Small Company Reporting Issues 29 ... - 2020 Innovation

SMALL COMPANY REPORTING ISSUES

Feb 2016 Page 1

Small Company Reporting Issues

29 February 2016

Presented by

John Selwood

No responsibility for loss occasioned to any person acting or refraining from action as a result of the

material in these notes can be accepted by the author or 2020 Innovation Training Limited

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Page 2 Feb 2016

TABLE OF CONTENTS

TABLE OF CONTENTS ....................................................................................................... 1

CHANGES TO THE AUDIT THRESHOLDS ......................................................................... 4

Increased audit limits ......................................................................................................... 5

NEW SMALL COMPANY REGULATIONS .......................................................................... 6

When does the change happen? ....................................................................................... 6

Small company qualification criteria ................................................................................... 6

Abridged accounts ............................................................................................................. 7

Abbreviated accounts for filing with Companies House (companies subject to small companies regime) ............................................................................................................ 7

Companies not delivering a profit and loss account to Companies House ......................... 8

THE MICRO COMPANY REGIME REBOOTED ................................................................. 10

FRS 105 The Financial Reporting Standard applicable to the Micro-entities Regime ....... 10

Key differences: FRSSE versus FRS 105 ........................................................................ 11

Issues to be considered where FRS 105 is concerned ..................................................... 12

NEW COMPANIES HOUSE FILING REQUIREMENTS ..................................................... 13

Abbreviated accounts ...................................................................................................... 13

‘Filleted’ financial statements ........................................................................................... 13

Abridged financial statements .......................................................................................... 14

Micro-entity filing issues ................................................................................................... 15

DIRECTORS LOAN ACCOUNTS AND FRS 102 ............................................................... 16

Shareholder approval ....................................................................................................... 16

Advances to a director ..................................................................................................... 16

Disclosures relating to advances to a director .................................................................. 17

Credit balances and withdrawals...................................................................................... 18

Director resigns part-way through the accounting period ................................................. 18

The impact of FRS 102 on directors’ current accounts ..................................................... 18

Loans where no formal terms have been agreed ............................................................. 19

CHANGE AT COMPANIES HOUSE ................................................................................... 21

Small Business, Enterprise and Employment Act ............................................................. 21

Companies Act 2006 amendments .................................................................................. 21

The move online .............................................................................................................. 21

SMALL BUSINESS, ENTERPRISE AND EMPLOYMENT ACT ......................................... 22

Timetable ......................................................................................................................... 22

Register of persons with significant control ...................................................................... 23

Bearer shares .................................................................................................................. 24

Corporate directors .......................................................................................................... 24

Shadow directors ............................................................................................................. 24

Insolvency and disqualification of directors ...................................................................... 24

Annual returns ................................................................................................................. 25

Company registers ........................................................................................................... 25


Feb 2016 Page 3

Director and registered office disputes ............................................................................. 25

Striking off companies ...................................................................................................... 25

Companies House changes ............................................................................................. 25


Page 4 Feb 2016

CHANGES TO THE AUDIT THRESHOLDS

As most accountants will be aware, the small companies’ regime has been subject to rather a lot of change over the last few months due, in large part, to the transposition of the EU Accounting Directive into company law.

The main change that has been brought about by the EU Accounting Directive is an increase in the size thresholds which determine whether a company is a micro-entity, small, medium or large (including groups). The revised sized thresholds with effect for accounting periods commencing on or after 1 January 2016 are as follows:

Turnover Balance Sheet Total

Average no. of employees

Micro-entity Not more than £632,000

Not more than £316,000

Not more than 10

Small company Not more than £10.2 million

Not more than £5.1 million

Not more than 50

Small group Not more than £10.2 million net OR

Not more than £12.2 million gross

Not more than £5.1 million net OR


Not more than 50

Medium-sized company

Not more than £36 million


Not more than 250

Medium-sized group

Not more than £36 million net OR


Not more than £18 million net OR


Not more than 250

Large company £36 million or more £18 million or more 250 or more

Large group £36 million net or more OR

£43.2 million gross or more

£18 million net or more OR


250 or more

The question then arose as to whether audit exemption thresholds would be increased as a result of the above revised size thresholds. The Government confirmed that they did not intend to decouple the links between the audit exemption threshold and the thresholds which determine the size of a small company. However, some stakeholders expressed concern that allowing a company with a turnover of £10.2m to take advantage of audit exemption was too excessive and would allow such larger businesses more scope for unorthodox practices, such as criminal activity. A consultation was undertaken by the Government who sought views as to whether the audit exemption limit should be increased to the maximum permitted by the Audit Regulation and Directive.

Concerns were also raised by the audit profession that increasing audit exemption limits to the maximum allowed under the Audit Regulation and Directive would increase instances of


Feb 2016 Page 5

poor financial reporting. Stakeholders suggested that audit exemption limits should remain as they are or raised to some intermediate level lower than the revised thresholds which determine a small company for financial reporting purposes. Conversely, others argued that the thresholds for audit exemption should rise citing the erosion of the value of the audit exemption thresholds due to inflationary effects as well as the increased regulation this would place on small companies.

On 26 January 2016, the Government rejected the concerns raised by the audit profession, preferring to keep the framework as simple as possible. The Government said that having two levels of regulation (one for audit exemption and one for the definition of a small company) would introduce unnecessary complexity into company law and cause confusion for users.

