FRC amends GAAP to clarify Covid treatments
On 19 October 2020, the Financial Reporting Council (FRC) issued three sets of amendments to UK and Irish GAAP. Steve Collings summarises the main changes.
Changes to FRS 102 The Financial Reporting Standard applicable in the UK and Republic of Ireland and FRS 105 The Financial Reporting Standard applicable to the Micro-entities Regime are expected to have a significant impact on preparers dealing with operating lease changes, support payments and going concern issues arising from the Covid-19 pandemic.
Amendments to FRS 102 and FRS 105
The pandemic led many lessors providing lessees with rent concessions, most notably where the lessee rents premises from the lessor. These concessions essentially give rise to the lessor forgiving a portion of the lease payments that would otherwise have fallen due according to the lease agreement had the pandemic not happened.
If the lessee has been granted a rent deferral, this is only a deferral of the cash outflows and is not the same as a rent concession, so the amendments to UK GAAP would not apply to rent deferrals.
Prior to the amendments, both FRS 102 and FRS 105 did not address the accounting treatment for rent concessions.
Some commentators suggested that rent concessions arising from Covid-19 should be spread over the remaining lease term (in the same way that a lease incentive is spread). Others disagreed and said they should be recognised in the period that benefits from the concession.
The FRC concluded that such differences of opinion would result in different treatments that would be unhelpful to users of the financial statements. So the regulator decided to to change the relevant standards to address Covid-19-related rent concessions.
Recognition of a Covid-19-related rent concession
FRS 102, Section 20 Leases and FRS 105, Section 15 Leases have been amended to require changes in operating lease payments (not rent deferrals) which are Covid-19-related to be recognised on a systematic basis over the periods that the change in lease payments is intended to compensate.
It is important to emphasise that this concession only relates to rent concessions that arise purely because of the pandemic. In addition, the concession only relates to reductions in lease payments that were originally due on or before 30 June 2021.
These restrictions have been included to reflect the economic substance of the benefit of these concessions and their temporary nature.
New paragraphs 20.15C and 20.15D have been inserted into FRS 102 (March 2018) which state:
|A lessee shall recognise any change in lease payments arising from rent concessions that meet the criteria in paragraph 20.15D on a systematic basis over the periods that the change in lease payments is intended to compensate. (FRS 102, para 20.15C)An entity shall apply the requirements in paragraphs 20.15C and 20.25B to temporary rent concessions occurring as a direct consequence of the COVID-19 pandemic if, and only if, all of the following conditions are met:
The FRC amended FRS 102, para 20.16 to require the amount of the change in lease payments recognised in profit or loss to be disclosed.
Finally, FRS 102, para 20.25B has been inserted which relates to lessors and states:
|A lessor shall recognise any change in lease income arising from rent concessions that meet the criteria in paragraph 20.15D on a systematic basis over the periods that the change in lease payments is intended to compensate. (FRS 102, para 20.25B)|
These changes will mean that Covid-19-related rent concessions are recognised in the period that benefits from the concession. This is similar to the other types of Covid-19-related grants and reliefs, such as Coronavirus Job Retention Scheme grants and the business rates relief which are recognised in the period that benefits.
FRS 105 amendments
The amendments to FRS 105 are consistent with those made to FRS 102, with the exception of the additional disclosure requirement.
The amendments to FRS 102 and FRS 105 will become effective for accounting periods beginning on or after 1 January 2020. Early adoption is permitted. Where an entity adopts the amendments early, it must disclose that fact. If the entity is a small entity, it is encouraged to disclose that fact.
Amendment to FRS 101 Reduced Disclosure Framework
The FRC amended FRS 101 to accommodate a change to the effective date of IFRS 17 Insurance Contracts.
The definition of a “qualifying entity” in FRS 101 was changed in July 2019 to scope out entities that apply Schedule 3 to the Regulations (or similar) that have contracts within the scope of IFRS 17 (i.e. insurers). The amendment to the definition was necessary because there are incompatibilities between the requirements of IFRS 17 and Schedule 3 formats under UK company law. The original effective date of this change was 1 January 2021.
The IASB deferred the effective from date of IFRS 17 until 1 January 2023 and the amendment to FRS 101 aligns the effective dates.
Amendment to FRS 104 Interim Financial Reporting
An amendment has been made to FRS 104 in respect of the going concern requirements. Prior to the amendments, FRS 104 did not explicitly require management to undertake a going concern assessment when preparing the interim financial statements. Nor did the standard explicitly require management to make any disclosures in respect of material uncertainties related to going concern in the interim financial statements. This was not consistent with the requirements of IAS 1 Presentation of Financial Statements, paragraph 4.
Although IAS 1, para 4 scopes out interim financial statements as needing to comply with the standard, it does bring paragraphs 15-35 within the scope of interim financial statements prepared under IAS 34 Interim Financial Reporting.
Paragraph 25 of this standard requires management to carry out a going concern assessment and to disclose material uncertainties in respect of going concern. It also requires the entity to disclose the basis on which the interim financial statements have been prepared when the going concern basis has not been used and to explain why the entity is not a going concern.
FRS 104 does, however, require an entity to include a statement that the same accounting policies are applied in the interim financial statements as those in the most recent annual financial statements of the reporting entity. This would include any statement about the going concern basis of accounting.
FRS 104 has been amended to include requirements relating to going concern in a similar way to EU-adopted IFRS. This will ensure that FRS 104 is consistent with IAS 34 on which it is based.
Therefore, when preparing the interim financial statements, management must make an assessment of the entity’s ability to continue as a going concern. This assessment must take into account all available information about the future which is at least, but not limited to, 12 months from the date the interim financial statements are authorised for issue.
Where there are any material uncertainties relating to going concern, management must disclose those uncertainties in the interim financial statements. If the entity does not prepare the interim financial statements under the going concern basis of accounting, it must disclose that fact, together with the basis on which the financial statements have been prepared and the reason why the entity is not regarded as a going concern.
The effective date of the amendments to FRS 104 is interim periods beginning on or after 1 January 2021. Early adoption is permissible.