24 November 2015

Presentation by:

Peter Herbert, Insight Training

Maria Hallows, Partner

Accounting Update Seminar

ACCOUNTING UPDATE

• To update you on latest thinking regarding key challenges presented by the new

UK GAAP in FRS 102 and the related SORP and provide practical guidance on

how to address them.

Objective

ACCOUNTING UPDATE

• Overview of narrative reporting – where we’re heading.

• Formats, terminology and disclosures.

• The primary statements.

• Property, plant and equipment – choices on transition.

• Other fixed asset issues.

• Financial instruments – non-market rate loans.

• Classification and treatment of other financial instruments.

• Multi-employer pension schemes.

• The auditor’s perspective.

Programme

ACCOUNTING UPDATE

Applies to all RPs (charitable and non-charitable)

Aligns with the new FRS 102 (effective p/c 1/1/15)

Unregistered providers apply Charities SORP

Almshouses and Abbeyfield societies not governed by LTA 1985 apply Charities SORP

Where IFRS applies, use this SORP as guidance unless it conflicts

FRS 102 and Accounting Direction take precedence

The New SORP

ACCOUNTING UPDATE

Must Should

May Glossary

Key words….

ACCOUNTING UPDATE

Narrative reporting

ACCOUNTING UPDATE

OFR

- Variable quality – blurring of SORP reporting categories.

VFM statements

- Improvements in light of HCA review (144 letters/14 downgrades).

- 1,004 pages from Top 100!!

- Benchmarking – including ROI.

Changes to HCA regulatory framework

- Effective 1 April 2015.

- Financial viability.

- Register of assets and liabilities.

New SORP

- Different requirements for RPs with > 5,000 homes.

- Less prescriptive than current OFR requirement.

Key themes

ACCOUNTING UPDATE

FRS 102 –

Primary Statements

Statement of

comprehensive

income

Statement of

financial position

(CA06)

Statement of

changes in equity

Statement of cash

flows

Income statement

(CA06)

Other

comprehensive

income

Statement of income & retained earnings

(where only changes to equity = profit,

dividends & prior period adjustments)

ACCOUNTING UPDATE

SOCI

‘Two statement approach’ prohibited by SORP.

Cash flow statement:

• 3 headings (operating – investing – financing).

• Cash & cash equivalents.

• Exemption for ‘qualifying entities’.

Statement of changes in equity

• Like reconciliation of movements in shareholders funds

• Comparative required

What the SORP says….

ACCOUNTING UPDATE

Explicit statements

• …of ‘public benefit entity’ status.

• …of compliance with SORP and FRS 102.

Accounting policies

• e.g. valuation of investment properties.

• e.g. accounting treatment for financial instruments.

Key areas of judgement and estimation uncertainty

Consolidated accounts

• Legal status and commercial relationship with group entities.

• Material financial transactions between entities in the group (unless exempt).

Related party disclosures

• Key management personnel compensation.

• Rent and arrears of tenant Board members.

Employee disclosures

Notable disclosures

ACCOUNTING UPDATE

Accounting Policies

• Clear on choices.

• Details of impairment of assets assessed along with indicators considered.

Narrative Reporting

• Risks, judgements and volatility.

• VFM clearly signposted to other documents.

Explicit statements in Board Report

• …of compliance with Governance and Viability Standards.

Notes 2 and 3

• Grant amortisation and income.

Disposal Proceeds Fund

• New guidance on disposals from non-profit making to profit making entities.

• Format for DPF note per AD.

Rent arrears

• Adjustment for NPV.

Accounting Direction

ACCOUNTING UPDATE

Investment property (IP) vs Property Plant and Equipment (PPE) – definitions

Paragraph 16.2 FRS 102

(An IP is) a property (land or building or part of a building or both) held by the

owner or by the lessee under a finance lease to earn rentals or for capital

appreciation or both, rather than for:

a) Use in the production or supply of goods and services or for administrative

purposes; or

b) Sale in the ordinary course of business.

Paragraph 16.3a FRS 102

Property held primarily for the provision of social benefits (e.g. social housing held

by a public benefit entity) shall not be classified as an investment property (IP) and

shall be accounted for as property, plant and equipment (PPE).

Categorisation of fixed

assets

ACCOUNTING UPDATE

Categorisation of fixed

assets

Guidance

• Judgement must be applied in assessing classification of housing properties and

whether they are commercial (SORP para 8.9).

Questions to consider:

• Why is the property held – what is its intended use?

• Is property held for social benefit?

• Is the property operated at below market rent for the benefit of the community?

