Having a clear and appropriate reserves policy, and the allocation of income and costs to the correct reserve, is critical from an accounting, strategic, investment and risk management perspective. With a growing emphasis on going concern assessments, forecasting and a marked increase in Trusts, requesting emergency funding and making sure your reserves are correct is more important than ever.
Each Trust should have a reserves policy, which is monitored and updated as necessary. The Trustees should formally document the policy, being a requirement of both the Statements of Recommended Practice (SORP) and Academies Account Directive.
When considering whether an academy is a going concern, the amount of free reserves is key. Free reserves includes all unrestricted funds available for general purpose. Free reserves exclude:
An important thing to consider is that cash balances do not equate to reserve balances and often cash can be higher than the free reserves in academies. Although cash is clearly important, especially in the short term, reserves are more important in the longer term.
In March 2019, the Education and Skills Funding Agency (ESFA) issued guidance to academies on assessing going concern ‘Operating an academy trust as a going concern’. When preparing budgets, having a sensible reserves policy is essential. Trustees are legally required to spend funds within a reasonable timeframe of receipt and therefore saving up too high a level of free reserves could mean a breach in trust law. On the other hand, Trustees have a fiduciary duty to ensure the ongoing operation of the trust, so any policy needs to strike a balance between these two criteria.
From a day to day perspective having a policy which requires a too higher a level of free reserves will limit the amount that can be spent on educational activities and therefore is not good for the children. However, if an academy does not maintain enough free reserves it increases the risk of having to go the ESFA for emergency funding, an unplanned or unmanaged closure or forced re brokerage. Each academy will need to think about its own circumstances and will need to apply this to determine its own reserves policy, there is not set formula which will fit all academies.
When considering the level of reserves, the following should be considered:
Although there is some trend towards a zero based policy, this is often out of necessity and the Charity Commission’s guidance on the subject states that:
“Such a policy can create financial risk from the possibility of unforeseen expenditure, a shortfall in income or an inability to control costs. Trustees choosing to adopt a ‘zero level’ reserves policy should consider the financial and other risks inherent in such a policy and must explain their policy in the Trustees’ Annual Report.”
A better approach is to consider risk and the requirements of the Trust. A policy could be set around key costs such as payroll, so that rather than just having a policy of £X of free reserves or a % of income, the Trust could have a policy such as having enough reserves to cover one or two months payroll costs.
From an accounting perspective, the Trust’s reserves policy is reportable in the Trustees’ Report and the Trust must state the Trust’s policy on free reserves and restricted general funds. Designated funds should also be explained and quantified.
Therefore, it is essential that Trusts carefully consider a policy which is right for their circumstances, record this and continually monitor the policy to ensure it remains appropriate as the Trust evolves. Reserves should then be monitored against this policy on a regular basis as part of reviewing the Trusts management information to ensure the policy is being applied. If the Trust is failing to comply with the policy, it could be an indicator that the Trust is running into financial difficulties or that the policy is no longer the right policy, although care should be taken not to adjust the policy to fit neatly with reserves rather than adjusting expenditure to meet the policy. It is a good idea to speak to your specialist advisor who can help advise on what is required and what is best practice.