Increased audit limits

The Government has said that all companies should continue to be able to have an audit (i.e. the audit option will remain open for small companies). Companies will not, however, be required to have an audit for financial years which start on or after 1 January 2016 (essentially 31 December 2016 year-ends) if, at the balance sheet date, two out of the following three criteria can be met for (generally) two consecutive financial years:

Turnover < £10.2 million

Balance sheet total (fixed assets plus current assets) <£5.1 million

Number of employees < 50

To take advantage of the above, the company must also not be excluded from accessing the audit exemption due to the nature of their business.

Raising the audit exemption thresholds to match those of the small company thresholds is estimated to remove 7,400 companies from the mandatory requirement to have an audit. However, the Government have estimated that some 4,400 companies will choose to continue to have an external audit and the remaining 3,000 companies will seek alternative routes to ensure that their company’s internal systems are robust, such as assurance reviews or oversight of accounts preparation.

The ICAEW Chief Executive, Michael Izza, said:

‘We are disappointed government has decided to go down this route. We have consistently said over the last four years that audit promotes sound financial practice and protects against mismanagement, fraud and tax evasion.

‘There are many reasons why companies have an audit – to give shareholders confidence, satisfy tender requirements, and ensure reliable financial reporting. Even though a number of businesses are now potentially exempt we expect many will continue to choose to have an audit.’

BIS acknowledge that the value of audit and auditors still have an important role to play in supporting small businesses and providing assurance to owners and lenders. Will many small companies continue to have an audit? Will they seek alternatives such as assurance reviews? Only time will tell …


Page 6 Feb 2016

NEW SMALL COMPANY REGULATIONS

On 29 August 2014, the Department for Business Innovation and Skills (BIS) issued a Consultation Document which outlined how it intends to implement the new EU Accounting Directive (the Directive) into companies’ legislation.

The legislation was finalised in March 2015 and represents some of the most radical change there has ever been to small company reporting in terms of what is filed at Companies House. The additional information on the public record for small companies, when abbreviated accounts are abolished is likely to push most companies towards the micro company accounting regime.

When does the change happen?

The changes to the Companies Act 2006 apply from periods commencing 1 January 2016. Early adoption is permitted from periods commencing 1 January 2015. No ‘cherry picking’ is permitted for early adopters. It is all or nothing.

Small company qualification criteria

The most notable change within the new small company regime is an increase in the thresholds which determine the size of a company. BIS has chosen to take advantage of the maximum thresholds which the Directive makes available to Member States so as to allow 11,000 medium-sized companies to be re-categorised and allow them to take advantage of the small companies’ regime and hence make less disclosure than would otherwise be the case. In their response, BIS has also confirmed that they will also apply mandatory increases in the thresholds for medium-sized and large companies.

The new regime is summarised in the table below:


Average no. of Employees

Micro-entity Not more than £632,000

Not more than £316,000

Not more than 10

Small company Not more than £10.2 million

Not more than £5.1 million

Not more than 50

Small group Not more than £10.2 million NET or

Not more than £12.2 million GROSS

Not more than £5.1 million NET or


Not more than 50


Average no. of Employees

Medium-sized company



Not more than 250

Medium-sized group Not more than £36 Not more than £18


Feb 2016 Page 7

million NET or


million NET or


Not more than 250

Large company £36 million or more £18 million or more 250 or more

Large group £36 million NET or more or


£18 million NET or more or


250 or more

Abridged accounts

Regulation 16 amends Part 1 (general rules and formats) of Schedule 1 (Companies Act individual accounts) to the Small Companies Accounts Regulations by allowing a small company to prepare ‘abridged’ accounts provided that this has been approved by all of the company’s shareholders.

It is worth emphasising that the Regulations require the consent of ALL members when it comes to drawing up the abridged accounts. In addition, such consent can only be given in respect of the balance sheet or profit and loss account in respect of the preceding financial year and hence this consent is required to be given annually.

Abbreviated accounts for filing with Companies House (companies subject to small companies regime)

The concept of abbreviated accounts that have always been submitted to Companies has essentially been abolished. Regulation 21 repeals Schedule 4 SI 2008/409 which requires abbreviated accounts to be delivered to the Registrar of Companies (Companies House) to reflect the fact that small companies are no longer permitted to file accounts which are different to those which they prepare and send to shareholders. For small companies, Regulation 8(3) makes changes to section 444 of Companies Act 2006 concerning the filing obligations of a small company. The major change is that a small company will no longer be able to file annual accounts at Companies House which are an abbreviated version of the accounts which it prepares and sends to shareholders. Instead, a small company will file the versions of the balance sheet and profit and loss account (where the profit and loss account is filed) which are prepared and sent to the shareholders.

The revised section 444(1) says:

The directors of a company subject to the small companies regime—

(a) must deliver to the registrar for each financial year a copy of a balance sheet drawn up as at the last day of that year, and

(b) may also deliver to the registrar—

(i) a copy of the company’s profit and loss account for that year, and

(ii) a copy of the directors’ report for that year.

The revised section 444(2) says:


Page 8 Feb 2016

‘Where the directors deliver to the registrar a copy of the company’s profit and loss account under subsection (1)(b)(i) The directors must also deliver to the registrar a copy of the auditor’s report on the accounts (and any directors’ report) that it delivers.

‘This does not apply if the company is exempt from audit and the directors have taken advantage of that exemption.’

The final paragraph of the revised section 444(2) is important because many small companies are not subject to external audit and hence where audit exemption is taken by a company, any profit and loss account submitted to Companies House will therefore not be accompanied with an auditor’s report.

A new section 444(2A) is inserted into the legislation saying:

‘Where the balance sheet or profit and loss account is abridged pursuant to paragraph 1A of Schedule 1 to the Small Companies and Groups (Accounts and Directors’ Report) Regulations (S.I. 2008/409)(b), the directors must also deliver to the registrar a statement by the company that all the members of the company have consented to the abridgement.’