• Is the housing association subsidising the property in order to continue providing

the service?

ACCOUNTING UPDATE

PPE IP

General needs √

Shared ownership (rental element) √

Affordable homes √

Office accommodation √

Market rented properties √

Commercial properties √

Classification

ACCOUNTING UPDATE

Initial

measurement

Subsequent measurement

Cost model

Re-valued amount (if FV can be

reliably measured) – changes

usually in OCI

Cost –

depreciation -

impairment

FV – depreciation – impairment

Revalue with sufficient regularity to

ensure carrying value does not

materially differ from fair value

SORP requires use of existing use

value for social housing (EUV – SH)

Cost (purchase

price and directly

attributable costs)

May include

borrowing costs

OR

Property, plant &

Equipment

ACCOUNTING UPDATE

• An RP chooses to measure its social housing properties at valuation.

• At the reporting date the housing properties are revalued from £95m to £100M.

• This increase is made up of a £5M downward revaluation for new properties

not previously revalued and an increase in value of the remaining properties of

£10M.

• Grant of £0.75M for the new properties has been received.

Example

ACCOUNTING UPDATE

Solution

2016 (£000) 2015 (£000)

Other income - grant 750 X

Operating surplus X X

Interest receivable X X

Interest payable X X

Decrease in valuation of housing properties (5,000) X

Surplus for the year X X

Unrealised surplus on valuation of housing properties 10,000 X

Transfer from I&E reserve to revaluation reserve?

ACCOUNTING UPDATE

ACCOUNTING UPDATE

Revaluation as deemed cost

‘A first time adopter may elect to use a previous GAAP revaluation of an item of

property, plant and equipment… at or before the date of transition to this FRS as

its deemed cost at the revaluation date.’

Para 35.10d FRS 102

ACCOUNTING UPDATE

Fair value as deemed cost

‘A first time adopter may elect to measure an item of property, plant and

equipment…on the date of transition to this FRS at its fair value and use that fair

value as its deemed cost at that date.’

Para 35.10c FRS 102

ACCOUNTING UPDATE

How do I decide? Who does the valuation?

Can I ‘cherry pick’? What happens to the historic SHG?

Other FAQs

Fair Value as deemed

cost

ACCOUNTING UPDATE

• An RP chooses to stick with previous GAAP valuation as ‘deemed cost’.

• At the transition date the housing properties have EUV-SH of £150m.

• In July 2015 the valuer has advised a decrease in valuation of 30% is expected

as a result of the rent reductions from 2016 onwards.

How does this impact the FRS 102 transitional accounts?

Example

ACCOUNTING UPDATE

Mixed tenure No reference in new SORP to ‘cross subsidy’ principle

Shared ownership Decoupling of grant means depreciation may be needed

Annual impairment reviews ‘50 year rule’ in FRS 15 no longer applies

Other PPE issues

ACCOUNTING UPDATE

Initial measurement

Subsequent measurement

Fair value reliably

measurable

without undue cost

or effort

Fair value not

reliably

measurable

without undue cost

or effort

Fair value

(changes in I&E)

Cost –

depreciation

model

Cost (purchase price

and directly attributable

costs)

Investment property -

Treatment

ACCOUNTING UPDATE

Impair where CV > recoverable amount

Recoverable amount = Higher of

Fair value less costs to sell

Calculate for ‘cash generating units’ (individual schemes)

• Amount obtainable from sale in arm’s length transaction

• EUV-SH could be used to determine fair value

Value in use

• Present value of future cash flows expected to be derived from the asset

• Use service potential (VIU-SP) – depreciated replacement cost

• Cash flow-driven calculation as ‘practical expedient’

Impairment

ACCOUNTING UPDATE

Contamination or similar issues not identified as part of development planning

Change in government policy, regulation or legislation

Irreversible change in demand for a property

Material reduction in market value of properties

Obsolescence of a property

Impairment indicators

Not an exhaustive list – refer also to FRS 102

The first stage in impairment assessment

ACCOUNTING UPDATE

1. Determine level at which

impairment is to be assessed

2. Estimate recoverable

amount of asset or cash

generating unit

3. Calculate carrying amount (CA) of asset or cash generating

unit

4. Compare CA to recoverable

amount to determine if an impairment loss

has occurred

Impairment

Step by step

ACCOUNTING UPDATE

Smallest identifiable group of assets that generates cash inflows that are

largely independent of the cash inflows from other assets or groups of assets.

Cash inflows are inflows of cash and cash equivalents received from parties

external to the landlord.

In identifying whether cash flows are independent, consider factors such as how management organises business

activity or makes operational decisions.

