Posted by jonathanfullarton - July 24, 2024 12:18 pm Upcoming changes to FRS 102

The Financial Reporting Council issued their 2024 periodic review of FRS 102 on 27^th March 2024. A number of amendments have been introduced to the accounting standards, which the FRC consider will improve financial reporting standards and which will align the UK standards with recent changes to International Financial Reporting Standards.

The most significant changes relate to:

Revenue recognition

There will be a new 5 step model to be followed in revenue recognition as follows:

23.4 This section establishes a revenue recognition model for accounting for revenue from contracts with customers. The objective of the model is for an entity to recognise revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To apply the model, an entity shall take the following steps:

(a) Step 1 – Identify the contract(s) with a customer (see paragraphs 23.7 to 23.16);

(b) Step 2 – Identify the performance obligations in the contract (see paragraphs 23.17 to 23.40);

(c) Step 3 – Determine the transaction price (see paragraphs 23.41 to 23.64);

(d) Step 4 – Allocate the transaction price to the performance obligations in the contract (see paragraphs 23.65 to 23.77); and

(e) Step 5 – Recognise revenue when (or as) the entity satisfies a performance obligation (see paragraphs 23.78 to 23.112).

As a result of this all entities applying FRS 102 will be required to re-assess their income streams and adapt their accounting policies to comply with the new standards.

Leases

The existing distinction between finance leases and operating leases will be removed for lessees, requiring in the vast majority of circumstances for all leased assets to be recognised on the balance sheet as both an asset and a lease liability. This will require lease liabilities to be initially recognised at the present value of the lease payments remaining unpaid as at that point in time. The interest rate to be utilised in discounting the payments will not be easily ascertainable in many cases and will potentially involve a significant element of estimation uncertainty on the part of management.

20.49 At the commencement date, a lessee shall measure the lease liability at the present value of the lease payments that are not paid at that date. The lease payments shall be discounted using the interest rate implicit in the lease, if that rate can be readily determined. If that rate cannot be readily determined, the lessee shall choose, on a lease-by-lease basis, to apply either the lessee’s incremental borrowing rate or the lessee’s obtainable borrowing rate.

PBE20.50 A public benefit entity that is unable readily to determine either the interest rate implicit in the lease, or the lessee’s incremental or obtainable borrowing rate for a lease, shall use the rate of interest otherwise obtainable by the public benefit entity on deposits held with financial institutions.

It is unlikely that many leases previously recognised as operating leases will include an interest rate implicit within the lease and lessors are unlikely to be willing to divulge their internal calculations for this.

In summary

The changes to FRS 102 are considered to be the most fundamental changes in accounting standards in most practitioners’ working lives to date and accordingly significant steps must be taken to understand the new requirements.

The majority of entities within the UK will require some external assistance in interpreting and applying the new standards.

The new accounting standards will be applicable, for most entities, for accounting periods commencing on 1 January 2026 onwards, however the impact of the changes on any comparative figures needs to be considered and accordingly we suggest that entities start to consider the impact to them, and any changes to their financial transactions, from 1 January 2025 onwards. This is to also allow time for any changes to be made to systems where they will be necessary in order to record transactions in a format which complies with the updated FRS 102.

On transition to the new standards, FRS 102 allows an entity in some circumstances to choose to either amend its comparatives or to apply the criteria at the start of the current period and adjust equity for the cumulative effect at that date. Again, the impact of this choice must be considered and calculated in order to decide whether one option is beneficial over the other, including any impact on bank covenants related to key ratios such as net current assets and gearing. Finally, the Financial Reporting Council in their announcement have admitted that due to the significant amendments made to the accounting standards there will be ‘some implementation costs’ and we would recommend entities take this into consideration when preparing their upcoming budgets, considering internal finance staff resourcing and professional advisor costs.

Should you require any further advice then please contact your local MFW office where our teams will be pleased to help.