This article highlights a number of FRS 102 issues raised by members where ‘new’ UK GAAP under FRS 102 is different from the previous treatment.
It shows the accounting entries (and exemptions from FRS 102 where applicable) and also explains the tax consequences of the changes. The article is split into two parts –Transition to FRS 102 and FRS 102 in subsequent years.
FRS 102 is effective for accounting periods beginning on or after 1 January 2015. It requires the comparative and opening balance sheet at the date of transition to be restated in accordance with FRS 102; the date of transition being the beginning of the earliest period for which an entity presents full comparative information. However, the opening balance sheet itself does not need to be presented.
For example, for an entity with a 31 December year end, the first year of mandatory application will be the year ending 31 December 2015. The entity will need to restate its opening balance sheet at the date of transition (ie at 1 January 2014) and comparative balance sheet (ie at 31 December 2014) in accordance with FRS 102, although the opening balance sheet does not need to be presented. The entity will need to prepare reconciliations of equity at 1 January 2014 and 31 December 2014 and of its profit or loss for the year ending 31 December 2014.
ACCA members applying the transition rules have raised a number of queries relating to:
- actually applying the rules in practice – what are the ‘nuts and bolts’ of the accounting treatment?
- what are the taxation implications of the changes once implemented on the accounts?
Transition to FRS 102
Paragraph 35.10 of FRS 102 provides a number of exemptions that entities may elect to use on transition to FRS 102. These aim to ease or remove the requirements of paragraph 35.7 of FRS 102 for the restatement of assets and liabilities at the date of transition.
Issues raised by members relating to the transition exemptions
1 Fair value as deemed cost
This applies where assets are held at a revalued amount. One of the options available is to elect for the revaued asset to be treated as the deemed cost. An entity may elect for an item of property, plant or equipment, or an intangible asset that meets the recognition criteria and the criteria for revaluation, to be measured at its fair value at the date of transition and for that fair value to be used as the deemed cost of the item going forward. This option may be attractive to those entities which want to reflect the current value of their assets particularly where there is secured borrowing. The downside to this is that the higher deemed cost may lead to increased depreciation charges in subsequent years, adversely impacting reported profits and distributable reserves.
For example an asset with original cost of £1,000 with a deemed fair value of £10,000 at date of transition. Depreciation to date has been £999. The accounting entries would be:
DR Cost of asset £9,000
DR Depreciation to date £999
CR Profit and loss account reserves £9,999
Notes
1 FRS 102 does not recognise revaluation reserves on the balance sheet so where such a reserve is in existence on transition, this will be included in profit and loss account reserves (albeit non-distributable)
Taxation treatment
UK tax law departs from the accounting standards by disallowing depreciation and revaluations in respect of capital assets, and instead granting capital allowances (on some assets). Hence accounting changes from the transition and FRS 102 should not have a tax impact.
2 Revaluation as deemed cost
FRS 102 requires a tangible fixed asset to be measured initially at cost.
For a revalued item of property, plant or equipment, investment property, or intangible asset that meets the recognition criteria and the criteria for revaluation, an entity may elect to use as its deemed cost, its revalued amount either at or before the date of transition. Therefore the options would be:
- to elect to use the most recent revaluation as its deemed cost at that date and no further adjustment is required; or
- it could restate the property to its original cost.
For example and using example 3 from the the FRC Staff education note on Transition, property A was acquired on 31 December 1980 at a cost of £1,000 and has been revalued on a regular basis, the last time being on 31 December 2010 when its value was recorded in the financial statements at £100,000 and its remaining useful life was 20 years. There has been no significant change in the value of Property A since that revaluation.
The company could elect to use the most recent revaluation from 2010 (being £100,000) as its deemed cost at that date and no further adjustment is required; or
if the property is restated to the original cost of £1,000 the following accounting treatment would apply:
Dr Revaluation Reserve £84,660
Dr Accumulated depreciation £14,340
Cr Property, plant and equipment £99,000
Notes
1 FRS 102 does not recognise revaluation reserves on the balance sheet so where such a reserve is in existence on transition, this will be included in profit and loss account reserves (albeit non-distributable)
Taxation treatment
UK tax law departs from the accounting standards by disallowing depreciation and revaluations in respect of capital assets, and instead granting capital allowances (on some assets). Hence accounting changes from the transition and FRS 102 should not have a tax impact.
