FRS 102: Pitfalls to avoid

As 2016 draws to a close, many companies will either be preparing to complete their second set of accounts under FRS 102 The Financial Reporting Standard applicable in the UK and Republic of Ireland; for example those companies that first adopted the standard for their 31 December 2015 year-ends; or be preparing to adopt the standard for the first time because they are dealing with small companies with 31 December 2016 year-ends.

As a lot of companies have already gone through the transition process and have prepared accounts under FRS 102, there are now some real-life experiences and more emerging issues coming to the surface as to how implementation of the standard went as well as the quality of the accounts that have been produced.  This article takes a look at some of the more pressing issues that first-time adopters and second-time preparers might want to consider in readiness for the next accounts preparation or audit exercise based on feedback and reviews of preparers that have gone through the transition already.  As we move into 2017, further technical articles on pitfalls to avoid will be examined as small companies move under the scope of FRS 102 and FRS 105.

Accounting policies

Accounting policies, along with disclosures in the financial statements, have always seemed to be a contentious subject.  Many practitioners rely on automated accounts production software systems to get things like accounting policies and disclosure notes correct, but these will usually only produce the bare minimum and are often not tailored to the client’s specific circumstances.  This problem unfortunately does not go away under FRS 102.  In fact, the issue seems to be more of a problem for companies at the smaller end of the scale with some practitioners dealing with early-adopters that have now become small under new Companies Act size thresholds complaining that the accounting policies produced by their software are ‘overkill’.

Some financial statements that have already been prepared under FRS 102 contain very lengthy accounting policies and, in some cases, it is apparent that the accounting policy is there because the accounts production software package has produced it, or it has been replicated from model financial statements. For example, a set of financial statements recently reviewed and prepared under FRS 102 contained a very lengthy policy for assets held under hire purchase and finance leases when there were no assets held under such arrangements. Similarly, a set of accounts prepared under FRS 102 contained an accounting policy explaining that borrowing costs are included in the cost of assets under construction.  The company concerned did not have any assets under construction, nor did they have any borrowings for such.  Such policies are therefore superfluous and need not be included.  If policies are produced automatically, but are not relevant, they should be removed.  If policies are produced but are ‘boilerplate’ (e.g. ‘Turnover is stated net of VAT and trade discounts’) then they should be tailored accordingly.

Practitioners are encouraged to review the accounting policies and remove unnecessary policies where possible and also make the relevant accounting policies client-specific rather than generic.  Software companies should also try and enable flexibility (if they have not done so already) where accounting policies are concerned so that a preparer can either delete or amend an accounting policy, or disclosure note, if it is not relevant or not client-specific.

The Financial Reporting Council actively encourage companies to ‘cut clutter’ in the financial statements and this should apply equally to companies at the smaller end of the scale.

Transition to FRS 102

The move across to FRS 102 is proving to be a challenge for some and it goes without saying that it is important that a transition is handled correctly and by someone with a sufficient level of knowledge of FRS 102.

Some accounts recently reviewed contained a statement of compliance with FRS 102 and had a year-end of 31 March 2016 (the company was medium-sized) so it was correct to report under FRS 102.  However, a review of the cash flow statement indicated that this had been prepared under FRS 1 Cash flow statement principles as there were cash flows in respect of ‘Returns on investment and servicing of finance’ and ‘Taxation’ – classifications which are not contained in an FRS 102 cash flow statement. This represents either a (major) software glitch or a lack of knowledge on the part of the accountant.

Companies outside of the small companies’ regime (i.e. medium and large) must comply with the disclosure requirements of Section 35 Transition to this FRS and make the transitional disclosures.  Sometimes the disclosures are incomplete as they contain the reconciliations of equity and prior year profit or loss, but do not contain the explanations as to the effect the transition has had on the company’s financial position and performance.  Section 35 requires both reconciliations and explanations concerning a transition.

Small companies that are transitioning to the standard in 2017 (for example for a 31 December 2016 year-end) are encouraged to make the transitional disclosures and would be expected to make those disclosures if doing so results in a true and fair view. Staff Education Note 13 gives good guidance on the disclosures which is available free of charge (see the link at the end of the article).

Employee numbers in the accounts filed at Companies House

One of the new requirements for small companies preparing accounts for periods starting on or after 1 January 2016 will be the requirement to disclose the average number of employees during the year.  This was not previously disclosed in the financial statements for small companies.

The concept of abbreviated financial statements has been abolished for periods starting on or after 1 January 2016 and it would appear that a popular replacement for abbreviated accounts will be ‘filleted’ accounts.  Filleted accounts have been examined previously, but are simply accounts which comprise the balance sheet and the related notes to the balance sheet (i.e. the profit and loss account and any related profit and loss account notes are not filed – they are ‘filleted’ out).  The balance sheet filed at Companies House will be the same balance sheet prepared for the shareholders.

One of the emerging issues starting to come to the surface is whether, or not, the employee numbers disclosed in the full accounts should be filed with at Companies House with the filleted version.  The simple answer to this is ‘yes’ and this is also confirmed in guidance issued by ICAEW.  Whilst many accountants would argue that employee numbers equals payroll which equals profit and loss and hence should not be filed, employees are viewed as the business as a whole and the disclosure itself relates to the number of employees the business has as opposed to being a payroll disclosure.  As a result, the disclosure should be filed in the accounts lodged at Companies House for small companies.  If accounts production software does not allow this, the provider should be asked to make the required changes so the system does allow it.

Conclusion

There are bound to be many more issues coming to the surface as FRS 102 gathers faster pace in 2017.  The FRC has a set of useful Staff Education Notes which are available here free of charge and do give very good guidance on issues such as the transition (SEN 13), financing transactions (SEN 16) and the cash flow statement (SEN 01).

Category: Accounting and standards, Audit