Aat Response to the Asb Financial Reporting Exposure Draft the Future of Financial Reporting

AAT RESPONSE TO THE ASB FINANCIAL REPORTING EXPOSURE DRAFT “THE FUTURE OF FINANCIAL REPORTING IN THE UK AND THE REPUBLIC OF IRELAND”

The AAT is pleased to comment on the ASB’s Financial Reporting Exposure Draft “The Future of Financial Reporting in the UK and the Republic of Ireland” issued in October 2010. The AAT is a registered charity one of whose object clauses is to advance public education and promote the study of the practice, theory and techniques of accountancy and the prevention of crime and promotion of the sound administration of the law.

The AAT is a global organisation and enjoys a total membership in excess of 120,000 worldwide, which is made up of over 46,000 full and fellow members. The balance consists of student and affiliate members.

Of the full and fellow members there are approximately 2,900 Members in practice providing accountancy and taxation services to individuals, not-for-profit organisations and the full range of business types. Whilst members permeate all levels and sectors of the market they are most active in the Small and Medium Sized Entity market.

INTRODUCTION

The AAT has previously provided comments on the ASB’s earlier Consultation Paper on “The Future of UK GAAP” in January 2010 which are largely not reflected in the current FRED on which the ASB has re quested fundamental comments, as well as comments on details. Consequently the following comments do consider the fundamental principles rather than details.

We fully support the introduction of the FRSME for Tier 2 entities, although we have concerns as to the definitions of Tier 1 and Tier 3 entities, in that we believe that the definition of “public benefit” for Tier 1 entities should be extended and the size limit for Tier 3 entities should be significantly lowered. Fundamentally, we consider that there is little difference in the levels of disclosures required by the FRSME and FRSSE. Larger Tier 3 entities could apply the FRSME with no greater burdens than applying the FRSSE but smaller Tier 3 entities could obtain benefits from a reduced level of disclosure requirements.

We fully support the concept of financial reporting requirements based on public accountability with appropriate levels of disclosure dependent upon the expectations and requirements of the stakeholders of the entities concerned and subject to certain de minimus concessions.

We have no comments on the scope or content of Appendix 1 except to express the view that we do not consider it appropriate for Tier 3 entities to be defined by reference to Companies Act criteria for a small company. In order to maximise potential benefits for small companies the size criteria needs to be substantially lower (possibly to £2 million turnover and 25 employees) with substantially relaxed financial reporting standards and disclosure requirements. “Small” companies (as defined by Companies Acts) which would fall into Tier 2 would apply the FRSME instead of the FRSSE, but as there is little difference in the levels of disclosure requirements between the two Standards, there would be no greater burdens for such entities, with only a one off transitional exercise to be faced while smaller entities in Tier 3 could obtain benefits from a reduced level of disclosure requirements.

It is our contention that all publicly accountable entities should fall within Tier 1, except for de-minimus limits to enable the smallest to opt to fall within Tier 3. It is our view that Tier 3 limits should be substantially reduced and this might be an appropriate de-minimus limit for small publicly accountable entities.

We consider that “Public Benefit” entities, by their nature, clearly must be publicly accountable and their exclusion from the definition of public accountability cannot be justified. We believe it is desirable for the Financial Reporting Standards to be applicable to “Public Benefit” entities so as to be an integral part of the total framework for Standards within the UK to ensure consistency of accounting principles. The FRED refers to the proposals to develop a Public Benefit Entity FRS but does not appear to provide a definition of a Public Benefit Entity. It is desirable to include such a definition to ensure that no such entity is able to avoid the appropriate level of reporting expected by users of their financial statements. Even though there will be separately published Standards for Public Benefit entities they should be based on the Standards and framework applicable to other entities generally, adapted as appropriate to recognise the special disclosure needs of the users of Public Benefit entities financial statements.

However, there should be reduced reporting requirements for the smallest Public Benefit entities so that the burden on those entities is commensurate with their size, possibly in line with the Tier 3 limits we have suggested previously.

It is also our view that the definition of public accountability should encompass other entities which should be considered publicly accountable such as public service providers, users of significant public funds (such as government grant recipients) and not for profit entities funded by public donations (whether in money or in kind) as well as entities which are major employers, have a significant impact on the environment, or have a majority share of a particular market.

While this extension of the definition of publicly accountable entities will bring some entities currently using the FRSSE into the full Tier 1 IFRS reporting regime, it is proper that this should be the case if they are “publicly accountable”.

Subject to these amendments we agree that the definition and accompanying guidance are sufficiently clear for entities to determine their responsibilities for financial reporting.

We agree with the principle that the FRSME should comply with Company Law but that it is desirable to seek changes in Company Law rather than to amend the IFRS for SME’s where possible, in order to retain optimum compatibility with IFRS’s

However, in the response to question 3 above, we have already commented specifically on our opinion that the definition of Tier 3 entities should not follow that for Small Companies for Company Law purposes.

We agree that it is desirable for the FRSME to differ from the IFRS for SME’s as little as possible while being consistent with EU adopted IFRS and exemptions available in UK Company Law.