In drafting the legislation, BIS has suggested that allowing small companies to prepare an abridged balance sheet and abridged profit and loss account only if approved by all of the company’s shareholders will strike a balance between enabling simplification and protecting minority shareholder interests.

Companies not delivering a profit and loss account to Companies House

Where the directors of a company decide NOT to file a profit and loss account or a directors’ report then the copy of the balance sheet which is filed at Companies House must contain (in a prominent position) a statement that the company’s annual accounts and reports have been delivered in accordance with the provisions applicable to companies subject to the small companies regime. This requirement is contained in the revised section 444(5).

There are further points to note regarding small companies and their filing requirements under the new regime:

Section 444(5A) states that where a company subject to the small companies’ regime

does not deliver a copy of the company’s profit and loss account, the copy of the

balance sheet filed must disclose that fact and unless the company is exempt from

audit and the directors have taken advantage of that exemption, the notes to the

balance sheet must satisfy the requirements in subsection (5B).

Subsection (5B) says that the notes to the balance sheet must:

o state whether the auditor’s report was qualified or unqualified;

o where the report was qualified, disclose the basis of the qualification

(reproducing any statement under section 498(2)(a) or (b), if applicable);

o where the report was unqualified, include a reference to any matters to which

the auditor drew attention by way of emphasis; and

o state:

the name of the auditor and (where the auditor is a firm) the name of the

person who signed the auditor’s report as senior statutory auditor; or

if the conditions in section 506 (circumstances in which names are

omitted) are met, that a resolution has been passed and notified to the

Secretary of State in accordance with that section.


Feb 2016 Page 9

Subsection (5C) states that subsection (5A) [the first bullet point above] does not

apply if the company qualifies as a micro-entity and the company’s accounts are

prepared for a year in accordance with any of the micro-entity provisions.


Page 10 Feb 2016

THE MICRO COMPANY REGIME REBOOTED

The Companies Act 2006 was amended in 2013 to include a brand new micro company accounting regime. The exemptions were extremely generous but were largely ignored. The withdrawal of the FRSSE from periods commencing 1 January 2016 will force the corporate world to reappraise the usefulness of the new micro regime, particularly as the FRC have published a new accounting standard to accompany it.

On 16 July 2015, the Financial Reporting Council (FRC) issued the final standards which will be applied by small and micro-entities in the UK and Republic of Ireland. This marked the end of several years of work by the FRC in developing a financial reporting framework which is based on international standards.

The new regime will apply to accounting periods commencing on or after 1 January 2016 and earlier adoption is permissible. However, if a small company or a micro-entity wishes to early-adopt the new regime it must adopt the new package of standards – in other words a company which is now small under the new framework cannot take advantage of early-adoption and use the FRSSE (effective January 2015) – it must apply the new rules.

The FRSSE (effective January 2015) will be withdrawn in its entirety for accounting periods commencing on or after 1 January 2016 and new UK GAAP will be structured as follows:

EU-adopted IFRS

FRS 100 Application of Financial Reporting Requirements

FRS 101 Reduced Disclosure Framework

FRS 102 The Financial Reporting Standard applicable in the UK and Republic of

Ireland

FRS 102 The Financial Reporting Standard applicable in the UK and Republic of

Ireland with reduced disclosures

FRS 103 Insurance Contracts

FRS 104 Interim Financial Reporting

FRS 105 The Financial Reporting Standard applicable to the Micro-entities

Regime

FRS 105 The Financial Reporting Standard applicable to the Micro-entities Regime

FRS 105 is based on FRS 102 because the Accounting Council of the FRC wants consistency across the financial reporting framework in the UK and Republic of Ireland. It is to be noted that at the time of writing these notes there was no equivalent legislation in the Republic of Ireland for micro-entities and hence a company which might fall to be classed as a micro-entity in the Republic of Ireland cannot use FRS 105 until the legislation is enacted.

FRS 105 has significantly simplified financial reporting for micro-entities and the Accounting Council acknowledged that it would not have gone as far as the Directive has gone in making these simplifications. Many of the disclosures that have traditionally been necessary to enable a true and fair view have been removed in FRS 105 because the EU Accounting Directive does not require certain disclosures to be made. In addition certain accounting options have been removed; for example a micro-entity cannot carry investment property at fair value; it must carry the property at cost less accumulated depreciation and accumulated impairment losses. This is one of the accounting treatments which the Accounting Council does not support as it views the revaluation model as being more appropriate to investment property as such a model provides more relevant and reliable information.


Feb 2016 Page 11

Key differences: FRSSE versus FRS 105

Some of the key differences between the FRSSE (effective January 2015) and FRS 105 are outlined in the following table:

FRSSE (effective January 2015) FRS 105

The directors have a legal obligation to ensure the financial statements give a true and fair view and hence must make appropriate disclosures where necessary.

Financial statements prepared to the minimum legal requirements are presumed to give a true and fair view. The directors do not need to consider any additional disclosures needed for the financial statements to give a true and fair view.

A Format 1 or a Format 2 profit and loss account can be prepared.

Only a Format 2 profit and loss account is permitted, structured as follows:

Turnover Other income Cost of raw materials and consumables Staff costs Depreciation and other amounts written

off assets Other charges Tax Profit or loss

FRSSE (effective January 2015) FRS 105

A statement of total recognised gains and losses is needed where amounts have been taken to equity.

No statement of total recognised gains and losses is required.

The balance sheet is disaggregated e.g. tangible fixed assets are split into various components (intangible, tangible and investment property).

