Section 8 – Accounting Policies, Estimates and Errors

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Section 8 – Overview

Section 8 – Analaysis

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Section 8: Accounting Policies, Estimates and Errors

Summary

Section 8 deals with the selection and application of accounting policies used in preparing financial statements. It also details how changes in accounting policies and prior period adjustments should be accounted for.

What is new?

For UK incorporated companies, prior year restatements due to a change in accounting policy or prior period error are not required to be disclosed. For ROI incorporated companies Irish Company Law requires disclosure of:

the reason for the adjustment; and
the effect on the balance sheet and profit and loss account.
the movement in the profit and loss reserves which may change as a result of a prior period adjustment (to be disclosed either in the notes or on the face of the profit and loss account).

This compares with FRS 102, where such prior year restatements are required to be presented in the statement of changes in equity or statement of income and retained earnings (where applicable) together with a note included for the reason for the change and the impact of the change on each financial statement line item effected. Old GAAP/FRSSE (FRS 3/Section 2) required the cumulative effect of the prior period restatement to be noted at the foot of the statement of total recognised gains and losses. This is a significant benefit for UK companies applying FRS 105 (as no disclosure is required) and will also benefit ROI companies as reduced disclosures are required when compared to FRS 102 or FRSSE as there is no specific requirement to detail the impact on each financial statement line item (required under FRS 102 only, not FRSSE) or to detail the requirement to split the prior period adjustment for a change in accounting policy made voluntarily from a change due to the change in the FRS (required under FRS 102 only, not FRSSE).

UK incorporated companies are not required to disclose a change in accounting estimate. FRS 102, old GAAP and FRSSE requires/required disclosure of the change and the impact.

FRS 105 does not require a company to look at the guidance in other accounting frameworks (unless stated in the standard) to consider how an item is to be treated if it is not dealt with specifically within the standard instead it should look to the key concepts and pervasive principles in Section 2. FRS 102 specifically provides a hierarchy of where to go in order to determine the treatment of such an item and gives the ability to look to another accounting framework for guidance (i.e. IFRS). FRSSE had a similar requirement.

Little or no choice of accounting policies as FRS 105 mandates the treatment to be followed. See examples of this prescriptive nature below. Under FRS 105:

assets are not permitted to be carried at fair value or revalued amounts;
all amounts on the balance sheet must be recognised at historic cost;
development expenditure must be expensed;
investment property must be held at cost and depreciated;
no deferred tax is permitted to be recognised.
Borrowing costs to be expensed
Equity settled share based payments not recognised until issued
Goodwill impairments cannot be reversed

What is different?

Section 8 makes it clear that a prior period adjustment to restate the prior period should be made where a material error was made in the previous year, or an accounting policy change was made. This contrasts with old GAAP (FRS 3/Section 2 of FRSSE) where a prior year adjustment is only required if there was a fundamental error which destroyed the true and fair view of the financial statements. Therefore, under FRS 105, prior period adjustments are likely to be more frequent than was the case under old GAAP/FRSSE (FRS 18 or Section 2 of FRSSE). There is no difference between FRS 102 and FRS 105 here.

Section 8 provides a hierarchy that describes how to account for a transaction that is not specifically addressed within FRS 105. FRS 102 also has a hierarchy however in contrast FRSSE/old GAAP did not have such a hierarchy however entities usually referred to other GAAP’s for guidance.

Section 8 provides more guidance where it is impracticable to apply a change of accounting policy fully, retrospectively and states where this is the case the entity should restate the opening balances for the earliest period where it was practicable. This compares to old GAAP/FRSSE, where disclosure of prior period adjustments on results for the preceding years was only required if practicable. FRS 102 guidance is the very same as FRS 105 guidance here.

Section 8 does not require a regular review of accounting policies, however, old GAAP/FRSSE did. FRS 102 guidance is the very same as FRS 105 guidance here.

Section 8 does not require the effect of a prior year adjustment to be posted to other comprehensive income/STRGL as this does not exist under FRS 105 (for neither ROI nor UK Companies). This compares to FRSSE/old GAAP which required the prior period adjustment to be shown in the STRGL.

FRS 102 requires detailed disclosures in relation to a change in accounting policy or a prior period adjustment to include the disclosure of the error in the statement of changes in equity (SOCE). FRS 105 does not have the concept of a SOCE and disclosures are only required for ROI companies as detailed above.

For ROI companies only, a change in accounting estimate only requires details of the change, the reason and the impact on the current year results to be disclosed. This compares to FRS 102, where in addition to the aforementioned, there is also a requirement to detail the impact the change will have on the future years. The requirements in the FRSSE/old GAAP in this area are the same as required under FRS 105 therefore there are no differences on transition where the company is an Irish Company (different for UK Company as no disclosure is required).

What are the key points?

Section 8.5 details the hierarchy for selecting accounting policies where the FRS does not deal with the issue specifically. The hierarchy to be applied is that management should:

use its judgement in developing and applying an accounting policy that results in information that:
- Represents faithfully the transactions, other events or conditions;
- Reflects the economic substance of the transactions, other events and conditions, and not merely the legal form;
- Is neutral, i.e. free from bias; and
- Is prudent
refer to the recognition criteria and measurement concepts in Section 2.

There is no requirement to refer to FRS 102 unless stated in the standard.

Accounting policies have to be applied consistently.

A change of accounting estimate is to be applied prospectively.

A change in accounting policy and material prior period adjustment requires a prior year restatement.

Prior year restatement required where a prior year error was material.

For UK companies there is no requirement to disclosure a change in accounting policy, a prior year restatement due to a prior period material error or; a change in accounting estimate.

For ROI incorporated companies, prior year restatements require disclosure of the reason for the adjustment, the nature and the effect on the profit and loss account and balance sheets presented.

For ROI companies; disclosure required of the effect a change in accounting estimate has on the current period. No disclosure required for UK incorporated companies.

What do accountants need to do?

Be aware of the differences between FRSSE/old GAAP, FRS 102 and Section 8 so that financial statements are prepared in compliance with FRS 105.

Recognise the difference in disclosure requirements under FRS 105 for companies incorporated in ROI and in the UK with regard to the disclosure of accounting policies, changes in estimates, prior period errors and changes in accounting policies.

Review prior year financial statements to assess whether there were material errors which were not required to be adjusted under FRSSE or old GAAP as they did not meet the definition of a fundamental error. Then, assess if a prior period adjustment is required and, where required, show these in line with Section 8 requirements.

Advise clients on the reduced disclosures required where a material prior year adjustment/error or change in accounting policy arises.

What do companies need to do?

Be aware of the differences between FRSSE/old GAAP/FRS 102 and Section 8 so that financial statements are prepared in compliance with FRS 105.

Review prior year financial statements prepared under FRSSE/old GAAP to identify any errors and assess if they should be considered material under FRS 105.

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