3 Dormant companies
There is no requirement for dormant companies to restate the opening balance sheet at the date of transition (nor any subsequent balance sheets) until there is a change in its existing balances or the company undertakes any new transactions.
Effectively this allows the company’s figures to remain the same while it remains dormant. There would be no accounting or taxation implications. However, it is recommended that the adoption of this treatment would be disclosed in the accounts.
FRS 102 in the years post transition
Issues raised by members relating to ongoing use of FRS 102:
1 Loans between a director and a company at nil interest
It is common for a fixed term interest-free loan to be made between a director and his/her company. The accounting for the measurement difference arising on the initial recognition of the loan will depend on whether the loan was made in the director’s capacity as a shareholder or for another reason. For example, in a situation where a director is the majority shareholder it can be presumed that the loan was made in the director’s capacity as a shareholder. This presumption can be rebutted, if, for example, loans between the entity and other third parties without an ownership interest in the entity (eg employees) are made on the same or similar terms.
Accounting treatment
If a fixed term interest-free loan is made between the entity and a director in its capacity as a shareholder the accounting treatment would be as follows:
A director provides a fixed term interest-free loan of £1000 on 1/1/2015 to his company. The present value of the loan using a market rate of interest for a similar loan is £900. The difference of £100 represents an additional investment by the director in the company. The company would record the following accounting entries in its individual financial statements:
Initial recognition
DR Cash £1000
CR Loan repayable to director £900
CR Capital contribution (equity) £100
After initial recognition the interest free loan is treated for accounting purpose as if it were a loan at a market rate of interest with capital and interest payable at the end of the term of the loan. Interest is accounted for applying the effective interest method.
| Year | Carrying value 1 January £ | Interest accrued (5.4%) £ | Cash flow £ | Carrying value at 31 December £ |
| 2015 | 900 | 49 | nil | 949 |
| 2016 | 949 | 51 | 1000 | nil |
2015 Year
DR interest (P and L) £49
CR loan £49
2016 Year
DR interest (P and L) £51
CR loan £51
DR loan (repayment made) £1,000
CR bank £1,000
Notes
- The present value of a financial liability that is repayable on demand is equal to the undiscounted cash amount payable reflecting the lender’s right to demand immediate repayment. Therefore the above treatment is not needed.
- If the loan had a market rate of interest in the agreement then there would be little difference to the treatment under old UK GAAP.
- The above treatment is similar to the accounting for a fixed term interest-free loan between a parent and its subsidiary. In the books of the parent, the amount shown above as an increase in equity would be treated as an increase in the investment in subsidiary.
Taxation treatment
The capital contribution of £100 will be recognised in the company’s statement of changes in equity and the finance expense of £49 (2015) and £51 (2016) will be recognised in its income statement. The computation of taxable amounts was amended by the Finance Bill 2015 to bring greater alignment with the usual (GAAP) approach for the computation of accounting profits. Tax will be based only on amounts recognised as items of accounting profit or loss rather than on amounts recognised elsewhere in the accounts.
2 Holiday pay accrual
Short-term employee benefits are employee benefits (other than termination benefits) that are expected to be settled wholly before twelve months after the end of the reporting period in which the employees render the related service.
Accounting treatment
A normal accrual would be provided for the undiscounted amount of short-term employee benefits expected to be paid in exchange for that service.
Tax treatment
In most cases it will the case that the holiday pay accrual adjustments in the profit and loss account will be tax deductible. However, it should be noted that the holiday pay policy of some employers may mean there is the possibility that the accrual will include some holiday periods that have not been taken/will not be taken within nine months of the year end which will mean that technically that part of the accrual would not be deductible for tax purposes.