No disaggregation of the balance sheet is permitted hence there will only be one line item showing ‘Fixed assets’. Current assets are not split into the order of liquidity (stock, debtors, bank and cash); only one line item showing ‘Current assets’ is required.

More disclosures are needed for the financial statements to give a true and fair view.

Only disclosures in respect of advances, credit and guarantees granted to directors and financial commitments, guarantees and contingencies are disclosed at the foot of the balance sheet.

The FRSSE allows fair value accounting or amounts to be carried at revaluation.

No fair values or revaluation amounts are allowed under FRS 105. All previous fair values/revaluation amounts must be removed on transition and in the comparative year.

More accounting policies are allowed in the FRSSE (e.g. capitalisation of development costs and borrowing costs).

No accounting policy choices exist in FRS 105 and hence most transactions will be recognised in profit or loss rather than


Page 12 Feb 2016

deferred in the balance sheet.

Company law requirements are reproduced in the FRSSE.

Not all company law requirements have been reproduced – only those which relate to the financial statements themselves have been reproduced.

Deferred tax is recognised using the timing difference approach.

Deferred tax is prohibited.

Equity-settled share-based payment transactions are disclosed in the notes.

No equity-settled share-based payment transactions are either accounted for or disclosed.

Issues to be considered where FRS 105 is concerned

The FRC are keen to emphasise that while FRS 105 is the least complex framework, accountants should consider the ‘bigger picture’ when advising a client as to which framework to apply in the preparation of their financial statements. While a micro-entity may qualify to use FRS 105, it might not necessarily be the most appropriate framework – particularly if the entity has borrowings, or is trying to obtain finance, because the disclosure requirements are significantly reduced.

Other factors to consider include:

the eligibility criteria – for example a company whose financial statements are included in group accounts cannot apply the micro-entities regime; eligibility criteria is very restrictive;

the scope for producing non-statutory information; for example if the client undergoes an enquiry from HMRC or the bank require more details about the financial statements;

the pace of growth of the company; for example if the client is expected to grow at a rapid rate it might be more beneficial to choose a more comprehensive financial reporting framework; and

the impact that the prohibition of fair values/revaluation amounts might have on the company’s balance sheet and credit-rating.


Feb 2016 Page 13

NEW COMPANIES HOUSE FILING REQUIREMENTS

Accountants will by now be aware that the Companies Act 2006 has been revised for small and micro-entities as a result of the transposition of the EU Accounting Directive into UK legislation. This will have quite a significant effect on the way that small companies prepare their annual reports and the revised Companies Act 2006 comes into mandatory effect for accounting periods commencing on or after 1 January 2016.

Abbreviated accounts

The vast majority of small companies file abbreviated accounts with Companies House as permitted in section 444 of the Companies Act 2006; specifically section 444(3A) said that a small company preparing Companies Act accounts may deliver to the registrar:

a copy of a balance sheet drawn up in accordance with the regulations made by the Secretary of State; and

omit such items from the profit and loss account as may be specified by the regulations.

For companies subject to the small companies’ regime, these accounts are currently referred to as ‘abbreviated accounts’. Section 444(3A) has been repealed in the revised Companies Act 2006 and the fling requirements for a company subject to the small companies regime are outlined in section 444(1)(a) and (b).

Section 444(1) of the Companies Act 2006 has been amended to say that the directors of a company subject to the small companies regime:

a) must deliver to the registrar for each financial year a copy of the balance sheet drawn up as at the last day of that year; and

b) may also deliver to the registrar: o a copy of the company’s profit and loss account for that year; and o a copy of the directors’ report for that year.

Accountants may have noticed the (extremely) subtle change in wording in the revised Companies Act 2006 from being able to file ‘a’ copy of the balance sheet to having to file a copy of ‘the’ balance sheet which is drawn up as at the last day of the accounting period.

The legislation says that the company may deliver a copy of the company’s profit and loss account and directors’ report for the year and where the company chooses to do this (which will be quite rare in practice as most companies will only want to file the bare minimum), section 444(2) says that a copy of the auditor’s report should be delivered (except where the company has taken advantage of audit exemption) and any directors’ report.

So what does this mean in practice? The concept of abbreviated accounts is abolished for an accounting period commencing on or after 1 January 2016. Section 444(1) offers no choice where the balance sheet is concerned; that must be filed with the registrar together with the associated balance sheet notes. The company can choose to file the profit and loss account as section 444(1)(b) says that the company may also deliver the profit and loss account and directors’ report for the year to the registrar. In practice, many companies will choose not to file the profit and loss account and simply file the balance sheet, which will be the same balance sheet as that prepared for the shareholders, whether abridged (see later) or not. In addition, the notes which accompany the balance sheet will also be filed.

‘Filleted’ financial statements

The phrase ‘filleted financial statements’ or ‘filleted accounts’ relates to the financial statements which are submitted to Companies House based on the full accounts prepared for the shareholders. The term ‘filleted’ means that the profit and loss account and related


Page 14 Feb 2016

notes (for example, exceptional items) have been stripped out of the financial statements and these filleted financial statements will then be filed with the registrar. Therefore the registrar receives the balance sheet and the balance sheet notes.

In practice there may be more disclosure within the notes submitted to the registrar under the new filing regime than was the case for abbreviated financial statements because of the legally required disclosures for a small company that are needed in the accounts following the transposition of the EU Accounting Directive into company law. For example, the nature and financial effect of material non-adjusting post balance sheet events is a legally required disclosure note. In addition, any additional disclosures which relate to the balance sheet that are needed in the financial statements to give a true and fair view will also be filed.

