IFRS: Divided we fall

In 2001, when it became clear that the UK’s listed companies would be using IFRS, there was also a general acceptance that a very separate system of UK standards should not persist, but that they should be replaced by international standards in the medium term. There have been a number of reasons why, nine years later, there has been little progress in this direction. However, in August 2009, the UK Accounting Standards Board (ASB) launched another consultation on the future of UK GAAP that finally made specific proposals. What has become increasingly clear through consulting with our members and discussions with others is that the proposals are still too tentative and could be much clearer, simpler and do a better job of achieving the convergence of IFRS and UK GAAP while still providing a proportionate system.

The ASB’s proposals are that there should be a three-tier system in future for accounting in the UK:

* Full IFRS for publicly accountable entities – that is basically the listed companies that have to apply them at present, together with some relatively minor extensions;

* IFRS for SMEs for large and medium-sized entities (LMEs) that are privately held and so without public accountability;

*The existing Financial Reporting Standard for Smaller Entities (FRSSE) continues for small entities for the foreseeable future.

In broad terms, therefore, all the ASB is changing is to move the middle group of LME companies from current full UK standards to IFRS for SMEs. As these standards are essentially derived from the principles of full IFRS, but with reduced disclosures and simplified treatments of items, that does leave the top two groups of entities using the same basic framework. The vast bulk (over 90%) of companies in the UK could remain using old UK GAAP in the form of the FRSSE (which, as with the IFRS for SMEs, requires the same treatments of items as in the full set, but with reduced disclosures and some other excluded requirements such as consolidation).

Leaving the FRSSE in place seems, to the ASB, to be keeping things simple for those companies, but this argument is unconvincing. There are significant problems and therefore costs in doing so.

The FRSSE will become an orphan standard and so may not work properly. As a condensation of existing full UK GAAP it ultimately relies on the full standards to fill in the gaps – provide more explanation and guidance and cover issues that do crop up but are relatively rare and so not covered by the FRSSE.

The FRSSE is in fact more complex than IFRS for SMEs in some important respects – small companies under the ASB’s proposals would be required to revalue investment properties where LMEs would have the option to go for amortised cost.

There are other examples including the revaluation of tangible and intangible fixed assets, the capitalisation of interest, development costs where small entities via the FRSSE would have optional treatments not open to LMEs.

Retaining a different system makes life more complicated for users having to understand the differences, preparers having to consider their various possibilities, as well as more systems to be covered by accountancy qualifications, training and CPD.

ACCA’s proposal is that IFRS for SMEs should instead be used by all UK reporting entities with no public accountability, but with suitable exemptions for small entities such as for consolidations, cash flow statements, share-based payments and some other disclosures. The exemptions would be based on those they currently enjoy via the Companies Act or the FRSSE. This option is not yet on offer from the ASB, but ACCA found that when it was put forward, three quarters of members preferred it to retaining the FRSSE.

Would this be very demanding for SMEs? The conclusion from the evidence of our field-testing is no. We asked five of our members each to select five of their clients and to restate their accounts from being based on UK standards to using IFRS for SMEs. The restatement did not create significant issues (see box).

We think this proposal would get all UK reporting to be based on the same fundamentals, while still being responsive to the different needs of small company reporting. That seems a more coherent vision of the future of accounting in the UK than the rather timid half-hearted compromise proposed by the ASB. ACCA will certainly be submitting these views to ASB by the end of January 2010, which is the closing date for the consultation and we would encourage others interested in this major realignment of accounting in the UK to do so as well.

UK field-testing

* 25 companies chosen.

* Existing UK accounts were converted to IFRS for SMEs basis.

* Currently 23 of these were SMEs using the FRSSE.

* Only 3 differences in the reported profits.

* 20 out of 25 raised none or only minor issues.

Richard Martin is head of financial reporting at ACCA