3 Deferred tax
Where assets have been revalued, FRS 102 requires that deferred tax is recognised on all timing differences. Revalued assets will therefore now require deferred tax to be recognised on any revaluation gains or losses. Previously under FRS 19, no deferred tax was recognised on revalued assets unless there was a binding commitment to sell.
Accounting treatment
The treatment for the additional deferred tax expense (or income) will follow the presentation of the related transaction (as is the case under FRS 19). The presentation relates to what type of asset has been revalued. For instance, if the asset is an investment property, the revaluation movement is normally shown in the profit and loss account. Therefore, the movement in deferred tax arising from the revaluation of investment properties will be included as part of the tax charge for the year, whereas the deferred tax arising on the revaluation of properties (which is normally treated through the statement of comprehensive income) will generally be included in other comprehensive income.
Notes
- The transitional provisions in FRS 102 permit certain types of assets to be measured at ‘deemed cost’ which may be either the fair value of the asset or a revalued amount produced previously. This would mean that deferred tax would normally have to be provided on these amounts on transition.
- The inclusion of additional deferred tax balances may have an effect on the company’s credit rating due to the reduction in net assets.
- Movements on revaluation – investment properties v other properties
Accounting treatment
The treatment of movements on revaluation differs between those on investment and other properties:
Investment properties
FRS 102 requires revaluation each year to fair value (equivalent to open market value) of investment properties with value changes taken to profit or loss. The cost less depreciation model is used only if fair value cannot be measured reliably without undue cost or effort.
Therefore a gain movement of £100,000 would be shown as:
DR Investment property £100,000
CR Profit and loss account £100,000
On the profit and loss account this might be shown as:
|
2016 |
2015 |
|||||||
|
£ |
£ |
|||||||
| Gross profit | ||||||||
| Distribution costs | ||||||||
| Administrative expenses | ||||||||
| Operating profit |
|
|||||||
| Gain on revaluation of investment property | ||||||||
| Interest receivable | ||||||||
| Interest payable |
|
|||||||
| Profit on ordinary activities before taxation | ||||||||
Notes
- The profit on revaluation of investment property will not be a realised profit available for distribution. An entity may choose to transfer such gains and losses to a non-distributable reserve, but there is nothing in the law to require this.
Other properties
If an asset’s carrying amount is increased as a result of a revaluation, the increase is recognised in other comprehensive income and accumulated in equity. However, the increase is recognised in profit or loss to the extent that it reverses a revaluation decrease of the same asset previously recognised in profit or loss.
The decrease of an asset’s carrying amount as a result of a revaluation is recognised in other comprehensive income to the extent of any previously recognised revaluation increase accumulated in equity, in respect of that asset. If a revaluation decrease exceeds the revaluation gains accumulated in equity in respect of that asset, the excess is recognised in profit or loss.
Therefore a gain movement (not a reversing one) of £ 100,000 would be shown as:
DR Investment property £ 100,000
CR Other comprehensive income £ 100,000
On the comprehensive income statement this might be shown as:
|
2015 |
2014 |
||||||
|
£ |
£ |
||||||
| Profit for the financial year | |||||||
| Other comprehensive income | |||||||
| Gain on revaluation of land and buildings | |||||||
| Deferred taxation arising on the revaluation of land and buildings | |||||||
| Total comprehensive income for the year | |||||||
Notes
- The deferred taxation is also shown on this statement following the presentation of the actual gain.
Tax treatment
Investment properties
Assuming the property is held, for tax purposes, as an investment, the income arising on the property is brought into tax as it is recognised in the accounts (for example rental income would be brought into tax as recognised in profit or loss). In this case, movements in fair value of investment properties are not taxable. The disposal of the investment properties will typically give rise to a chargeable gain.
Other properties
UK tax law departs from the accounting standards by disallowing depreciation and revaluations in respect of capital assets, and instead granting capital allowances (on some assets). Hence accounting changes from the transition and FRS 102 should not have a tax impact.
Article from ACCA In Practice