As stated in our response to question 6, we consider that amendments to the FRS for SME’s should be minimised if possible, by seeking amendments to Company Law where necessary. However, if this is not feasible, we agree with the principle of the suggested amendments to the IFRS for SME’s set out in Question 8.

In principle we consider that subsidiaries should have the same disclosure requirements as other entities, primarily so that users and stakeholders who rely on the financial statements of subsidiaries without any concern for the group situation, can have access to the same level of information relating to the subsidiaries as individual entities, subject only to de minimus limits for reduced disclosures.

This approach would also ensure any entities having subsidiaries which would fall within the definition of publicly accountable cannot avoid full reporting on those individual subsidiaries.

Furthermore, if subsidiaries accounts are to form part of a group’s consolidated financial statements, it is more efficient and cost effective for the subsidiaries financial statements to be produced in the same format and apply the same accounting policies as the parent entity.

As regards the detailed proposed disclosure exemptions we do not believe that these provide qualifying subsidiaries with any significant benefit in preparing accounts and only deprive users of information which would be available in the financial statements of individual entities and so defeats the objective of the FRSME providing comparability between the financial statements of different entities.

As stated previously, we do not support the proposals for any subsidiaries to have the benefit of disclosure exemptions.

We support the proposal to reduce the number of SORP’s for profit-seeking entities. However, the present status of SORP’s needs to be considered, especially in respect of the weight of authority of SORP’s and in the light of the proposal not to retain all of the existing SORP’s. The SORP’s to be retained should be considered as subsidiary to the main full Standards, providing variations and interpretations specific to the sector concerned, and should carry the same authority as the full Standards. If SORP’s providing “guidance” only and are not enforceable, the entities concerned have an undesirable leeway in being able to “cherry pick” from the SORP resulting in inconsistencies for comparison between different entities. If SORP’s are to be enforceable, they need to be the direct responsibility of the ASB and not just subject to ASB’s “negative” approval.

Furthermore, where the subject matter of any SORP has international relevance, the IASB should be lobbied to introduce an International Standard.

We generally agree with the benefits which have been identified as arising from the proposed Financial Reporting Framework but we consider that there is also an opportunity to achieve major benefits for small entities.

We consider that there are insufficient differences between the levels of disclosure requirements of the IFRS for SME’s and the FRSSE to justify the continued use of FRSSE’s.

Consequently this leads us to the view that the FRSSE should be abandoned as soon as the proposals become effective so as to avoid confusion between the two Standards by compilers of financial statements which could result in poor quality compliance.

One of the objectives of the proposals is stated as creating “reporting arrangements proportionate to an entity’s obligations and size” and in this respect we consider that the proposals do not go far enough to ease the reporting burdens on small entities with less than 25 employees which represent a large number of entities in the UK. Such small entities also suffer problems of accessibility to cost effective accounting skills required to comply with reporting requirements.

Feedback from our Members indicates that there are concerns that the burdens and compliance costs falling on small entities are disproportionate to their responsibilities to their stakeholders and users of their accounts.

We consider that entities with less than, say, £2 million turnover are unlikely to have in-house accounting and reporting expertise but have to buy in such expertise at relatively expensive professional fee rates. In particular, for small entities without in house accounting creates significant difficulties, while usually requiring subjective evaluations by management, they also require advice and guidance from external professional advisors on the appropriate interpretation of “Fair Value” and the implications.

We consider that the turnover limit for a small entity should be no more than, say, £2 million turnover or 25 employees. Entities larger than this who are not publicly accountable should have the option of applying the IFRS for SME’s but it would be appropriate for smaller entities to have available a simplified version of the IFRS for SME’s and, in particular, simplification which results in a significant reduction in the disclosure notes in accounts. This would necessitate a Tier 3 standard being developed ideally by the IASB but if the IASB are not willing to produce a Tier 3 standard, in view of the large number of entities who would benefit from such a statement, we consider it warrants the resources of the ASB being applied to such a project for use in the UK. A simplified Tier 3 statement would significantly reduce the accounting burden for the smaller SME’s who are not likely to have in-house accounting expertise and, compared to larger entities, have to pay expensively to buy in professional services. There is already a suitable framework in existence, being the “Accounting and Financial Reporting Guidelines for Small and Medium Sized Enterprises – Level 3” developed by the United Nations Conference on Trade and Development and already adopted in some parts of the world.

It is smaller entities which can benefit most pro rata from an easing of disclosure requirements, without a significant risk of disadvantage to the users of their financial statements.

Apart from the benefits of consistency and comparability with International Standards it appears that most entities affected by the proposed changes to UK GAAP will benefit from reduced disclosures with only those publicly accountable entities not currently required to report under the full IFRS which will face an increased burden, which can be justified on the basis that the present reporting requirements are inadequate to meet public expectations and rights to information.

In addition, the benefits from the changing role of the ASB, particularly in the reduced burden of maintaining and updating standalone UK Standards should not be understated.