Where a profit and loss account is not filed, the small company’s balance sheet delivered to the registrar must disclose that fact to comply with section 444(5A)(a). If the small company is subjected to an audit, the notes to the balance sheet must:

state whether the auditor’s report was qualified or unqualified;

if the report was qualified, disclose the basis of the qualification and reproduce any statement under section 498(2)(a), if applicable;

if the report was unqualified, but contained an emphasis of matter paragraph (for example because of going concern issues), this emphasis of matter paragraph should be included; and

provide the name of the auditor and (where the auditor is a firm) the name of the person who signed the auditor’s report as senior statutory auditor.

In respect of providing the name of the auditor, if the conditions in section 506 of the Companies Act 2006 apply (circumstances in which names may be omitted), the notes to the balance sheet must state that a resolution has been passed and notified to the Secretary of State in accordance with that section.

Abridged financial statements

The concept of ‘abridged financial statements’ was introduced into the revised Companies Act 2006. Abridged financial statements allow certain items in the statutory formats to be combined. For example, an abridged profit and loss account will start at gross profit (or loss) rather than turnover because turnover, other income and cost of sales will be combined in the abridged profit and loss account. The main impact of an abridged set of financial statements will be to reduce the disclosure notes because abridged financial statements do not use Arabic numerals from the statutory formats. However, this is complicated by the fact that FRS 102 at paragraphs 1AA.2 and 1AB.2 requires directors to refer to paragraph 1A.16 and provide any additional disclosures that are considered necessary to give a true and fair view (e.g. disaggregating the information in the balance sheet and profit and loss account). Note – there is still a legal requirement for small companies to prepare financial statements which give a true and fair view.

In terms of preparing abridged financial statements all the shareholders must unanimously agree to the abridgement. There is no majority vote, so if one shareholder does not agree to an abridged set of financial statements being prepared then the company simply cannot prepare abridged accounts. The agreement is an annual process because the shareholders can only agree to abridged financial statements being prepared in respect of the preceding financial year and hence one agreement will not cover all subsequent accounting periods.

In respect of the filing requirements, if the company has prepared an abridged balance sheet or profit and loss account, section 444(2A) of the Companies Act 2006 requires the directors to deliver a statement to the registrar that all members have consented to the abridgement.

Issues relating to the audit of abridged accounts are contained on page 44 of these notes.


Feb 2016 Page 15

Micro-entity filing issues

Where a micro-entity is concerned, such entities should file the balance sheet together with the notes, where applicable, at the foot of the balance sheet as a minimum. There is no requirement to prepare a directors’ report for a micro-entity for accounting periods commencing on or after 1 January 2016, so this need not be filed with the registrar. A micro-entity also does not have to file the Format 2 profit and loss account.


Page 16 Feb 2016

DIRECTORS LOAN ACCOUNTS AND FRS 102

As the impact of FRS 102 The Financial Reporting Standard applicable in the UK and Republic of Ireland begins to bite, many practitioners are starting to ask questions as to the impact that the new financial reporting regimes will have on their clients’ financial information. Notwithstanding the new financial reporting frameworks, which are about to take mandatory effect for accounting periods commencing on or after 1 January 2016, there are some requirements in the Companies Act 2006 (CA06) which are often forgotten about by practitioners, particularly where loans to directors are concerned which are worth revisiting to ensure that correct protocol is followed.

Shareholder approval

Many companies in the UK and Republic of Ireland have directors’ current accounts in operation and information concerning directors’ current accounts is required to be disclosed under section 413 of CA06 Information about directors’ benefits: advances, credit and guarantees. The implementation of section 413 has not been short of controversy since its arrival, largely because of the way that it was drafted.

Section 197(1) of CA06 makes a general prohibition on loans to directors and also related guarantees or provisions of security where the approval of the shareholders (often referred to as ‘members’) is not obtained. However, such approval is not required for ‘minor’ loans; i.e. if the aggregate value of the transaction(s) does not exceed £10,000, and hence companies are not prohibited under CA06 to make such loans.

If a company makes advances to a director personally and the aggregate exceeds £10,000 at any time, there is a legal requirement for the advance that takes the total over £10,000 to be approved by the shareholders BEFORE it takes place. Most small companies will probably not know about this issue until someone tells them, however failure to follow correct protocol could cause problems if there is a fallout between shareholders (for example in a husband and wife run company where the husband and wife divorce) or if the company goes into liquidation.

Advances to a director

When an advance to a director takes place, section 413 of CA06 requires the following details to be disclosed:

(a) its amount;

(b) an indication of the interest rate;

(c) its main conditions; and

(d) any amounts repaid.

The notes to the financial statements must also disclose:

the total amounts stated in (a); and

the total amounts stated in (d).

Disclosure is also required in respect of guarantees of any kind entered into by the company on behalf of the director(s), which disclose:

(a) the main terms;

(b) the amount of the maximum liability that may be incurred by the company (or its subsidiary); and


Feb 2016 Page 17

(c) any amount paid and any liability incurred by the company (or its subsidiary) for the purpose of fulfilling the guarantee (including any loss incurred by reason of enforcement of the guarantee).

In respect of advances to a director, confusion surrounded the requirements of section 413 when it was first introduced because the wording of this particular section indicates that every advance needs to be disclosed. For companies where the directors’ current accounts are overdrawn, making disclosure of every individual entry would, in practice, be impractical and result in excessive information being disclosed.

Disclosures relating to advances to a director

Financial statements must be prepared that give a true and fair view and this concept will still apply for small companies under the new financial reporting frameworks (although micro-entities’ financial statements are presumed to give a true and fair view if they are prepared to the legally required minimum).

