The Department for Business, Innovation and Skills has carried out a formal consultation on extending audit exemption, proposing to remove some of the gold plating that previous governments had applied. Henry Irving takes a look at the proposals.
The Department for Business, Innovation and Skills (BIS) is taking on red tape and sees deregulation as a path to economic growth. In general, it is probably right. But its proposals to take more smaller businesses out of statutory audit – and the consequences – are open to question.
In a nutshell, the proposals are:
• To align the audit exemption criteria with the small company definition. Currently small companies have to meet both the turnover and balance sheet thresholds to be exempt from audit. Under the BIS plan, all qualifying small companies for accounting purposes will also qualify for audit exemption.
• To exempt subsidiary companies from statutory audit where they full conditions including a commitment from their parent companies to guarantee their debts.
• To make it easier for companies to change their accounts from IFRS to UK GAAP.
BIS expects that a further 36,000 companies will potentially be audit exempt. This is a reasonably large number. There are 1.6m active companies registered in the UK, 87% of which are already audit exempt. So the new proposals would take out around a further 2% of these companies from the statutory requirements.
Again, large numbers. But we question how many groups will take up this exemption if they have to guarantee their subsidiaries’ debts. In any case, they may still need to have them audited for group reporting purposes.
Subsidiaries, under BIS’s preferred option, would still have to file accounts (unlike some countries, where a filing exemption is also granted with an audit exemption) and this may affect take-up. Some large companies, such as Thames Water and BAA, that are subsidiaries of foreign entities might become audit exempt under these proposals.
There’s an argument that this could even be in the public interest: sometimes a guarantee is better than an audit in protecting creditors and other stakeholders. But clearly that would have massive implications for the audit profession.
Companies choosing to list on the London Stock Exchange main market or on AIM are required to use IFRS in group accounts. But company law restricts any company from moving back to UK GAAP, outside of some particular qualifying circumstances. Oddly, this includes a company delisting from the main market, but not delisting from AIM. (In fact, creating a new holding company that applies UK GAAP is another option – although that seems a rather excessive step to have to make.) As a result, a few companies are now trapped on IFRS, regardless of its suitability.
One of the changes the Accounting Standards Board is mooting for UK GAAP is a framework for subsidiaries based on IFRS but with reduced disclosure requirements. Many private companies that have already opted to use IFRS might find this more suitable. A change to company law would let them switch.
So, how has ICAEW responded? Ultimately, we believe that good financial management is essential to any small business and that many will choose to continue to have an audit come what may. But audit exemption is a priority for CEO Michael Izza, and his blogs along with mine, together with member alerts and a webinar, will keep you informed of developments.
We want your views and have already held three regional forums – in Manchester, Exeter and London – to ensure we are incorporating members’ thinking into our line on the BIS proposals. And we convened a representative working group that has now submitted our response to the consultation. If accepted, the proposals are planned to come into effect from October 2012.
Potential benefits include lower fees and less red tape for clients. “Audit regulations and requirements are becoming over-complicated and impose burdens on businesses that most would not require or want”, said one auditor. Another added, “There are much better ways the accounting profession can assist SMEs.”
And the negatives? They include less robust or reliable accounts, which may make lenders, in particular, wary. This might create a “lack of confidence in the eyes of the users of the accounts as figures can be manipulated”, said one respondent.
The Department for Business, Innovation and Skills (BIS) is taking on red tape and sees deregulation as a path to economic growth. In general, it is probably right. But its proposals to take more smaller businesses out of statutory audit – and the consequences – are open to question.
In a nutshell, the proposals are:
• To align the audit exemption criteria with the small company definition. Currently small companies have to meet both the turnover and balance sheet thresholds to be exempt from audit. Under the BIS plan, all qualifying small companies for accounting purposes will also qualify for audit exemption.
• To exempt subsidiary companies from statutory audit where they full conditions including a commitment from their parent companies to guarantee their debts.
• To make it easier for companies to change their accounts from IFRS to UK GAAP.
BIS expects that a further 36,000 companies will potentially be audit exempt. This is a reasonably large number. There are 1.6m active companies registered in the UK, 87% of which are already audit exempt. So the new proposals would take out around a further 2% of these companies from the statutory requirements.