SORP considers it remote that a cash generating unit would be all of a social

landlord’s housing properties.

Cash generating unit

ACCOUNTING UPDATE

Value in Use

– Service Potential

ACCOUNTING UPDATE

SORP para 14.9

‘Social landlords should review the remaining useful economic life, the

depreciation (amortisation) method and the residual value of an asset…even if no

impairment loss is recognised.’

Depreciation

adjustments

ACCOUNTING UPDATE

Definition:

A contract giving a financial asset of one enterprise and a financial liability or

equity instrument of another.

FRS 102 distinction:

‘Basic’ (Section 11) and ‘Other’ (Section 12).

Financial instruments

ACCOUNTING UPDATE

• Applying sections 11 & 12 of FRS 102 in full; or

• Applying the recognition & measurement provisions of IAS 39 and the

disclosure requirements of sections 11 & 12 of FRS 102.

• Applying the recognition and measurement provisions of IFRS 9 and

the disclosure requirements of sections 11 & 12 of FRS 102.

Entities can choose between

Accounting policy choice

ACCOUNTING UPDATE

Investments in subs, assocs,

JVs Rent arrears Accrued revenue Leases

Cash Trade creditors Accruals Bank loans

Service charge arrears

Interest rate swaps

Onerous lease provisions

Warranty obligations

Financial guarantees

DB pension schemes

Investment in shares

Intercompany balances

Financial instruments

- scope

ACCOUNTING UPDATE

Initial Measurement Subsequent Measurement

Basic non

financing Transaction price

Transaction price less

impairment

Basic financing

Present value of future

payments discounted at mkt

rate for similar debt instrument

Amortised cost less

impairment

Other Fair value Fair value

Measurement

ACCOUNTING UPDATE

Definition

• Loans made or received between a public benefit entity or an entity within the

public benefit entity group and other party at below the prevailing market rate

of interest that are not repayable on demand and are for purposes to further

the objectives of the public benefit entity or public benefit entity parent.

Intra group

• Loans between group companies which are made or received at below the

prevailing market rate are not concessionary loans unless they have been

made or received to further the public benefit entity objectives of the group.

• For example, a loan made to a subsidiary to assist them during a period of

financial difficulty is not a concessionary loan as defined in FRS 102.

Concessionary loans

ACCOUNTING UPDATE

Options

• Apply the recognition, measurement and disclosure requirements of Section 11

of FRS 102, Basic Financial Instruments, or Section 12 of FRS 102, Other

Financial Instrument Issues; or

• Recognise the loan in the Statement of Financial Position at the amount paid or

received and, in subsequent years, adjust the carrying amount to reflect any

accrued interest payable or receivable. To the extent that the loan is

irrecoverable, recognise an impairment loss in income and expenditure. Follow

the presentation and disclosure requirements in paragraphs PBE 34.93 to PBE

34.97 of FRS 102.

Consistency

• The same accounting treatment must be applied for concessionary loans made

and received by a social landlord.

Concessionary loans

Accounting treatment

ACCOUNTING UPDATE

• Company C borrows £6M from another company interest-free.

• It will make a bullet repayment in 3 years’ time.

• A market interest rate for a similar debt instrument is 5%.

Non-market rate loans

ACCOUNTING UPDATE

On balance sheet at amortised cost – discount future payments using market

rate for similar debt instrument

£6M ÷ 1.053 = £5.18M

Non-market rate loans

ACCOUNTING UPDATE

Year b/f

£’000

Interest charged

(@5%)

£’000

Cash paid

£’000

Balance

c/f

£’000

2015 5,183

(6,000/1.053)

259 - 5,442

2016 5,442

272 - 5,714

2017 5,714

286 (6,000) -

Non-market rate loans

ACCOUNTING UPDATE

Need to discount

• Only if unconditional right to defer.

• Loan agreement vs comfort letter.

Financing shortfall

• Interest income or expense – reversing as interest expense or income in profit

and loss as the discount unwinds.

‘Capital contribution’

• Increase in cost of investment in parent’s books; capital reserve in subsidiary’s

books.

• Unwinding of discount - to profit and loss account as above.

Latest thinking

ACCOUNTING UPDATE

Notice period?

Who gives notice to who?

Materiality of discounting

Basic or other? Para 11.9

Key considerations for

RPs

ACCOUNTING UPDATE

• Returns to the holder are:

– A fixed amount;

– Positive fixed rate or positive variable rate; or

– Combination of positive or negative fixed rate and positive variable rate.

• Contract may provide for repayments to be linked to a single observable index

of general price inflation … provided not leveraged.