In a lot of cases, advances to directors consist of several items which make up an overdrawn balance as at the year-/period-end. However, consider a company that simply makes a £50,000 advance to the director for the purpose of a house purchase. In this case, the related party disclosure could be as simple as:

‘During the period, the company made a short-term loan to the director amounting to £50,000 for the purposes of a house purchase. Interest at the rate of 4.5% per annum is payable half-yearly and the loan is repayable on 31 December 2018.’

An issue that was raised when section 413 became mandatory was the disclosure of transactions where a director’s current account was made up of several items. The wording of section 413 was subjected to a lot of criticism by accountants and various commentators and the professional bodies concluded that many companies would find it impractical to comply with the ‘letter of the law’ and hence came up with a solution whereby the accountant would determine the materiality of advances and repayments; aggregate the immaterial transactions and disclose separately material transactions, using the following ‘template’:

£

Opening balance X

Plus loans made in the period (advances) X

Plus private expenditure in the period X

Less undrawn remuneration (X)

Less loan repayments in the period (X)

Less dividends declared in the period (X)

Closing balance X

Where items of expenditure or repayment are considered to be material to the financial statements, or are dissimilar in terms of those expenses which have been aggregated, these should be disclosed separately. Care, however, should be taken where such a template for disclosing directors’ transactions are concerned. This is because it can be tricky to template disclosures because client circumstances vary so much and therefore the template is generally persuasive rather than prescriptive. Indeed, auditors of companies where overdrawn directors’ current accounts are in operation would need to ensure that the disclosures enable the financial statements to give a true and fair view in order to avoid any potential audit qualification.


Page 18 Feb 2016

Credit balances and withdrawals

Any withdrawals made by the director from bona fide credit balances on their current accounts cannot be constituted as an advance because these are simply repayments of funds previously invested in the company by the director and therefore should not be treated as an advance. Whilst such transactions are not considered to be advances to directors, they might be caught under the related party provisions and hence might need disclosure as a related party transaction (although the scope for this is less under FRS 102 with reduced disclosures which only requires limited related party disclosures to be made).

Director resigns part-way through the accounting period

Section 413(6) says that references to a director in section 413 relate to any persons who were a director at any time in the financial year to which the accounts relate. Therefore, if a director resigns part-way through the accounting period, then section 413 will still apply to that person. In addition, section 413(7) says that the requirements of section 413 apply in relation to every advance, credit or guarantee subsisting at any time in the financial year to which the accounts relate:

(a) whenever it was entered into;

(b) whether or not the person concerned was a director of the company in question at the time it was entered into; and

(c) in the case of an advance, credit or guarantee involving a subsidiary undertaking of that company, whether or not that undertaking was such a subsidiary undertaking at the time it was entered into.

The impact of FRS 102 on directors’ current accounts

Loans to or from a director are caught under the rules in Section 11 Basic Financial Instruments in FRS 102 and this will also apply to small companies who use FRS 102 with reduced disclosures as their financial reporting framework for accounting periods commencing on or after 1 January 2016.

Very often, a company will make a loan to a director and this loan can either be at below market rate, or interest-free (usually the latter). Where such a loan is made to or from a director, it will often fall to be treated as a financing transaction and the consequence of this is where the loan is below market rate, a measurement difference will arise. The measurement difference is the difference between the fair value of the loan and the present value. However, care must be taken because the initial recognition of the loan will depend on whether the transaction is conducted with the director in the director’s capacity as a shareholder of the entity, or if it is in the capacity of an employee (directors may not necessarily have shares in the business).

Example – Measurement difference arising on a loan to a director-shareholder

Smallco Ltd makes an interest-free loan to a director (who is also a shareholder) amounting to £5,000 on 1 January 2016. The director has agreed to pay this loan back to the company on 31 December 2017 and the market rate for a similar loan would be 5.5% per annum. The net present value of the loan is £4,492 (£5,000/1.0552). The measurement difference is the difference between the fair value and the present value which is £508 (£5,000 - £4,492).

Under the provisions of FRS 102, any measurement difference which arises on financing transactions has to be reflected in the financial statements. This is because the only permissible method of accounting for such transactions under Section 11 is the amortised cost method, which in turn uses the effective interest rate method.


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Example – Accounting for a measurement difference

Using the example above, the measurement difference of £508 represents a distribution to the director in their capacity as a shareholder (as, in substance, the director-shareholder has benefitted by the company providing a loan at below market rate) and the entity would therefore record the transaction as follows:

DR director’s current account £4,492

DR distribution to shareholder (equity) £508

CR cash at bank £5,000

Being loan to director

The above scenarios were based on a loan TO a director-shareholder. It is commonplace for the reverse to apply, i.e. where the director-shareholder will make a loan to the company.

Example – Loan from a director-shareholder

On 1 January 2016, Sarah makes an interest-free loan to her business amounting to £5,000. Sarah is a shareholder in the business and her bank would have charged interest at 5.5% on this loan. The loan terms state that the loan will be repaid on 31 December 2017. A measurement difference has arisen amounting to £508 (£5,000 – (£5,000/1.0552)).

This measurement difference will be treated as an additional investment by Sarah into the business. This is because Sarah has provided a loan at below market rates and has, in substance, made an additional contribution to the business. The loan will be recorded as follows:

DR cash at bank £5,000

CR director’s current account £4,492

CR capital contribution (equity) £508

Being loan from director-shareholder

Directors’ loans in their capacity as employees

It is not always the case that a director has shares in the business and hence where a director is solely an employee, it is less likely that they would provide an interest-free loan to the entity because they would not derive any benefit from doing this. However, it is not uncommon for a company to make a loan to a director who does not have any ownership interest in the business, and this loan might well be interest-free (or at below market rates of interest).