More exemptions
The subsidiary company audit exemption is expected to have the potential to affect 83,000 more companies. In addition, dormant subsidiaries that meet some conditions (for example, they must not be in the banking and finance sector) will not only be exempt from audit, but also from preparing and filing accounts. BIS estimates that 67,000 subsidiary companies are dormant.Again, large numbers. But we question how many groups will take up this exemption if they have to guarantee their subsidiaries’ debts. In any case, they may still need to have them audited for group reporting purposes.
Subsidiaries, under BIS’s preferred option, would still have to file accounts (unlike some countries, where a filing exemption is also granted with an audit exemption) and this may affect take-up. Some large companies, such as Thames Water and BAA, that are subsidiaries of foreign entities might become audit exempt under these proposals.
There’s an argument that this could even be in the public interest: sometimes a guarantee is better than an audit in protecting creditors and other stakeholders. But clearly that would have massive implications for the audit profession.
Standard shifts
Then there’s the accounting framework proposals. Most private UK companies prepare their financial statements under UK GAAP. However, any UK company (other than a charity) is permitted to adopt International Financial Reporting Standards (IFRS) and some do this to align with a parent using IFRS.Companies choosing to list on the London Stock Exchange main market or on AIM are required to use IFRS in group accounts. But company law restricts any company from moving back to UK GAAP, outside of some particular qualifying circumstances. Oddly, this includes a company delisting from the main market, but not delisting from AIM. (In fact, creating a new holding company that applies UK GAAP is another option – although that seems a rather excessive step to have to make.) As a result, a few companies are now trapped on IFRS, regardless of its suitability.
One of the changes the Accounting Standards Board is mooting for UK GAAP is a framework for subsidiaries based on IFRS but with reduced disclosure requirements. Many private companies that have already opted to use IFRS might find this more suitable. A change to company law would let them switch.
Joining the debate
These proposals will affect many of our members – and some of you may have serious concerns about the UK government’s progressive deregulation of audit. The UK government is limited in what it can do in this area by EU legislation, of course. Current proposals to amend the fourth and seventh EU Directives confirm that audit deregulation will be limited to small companies, retaining audit for larger organisations.So, how has ICAEW responded? Ultimately, we believe that good financial management is essential to any small business and that many will choose to continue to have an audit come what may. But audit exemption is a priority for CEO Michael Izza, and his blogs along with mine, together with member alerts and a webinar, will keep you informed of developments.
We want your views and have already held three regional forums – in Manchester, Exeter and London – to ensure we are incorporating members’ thinking into our line on the BIS proposals. And we convened a representative working group that has now submitted our response to the consultation. If accepted, the proposals are planned to come into effect from October 2012.
Impact on the firm
While the majority of the small practices we contacted expect an impact on their business, what that will be is less clear. Firms were divided on whether the BIS proposals would have a positive or negative impact.Potential benefits include lower fees and less red tape for clients. “Audit regulations and requirements are becoming over-complicated and impose burdens on businesses that most would not require or want”, said one auditor. Another added, “There are much better ways the accounting profession can assist SMEs.”
And the negatives? They include less robust or reliable accounts, which may make lenders, in particular, wary. This might create a “lack of confidence in the eyes of the users of the accounts as figures can be manipulated”, said one respondent.
Impact on the UK Economy
Most members we contacted don’t anticipate these proposals would have any impact on the UK’s economic growth over the next two to three years. “There are insufficient companies in this range to have a significant overall effect”, said one. “Other areas of red tape – in terms of employment, health and safety, etc – are more of a hindrance”, added another. Some pointed out that a couple of thousand pounds in audit fees is unlikely to be a massive saving for the companies affected.How the clients react?
There is a broad expectation that the majority of small company clients would take advantage of the proposed audit exemptions. The proportion of firms that expect clients in subsidiary companies to take advantage is lower, especially the larger subsidiaries. But there is a greater degree of uncertainty about how subsidiaries will react.Find out more
ICAEW Working Party Chairman David Chopping’s webinar
Faculty’s response to the BIS proposals (ICAEW Rep 124/11)
Henry Irving is head of ICAEW’s Audit and Assurance Faculty
This article first appeared in Audit & Beyond, magazine of the ICAEW Audit and Assurance Faculty, in March 2012.
Faculty’s response to the BIS proposals (ICAEW Rep 124/11)
Henry Irving is head of ICAEW’s Audit and Assurance Faculty
This article first appeared in Audit & Beyond, magazine of the ICAEW Audit and Assurance Faculty, in March 2012.
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