• Contract may provide for determinable variation of return to the holder provided

… not contingent on future events other than:

– Change of contractual variable rate;

– Protect holder against credit deterioration of issuer; or

– Changes in levies applied by central bank or arising from changes in relevant

tax or law.

Para 11.9 (revised)

ACCOUNTING UPDATE

• There is no contractual provision that could, by its terms, result in the holder

losing principal/interest.

• Contractual provisions that permit issuer (borrower) to prepay a debt or permit

the holder (lender) to put it back before maturity are not contingent on future

events other than to protect:

– the holder against the credit deterioration of the issuer; or

– the holder or issuer against changes in levies applied by a central bank or

arising from changes in relevant tax or law.

• Contractual provisions may permit the extension of the term of the debt

instrument, provided the above criteria are met.

Para 11.9 (revised)

ACCOUNTING UPDATE

1. Loan with interest based on LIBOR plus 50 basis points plus option for

borrower to convert either to RPI plus 80 basis points or to fix in exchange for

a fee.

2. Loan which gives the bank the option to periodically re-price the fixed rate; if

exercised the borrower has the option to repay without penalty.

3. £10M floating rate loan with exercised option to fix via an embedded swap

plus a separate option to repay the underlying loan early with penalty.

4. Loan with differential interest charge linked to the level of reported surplus.

Scenarios

ACCOUNTING UPDATE

1. Vanilla loan

2. LOBO – Lender Option Borrower Option

3. Stand alone swap

4. Listed bond

5. CEH - Cancellable Embedded Hedge

6. Intercompany loans

7. Rent arrears

Financial Instruments

Typical in Sector

Basic or Other?

ACCOUNTING UPDATE

• An RP borrows £10m.

• A £300k arrangement fee is incurred.

• The loan does not meet the definition of a basic loan under FRS 102.

• The fair value of the loan at the first reporting date is £10.5m.

• The fair value of the loan at the next reporting date is £9.6m.

Example – ‘other’ loans

ACCOUNTING UPDATE

Solution

Year 1

Dr SOCI £300K

Cr Cash £300K

Dr Cash £10M

Cr Loan £10M

Dr SOCI £500K

Cr Loan £500K

ACCOUNTING UPDATE

Solution

Year 2

Dr Loan £900K

Cr SOCI £900K

ACCOUNTING UPDATE

• (Cancellable fixes) and LOBOS at amortised cost not FVTPL.

Applying IFRS 9

• Greater complexity, ie - bad debt provisions.

• Investment accounting more complex.

• Concessionary loan treatment not available (e.g.

Homebuy).

Pros

Cons

ACCOUNTING UPDATE

Fair value hedge

• Swap at fair value.

• Gain or loss on swap through income statement.

• Hedging gain or loss added to or deducted from carrying value of loan and

recognised in income statement.

Cash flow hedge

• Swap at fair value.

• Gain or loss on swap through reserves to the extent the hedge is effective.

• Gain or loss through income statement to the extent the hedge is ineffective.

Interest rate swaps

ACCOUNTING UPDATE

When loan extinguished When terms substantially modified

>10% shift in cash flows discounted

using the original rate?

Assuming obligations

discharged, cancelled or expired

Derecognition of loan

ACCOUNTING UPDATE

£1M loan paying interest annually at 5% (market rate) with all capital repaid at

the end of 10 years. New loan agreed at the end of year 5 to increase interest

rate to 7% but capital repaid over 20 years.

Substantial modification?

£1M loan paying interest annually at 5% (market rate) with all capital repaid at

the end of 10 years. After 5 years borrower exercises option to swap floating rate

for fixed rate.

Substantial modification?

Scenarios…

ACCOUNTING UPDATE

A tenant has a rental of £100 per week. The tenant is £1,000 in arrears.

The RP and the tenant agree a schedule of payments of £2 per week on top of

the £100 per week already due to remedy the arrears over a 500 week period.

What the accounting treatment would be:

1. Under existing GAAP.

2. Under new GAAP?

Agreements to pay -

example

ACCOUNTING UPDATE

Basic or other?

PV of future payments discounted at market

rate

Financing? Adjust on transition?

Issues

ACCOUNTING UPDATE

Paragraph 28.11A

Where an entity participates in a defined benefit plan which is a multi-employer

plan that in accordance with paragraph 28.11 is accounted for as if it were a

defined contribution plan, and it has entered into an agreement with the multi-

employer plan that determines how it will fund a deficit, the entity shall recognise

a liability for the contributions payable that arise from the agreement (to the

extent that they relate to the deficit) and the resulting expense in profit or loss in

accordance with paragraphs 28.13 and 28.13A.