Where a company makes a loan to a director who does not have any ownership interest in the business, the accounting treatment will be the same as if the transaction was conducted between unrelated parties.

Loans where no formal terms have been agreed

It is often the case that a loan will be made to or from a director-shareholder and no formal loan terms will be agreed. Care must be taken to ensure that section 197 protocol is followed for loans in excess of £10,000 to a director.

Where there are no formal loan terms in existence, the loan will fall to be classed as ‘on demand’ and hence will be recognised as current. This might pose a problem for some companies where directors’ current accounts are in credit and have been classed as long-


Page 20 Feb 2016

term under outgoing UK GAAP (e.g. the FRSSE). Under FRS 102 principles, where the directors’ current account is in credit and there are no formal terms in existence, then it will need to be reclassified to current liabilities (in much the same way that a bank overdraft is treated). This will have an impact on the company’s net current assets which will reduce (or might even turn into net current liabilities) and hence an impact assessment must be undertaken prior to the transition to FRS 102 with reduced disclosures to understand the impact of such loans.

Where loan terms do exist, it is quite difficult to retrospectively change the terms of the loan and this should also be taken into consideration prior to the date of transition. However, it should be noted that in many cases, a client’s date of transition will have already been and gone.


Feb 2016 Page 21

CHANGE AT COMPANIES HOUSE

Change at Companies House is happening. It might not be fast, after all it is part of government, but it is happening. The original implementation of Companies Act 2006 shook up various parts of the organisation and there has been more change since and signiciantly more to come.

The big drivers of change are:

Small Business, Enterprise and Employment Act

This is covered in more detail later but is forcing Companies House to change their processes of annual returns and company registers

Companies Act 2006 amendments

The accounting revolution will effect Companies House. Micro company accounting and the abolition of abbreviated accounts will forever change the landscape of filed accounts.

The move online

This is partly driven by the need to control costs but mostly this is about moving with the times. Will the register ever be online only? Of course! The question is when?


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SMALL BUSINESS, ENTERPRISE AND EMPLOYMENT ACT

In an attempt to deter illegal activity in business, such as money-laundering and tax evasion, there has been a change to UK company law in the form of The Small Business, Enterprise and Employment Act 2015 which received Royal Assent on 26 March 2015 and forms part of the Government’s ‘Transparency and Trust’ proposals. The Act itself hit the statute books on 26 March 2015 but in recognition of the fact that companies will need time to prepare, a staged timetable has been introduced for implementation of the Act.

Timetable

Unfortunately the new legislation is going to cause an element of upheaval among companies and the following table highlights the main changes to company law, together with the implementation dates:

Change in the law Implementation date

The prohibition of ‘bearer shares’ 26 May 2015, with a nine months’ transitional period for existing bearer shares.

Accelerated striking off, from 3 months to 2 months from the date of publication in the Gazette

October 2015

Suppression of directors day of birth October 2015

Replacement of ‘consent to act’ procedure for officers

October 2015

Prohibition of corporate directors, with exceptions

October 2015, with a 12 months’ transitional period for existing corporate directors

Maintenance of a public register of people with significant control for unquoted companies

Originally the implementation was January 2016 and details of these people to be provided annually to Companies House from April 2016

This has moved to April 2016 and 30 June 2016

New procedures for handling director and registered office address disputes

April 2016

Replacement of annual returns Originally from April 2016 the annual return will be replaced with annual ‘confirmation statements’

This has moved to June 2016

Ability to keep statutory registers at Companies House instead of having to keep own registers

June 2016

Be aware that more information will be held on the public record, as a consequence


Feb 2016 Page 23

Register of persons with significant control

One of the most controversial aspects of this new piece of legislation is that individuals who have ‘significant control’ over a private company are to be named on a public register. In broad terms, a person will have significant control where he or she holds or controls more than 25% of the company’s shares or voting rights. In addition, a person will have significant control where they have the power to appoint, or remove, a majority of the board (this can be directly, or indirectly, through a majority stake in another company).

While the above test may seem fairly simple to apply, there are already emerging problems that have presented themselves, such as where an individual may have significant influence or control over an unquoted company or exercises control through a partnership or trust. In this respect, the government is expected to issue additional guidance on the definition of ‘significant influence or control’.

In general, the five specified conditions which constitute ‘significant control’ are:

direct/indirect ownership of 25% or more of a company’s shares;

direct/indirect control of 25% or more of a company’s voting rights;

direct/indirect right to appoint/remove a majority of the board’s directors;

exercise/right to exercise significant influence or control over a company; and/or

exercise/right to exercise significant influence or control over activities of a trust or firm which itself meets one, or more, of the first four conditions.

There will be a legal obligation for an unquoted company to identify and keep up-to-date a register of persons with significant control. Conversely those persons with significant control over the company will be obliged to disclose their identities to the company. Anyone will be able to inspect the register of persons with significant control if they have a ‘proper purpose’.

Companies will be required to provide information concerning persons with significant control to Companies House and this information will be available on the public record. To start with, this will be on an annual basis, but from 2017 the government is planning to increase the frequency for Companies House filings to bring the new rules in line with the EU Fourth Money Laundering Directive.

The register of persons with significant control must include similar details to those which are currently on the register of directors along with the nature of the control that the person has over the company. The residential address of a person with significant control will be protected (as is the case now for directors); however other information relating to the person with significant control may only be withheld in very limited circumstances, for example where the person with significant control is at a risk of serious violence or intimidation due to the company’s activities. The final details have not yet been published and we are awaiting confirmation of such circumstances.

