FinancialReporting
FRC
Periodic review amendments
As the FRC undertakes its Periodic Review, Steve Collings unpacks the key proposed changes to financial reporting requirements.
In 15 December 2022, the Financial Reporting Council (FRC) issued FRED 82 Draft amendments to FRS 102 The Financial Reporting Standard applicable in the UK and Republic of Ireland and other FRSs – Periodic Review. FRED 82 proposes several amendments to UK and Ireland GAAP and the comment period on this Exposure Draft closed on 30 April 2023.
There are two amendments which are considered to be ‘significant’ and which AAT members and licensed accountants will need to get to grips with in order to apply the amendments correctly and to advise clients on how the amendments will impact financial statements.
This article looks at the some of the more notable proposals in FRED 82. It should be noted that at the time of writing, the FRC had not finalised the amendments. While the proposal is that the amendments will apply to accounting periods commencing on or after 1 January 2025, this date is tentative and could be delayed depending on when the FRC issue the final amendments.
Changes to leasing rules
One of the most significant proposals for change relates to lease accounting. At the outset, it is worth noting that the FRC do not propose to amend FRS 105 The Financial Reporting Standard applicable to the Micro-entities Regime. The accounting treatment for leases in FRS 105 will remain as it is now.
Lease accounting for lessees under FRS 102, on the other hand, will change significantly. Effectively, all leases for lessees will be recognised on the balance sheet as right-of-use assets with a corresponding finance lease creditor. There will be no distinction of a lease between a finance or an operating lease. There are two exceptions to this rule proposed in FRED 82:
• Leases of low-value assets. Currently, the proposals cite examples of assets that would be considered to be low-value (such as tablet computers, photocopiers and small portable power tools). Assets such as motor vehicles and land and buildings will not be considered to be low value.
• Short-term leases. A ‘short-term lease’ is defined as a lease that, at the commencement date, has a lease term of 12 months or less. A lease that contains a purchase option is not a short-term lease.
Where an asset is low-value or the lease is short-term, the lessee can elect not to recognise the lease on-balance sheet and recognise the lease payments as an expense on either a straight-line basis over the lease term, or another systematic basis that is more representative of the pattern of the lessee’s benefit.
REVENUE
Revenue recognition updates
The revenue recognition requirements of FRS 102, Section 23 Revenue and FRS 105, Section 18 Revenue are both being redrafted by the FRC. The title of each section will be renamed to be called Revenue from Contracts with Customers. The main change to the revenue recognition requirements is the introduction of a five-step model approach to recognising revenue.
The five-step model approach works as follows:
• Step 1 – Identify the contract(s) with a customer
• Step 2 – Identify the promises in the contract
• Step 3 – Determine the transaction price
• Step 4 – Allocate the transaction price to the promises in the contract
• Step 5 – Recognise revenue when (or as) the entity satisfies a promise
The term ‘promise’ is defined as: “An obligation to transfer a good or service (or bundle of goods or services) that is distinct.”
It is not expected that there will be widespread changes to accounting policies for entities where the new revenue recognition rules are concerned. To a certain extent, there are already criteria that have to be met before a sale is recognised. However, businesses must ensure that their accounting policies for revenue recognition are compliant with the new requirements.
Further detail required from the FRC
I am of the opinion that it would be helpful if the FRC were to quantify an amount that FRS 102 would consider to be low-value. The International Accounting Standards Board (IASB) did this in the Basis for Conclusions in IFRS 16 Leases. The IASB confirmed in the Basis for Conclusions that they had a figure of US$5,000 in mind when developing IFRS 16. The FRC have received calls from commentators to consider quantifying the value of a low-value asset rather than having examples of assets that would and would not meet the low-value test.
To measure the lease liability, the lessee must discount the lease payments that are to be paid. The discount rate used will be the interest rate implicit in the lease. If the interest rate implicit in the lease cannot be ascertained, the lessee must use the lessee’s incremental borrowing rate or the lessee’s obtainable borrowing rate. In the rare situation the lessee cannot determine either the incremental borrowing rate nor the obtainable borrowing rate, the lessee must use the gilt rate.
The lease liability is then measured using the amortised cost method per FRS 102, Section 11 Basic Financial Instruments and the right-of-use asset is depreciated in accordance with FRS 102, Section 17 Property, Plant and Equipment. The leased asset must also be considered for indicators of impairment as required by FRS 102, Section 27 Impairment of Assets.
Once the lease accounting details have been finalised in FRS 102, AAT will be making resources available to members on the practical accounting issues, including a future article showing a worked example.
Conclusion
The comment period on FRED 82 ended on 30 April 2023. The FRC are currently analysing the feedback received and developing the proposals into the final amendments. It is not expected that proposals such as on-balance sheet lease accounting and new revenue recognition rules will be abandoned.
The planned ‘effective from’ date is currently scheduled for accounting periods commencing on or after 1 January 2025. However, depending on the time taken to finalise the proposals, the FRC could delay this effective from date to accounting periods commencing on or after 1 January 2026. AAT members and licensed accountants are strongly advised to keep abreast of developments on the FRC’s website.
AAT will be providing additional resources over the course of the coming months on how the periodic review amendments will be applied in practice and these issues will, of course, be covered in the 2024 Financial Reporting Masterclass.
DISCLOSURES
Small entities in the UK
Following the UK’s departure from the EU, the FRC are now able to require more disclosure from small companies in the UK. Previously, the FRC were constrained by the requirements of the EU Accounting Directive, but this is no longer the case. However, this does remain the case for entities in the Republic of Ireland, so FRS 102, Section 1A Small Entities Appendix D Disclosure requirements for small entities in the Republic of Ireland will not require additional disclosures following the finalisation of the periodic review.
However, FRS 102, Section 1A Appendix C Disclosure requirements for small entities in the UK is being amended to mandate the following disclosures:
• A requirement to make an explicit and unreserved statement of compliance with FRS 102, including Section 1A. Currently, this is an encouraged disclosure per FRS 102, para 1AE.1(a).
• Mandatory going concern disclosures to comply with FRS 102, para 3.8A which states: “When an entity prepares financial statements on a going concern basis, it shall disclose that fact, together with confirmation that it has considered information about the future as set out in paragraph 3.8. It shall also disclose, in accordance with paragraph 8.6, any significant judgements made in assessing the entity’s ability to continue as a going concern.”
In addition, the small entity will be required to provide disclosures relating to material uncertainties related to events or conditions that may cast significant doubt upon the entity’s ability to continue as a going concern as set out in paragraph 3.9. Currently, this is an encouraged disclosure per FRS 102, para 1AE.1(c).
• There are additional disclosures proposed in respect of leasing arrangements including short-term leases, leases of low-value assets and variable lease payments.
• There are additional disclosures proposed in respect of provisions and contingencies, share-based payment transactions and promises in contracts with customers.
• Additional disclosures in respect of deferred tax.
• Dividends declared and paid or payable during the period. Currently, this is an encouraged disclosure per FRS 102, para 1AE.1(d).
• Transition information on first-time adoption of FRS 102. Currently, this is an encouraged disclosure per FRS 102, para 1AE.1(e).
Note: This section has been updated since the printed version of AT
FRC