FRS 102 Overview and Key Changes
Background
For accounting periods commencing on or after 1 January 2015, current UK GAAP has been replaced by a single standard. The transition requires all UK company’s financial information to be prepared in accordance with FRS 102. The only exceptions will be those applying International Financial Reporting Standards (IFRS) or Financial Reporting Standard for Smaller Entities (FRSSE). For some companies, FRS 102 will see little change in their financial statements but for others there could be significant differences. It is important that companies understand the differences in the new standard, and how they might impact their taxable profits and banking covenants. Below we guide you through the key changes, identifying the areas of difference to current UK GAAP and giving some guidance on the transition process.
Financial instruments
FRS 102 has a concept of basic financial instruments (such as cash, trade debtors, trade creditors) and other financial instruments (such as interest rate swaps and forward foreign currency contracts). Basic financial instruments are accounted for at amortised cost or cost less impairment, at present, whereas other financial instruments will be accounted for at fair value with any movements recognised in the profit and loss account. For companies that have other financial instruments, this will result in the recognition of an asset or a liability on the balance sheet for the first time and the movements in the fair value will have a direct impact on the reported results for the year.
Action points:
Identify any complex financial instruments and assess the impact of recognising them at fair value; fair values will need to be obtained at the comparative year end and the opening of the comparative period prior to transition (this may be difficult to obtain retrospectively).
Intangible assets
A change in the definition of intangible assets will result in the recognition of a greater range of intangible assets, particularly upon business combinations. Separately identifiable intangibles not currently recognised under current UK standards could include brand names and customer lists acquired. Goodwill and intangibles will continue to be amortised but the presumed life will be five years unless a reliable estimate of the life of the asset can be made. Companies that currently have goodwill or other intangibles being amortised over more than five years will have to consider whether they are capable of making a reliable estimate in order to justify a longer useful economic life.
Action points:
Business combinations occurring on or after the effective date will need to be calculated in accordance with FRS 102. This will include those occurring in the comparative period presented; consider where goodwill is being amortised over more than five years, whether a change in useful economic life is required and assess the impact.
Under FRS 102 companies will be required to account for holiday and sick pay liabilities at each year end. For example, if an employee carries over five days holiday into the new financial year the cost of those five days will be recognised as a liability at the balance sheet date. UK GAAP is currently silent on this point and whilst some businesses do recognise this liability (or asset in certain circumstances), many do not. For those companies with large numbers of staff, such as professional service firms, this could result in a material change. The treatment of defined benefit pension schemes will also change with a lower return on plan assets recognised in the Income Statement, and a greater amount in Other Comprehensive Income. For group defined benefit schemes the scheme will also be recognised on the Statement of Financial Position of the sponsoring employer in addition to being included in the group accounts.
Action points:
Consider aligning the holiday year with the financial year to reduce holiday pay liabilities; ensure information is obtained from the actuaries to enable the change in the comparative to be calculated for defined benefit pension schemes.
FRS 102 adopts a ‘timing difference plus’ approach to deferred tax. This is different to the approach currently undertaken in UK GAAP and will result in the recognition of a greater array of deferred tax assets and liabilities. The principal changes will be the recognition of deferred tax liabilities on upward property valuations and on unremitted overseas earnings. For companies with significant property revaluations this could have an impact on the Statement of Financial Position net assets as additional deferred tax liabilities are recognised.
Action points:
Companies will need to assess the Statement of Financial Position impact and whether this will result in breaches of net asset covenants in banking agreements.
Investment property revaluations will be taken directly to profit and loss, together with any associated deferred tax charge. At present, such movements are recognised in the Statement of Total Recognised Gains and Losses and hence the change will bring greater volatility to reported results for property investment companies.
Action points:
Assess whether there is a need to adjust banking covenants to remove the impact of property revaluations on tests of interest cover or profitability.