Failure to comply

At the outset it is important to point out that the new rules only apply to unquoted companies (i.e. private companies). Listed companies (including AIM-listed companies) are exempt from the requirements on the grounds that the disclosure requirements in DTR 5 already apply to shareholders of listed companies.

Problems are likely to emerge for private companies in identifying their significant controllers by serving information requests. In addition, the new regime is likely to be extended to LLPs (although formal proposals for this have not yet been published).


Page 24 Feb 2016

Where persons with significant control do not comply with their disclosure obligations, the company can impose sanctions such as loss of voting rights and transfer restrictions. A similar sort of regime exists with listed companies, but PLCs have to go to court to impose such sanctions, whereas private companies will not have to go to court.

Where a company fails to comply with its obligations under the new law, criminal penalties can also be imposed and such penalties will also extend to the company’s directors and company secretary.

Bearer shares

Bearer shares are fairly uncommon nowadays and so this issue is unlikely to affect very many companies. However, from 26 May 2015 companies will no longer be able to create bearer shares. Over the years such shares have been criticised because they allow the shareholders to remain anonymous. From 26 May 2015, existing holders of bearer shares will have nine months’ to swap their shares and be listed on the register of shareholders, after which time the shares will be cancelled. It is important, therefore, that companies which have holders of bearer shares, notify such holders as quickly as possible as to the consequences of not surrendering their shares.

Corporate directors

The new Act prohibits companies and other corporate entities from being appointed as directors. The reason for this prohibition is to restrict the use of corporate structures to hide illegal activity. The ban on corporate directors is expected to commence from October 2015 and for companies which currently have a corporate director, they will have a one-year transitional period in which to appoint replacement directors.

Despite the ban being primarily to restrict illegal activity, the government have acknowledged that in some instances corporate directors are appointed for genuine reasons and hence the government have said that they may introduce some exemptions from the prohibition of a corporate director and is currently consulting on whether a corporate director should be permitted if all of its directors (or equivalent officers) are natural persons and their details are held on a public register, such as that held at Companies House.

Shadow directors

The general duties of directors under sections 170 to 177 of the Companies Act 2006 will apply to shadow directors, to the extent that they are capable of applying. Shadow directors are not formally appointed as directors but the board follows the orders of such shadow directors. This change will apply from 26 May 2015 but it is currently unclear how this will operate in practice. Current advice to investors is to avoid ‘crossing the line’ between board engagement and board control and while the Act does empower the government to introduce further rules in this area, no such proposals have been published as yet.

Insolvency and disqualification of directors

The Act provides for a number of measures which have the objective of making it easier to pursue directors that do not comply with their obligations. The Act will allow liquidators and administrators to bring law suits against directors for acts such as wrongful or unlawful trading as well as applying for creditor compensation orders against directors that have been disqualified.

In addition, the disqualified directors regime is also going to be updated and improved and will allow the Secretary of State to disqualify directors for misconduct in connection with


Feb 2016 Page 25

companies that are located overseas. The courts will also be able to take account of a wider range of factors in arriving at a decision whether, or not, to ban a director.

The length of time that the Secretary of State will have in bringing disqualification action against a director following formal insolvency of a company is being extended from two years to three years.

Annual returns

The annual return which is currently lodged at Companies House is being replaced with an annual check-and-confirm ‘confirmation statement’. This form will also make the statements of capital easier to complete because the statement of capital is to be amended to remove the requirement for companies to include the amount paid up and unpaid on each share. Instead, companies will be required to specify the aggregate amount unpaid on the total number of issued shares.

The changes relating to the annual return are scheduled to come into force in June 2016 and companies will have to adjust to the new annual reporting regime. However, a benefit of the new regime is that it should be easier to align the timing of the preparation of the company’s confirmation statement with its annual accounts.

Company registers

Private companies will have the option to maintain certain information on the public register rather than on statutory registers. This will include information concerning shareholders, directors, secretaries and persons with significant control being maintained on a register at Companies House rather than maintaining their own registers. While this may sound helpful due to the reduced administration, it may be worthwhile for a private company to maintain their own register where such information changes infrequently, or where there are reduced confidentiality concerns as well as the fact that Companies House will charge for such a service.

Director and registered office disputes

When a director is appointed, they will not have to countersign the usual Companies House form to indicate their consent. Instead, Companies House will notify directors that they have been appointed as a company director. This will give the director chance to object and have their names removed if an erroneous appointment has been lodged at Companies House, or if the registration is bogus.

Striking off companies

The amount of time it takes for a company to be dissolved (whether voluntary or not) is to be reduced from three months to two months following publication of notice in the Gazette.

Companies House changes

In light of the above changes brought about by The Small Business, Enterprise and Employment Act 2015, there are going to be improvements to Companies House online facilities. Currently there are three services offered by Companies House:

Webfiling;

Webcheck; and

Companies House Direct


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The above will all be replaced by one unified online service – The Companies House Service. Webfiling, Webcheck and Companies House Direct will all run in parallel during the implementation of the new unified online service. There are some notable changes to the existing offering which include:

the removal of the subscription-based Companies House Direct to a free of charge service;

access to all document images on a free of charge basis, which will also include mortgage charges;

removal of the form-based filing to a ‘click and confirm’ process which will make it easier to maintain company information; and

an updated and user-friendly interface which will make searching for information more easier and quicker.

Documents

Small Company Reporting Issues 29 ... - 2020 Innovation