid to key management personnel and this may be made up of employee remuneration and profit attributable to members.
As a consequence, the SORP now requires the LLP to disclose aggregate key management personnel remuneration. The SORP states that key management personnel of an LLP are those persons – whether designated members, members or employees – having authority and responsibility for planning, directing and controlling the activities of the LLP, directly or indirectly.
Conclusion
The revised SORP should be applied for accounting periods commencing on or after 1 January 2015, although earlier adoption is permissible when the LLP adopts FRS 102 early. For earlier periods, the previous edition of the SORP will continue to apply.
In addition, LLPs adopting FRS 102 will also have to follow the transitional provisions outlined in Section 35 Transition to this FRS and accounting policy alignments to comply with FRS 102 will lead to changes in opening equity and hence the SORP requires consideration to be given of these impacts.
Category: Accounting and standards, Audit