Multi-employer pension

schemes

ACCOUNTING UPDATE

Paragraph 28.13A

When contributions to a defined contribution plan (or a defined benefit plan

which, in accordance with paragraph 28.11, is accounted for as a defined

contribution plan) are not expected to be settled wholly within 12 months after the

end of the accounting period in which the employees render the related service,

the liability shall be measured at the present value of the contributions

payable using the discount rate specified in paragraph 28.17. The unwinding

of the discount shall be recognised as a finance cost in profit or loss in the period

it arises.

Multi-employer pension

schemes

ACCOUNTING UPDATE

• On implementation of FRS 102, an RP has discounted obligations in respect of

past service to pay to SHPS of £500K (applying 5% discount rate).

• Payments of £100K and £80K are made in 2015 and 2016 respectively.

Example

ACCOUNTING UPDATE

Multi-employer pension

scheme

Year 1

Dr Opening reserves £500,000

Cr Pension liability £500,000

Dr Interest payable (£500K x 5%) £25,000

Dr Pension liability £75,000

Cr Cash £100,000

ACCOUNTING UPDATE

Year 2

Dr Interest payable [(£500K-£75K) x 5%] £21,000

Dr Pension liability £59,000

Cr Cash £80,000

Solution (continued)

ACCOUNTING UPDATE

• In July 2015 you have been notified of the outcome of the triennial valuation.

• This increases the deficit payments from 1 April 2016 onwards.

• The discounted obligation in respect of past service to pay to SHPS now totals

£800K (applying a 5% discount rate).

Example (continued)

How do we account for the increase and in which accounting period?

ACCOUNTING UPDATE

• In 2016 additional to a similar entry to the ones already described, we then

have:

- Dr Income and expenditure account - Operating costs £434k

- Cr Pension liability £434k

• Clearly an impact in the year where any additional contributions are confirmed

i.e. 31 March 2016.

Solution (continued)

ACCOUNTING UPDATE

• Employees of entity A are permitted 24 days annual leave.

• The holiday year commences on 1 April. Company A’s financial year end is 31

December.

• The average employee salary is £20K.

Holiday pay accruals

How is the required holiday pay accrual calculated on transition to FRS 102?

ACCOUNTING UPDATE

Employment terms –

carry forward?

Offset of

prepayments?

Historical trends (are

b/f amounts actually

taken?)

(Corp’n Tax

implications)

Holiday pay accruals

Holiday year ends

Immaterial? Prove it

ACCOUNTING UPDATE

ICAEW Tech 16/14 BL

ACCOUNTING UPDATE

Getting to grips with the new rules

Providing you with the help you need

Ethical considerations

Materiality

The auditor’s perspective

ACCOUNTING UPDATE

Misstatement risks

Transition adjustments – impact on three balance

sheets!!

‘Undue cost and effort’

The auditor’s perspective

Thank you for attending.

Please complete and return your feedback form.

ACCOUNTING UPDATE

ACCOUNTING UPDATE

Chris Porritt, Senior Partner

e. rory.o’carroll@beeverstruthers.co.uk

t. 00 44 203 478 8401

David Hunter, Partner

e. david.hunter@beeverstruthers.co.uk

t. 00 44 161 838 1807

Maria Hallows, Partner

e. maria.hallows@beeverstruthers.co.uk

t. 00 44 161 838 1862

Sue Hutchinson, Partner

e. sue.hutchinson@beeverstruthers.co.uk

t. 00 44 161 838 1869

Contact us

Solutions

ACCOUNTING UPDATE

ACCOUNTING UPDATE

1. Terminology

Stock, net realisable value, minority interests

2. Property assets

• Historic cost

• Revalued amounts (EUV SH)

• Fair value as deemed cost

3. Basic loans

• ‘Amortised cost’

4. PBE concessionary loans

• Loan at below prevailing market rate, not repayable on demand and for

purposes of furthering the objective of the PBE or PBE parent.

5. Transaction costs

• Netted off against loan – same under FRS 102.

What can you

remember?

Transfer from I&E reserve to revaluation reserve?

£4.25M

ACCOUNTING UPDATE

ACCOUNTING UPDATE

Investments in subs, assocs,

JVs Rent arrears Accrued revenue Leases

Cash Trade creditors Accruals Bank loans

Service charge arrears

Interest rate swaps

Onerous lease provisions

Warranty obligations

Financial guarantees

DB pension schemes

Investment in shares

Intercompany balances

Financial instruments

- scope