HMRC's overview on adopting FRS 105

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Donald-Drysdale By Donald Drysdale for ICAS

14 September 2017

For entities planning to adopt FRS 105, Donald Drysdale discovers that HMRC’s new overview paper may help to explain some of the tax implications likely to arise.


UK generally accepted accounting practice (GAAP) has changed in recent years. ‘New UK GAAP’ consists of financial reporting standards FRS 101, FRS 102 and (for micro-entities) FRS 105, using principles set out in FRS 100.

These replace ‘old UK GAAP’ – that is, Financial Reporting Standards and other guidance that applied before new UK GAAP, or the Financial Reporting Standard for Smaller Entities (FRSSE).

EU Directive 2013/34/EU permits member states to offer simplified accounting requirements for certain very small companies (‘micro-entities). Accordingly, UK Regulations allow micro-entities to prepare and file substantially simplified financial statements with Companies House. Subject to exclusions, a micro-entity is a company which meets at least two of the following three criteria: annual turnover no more than £632,000, a balance sheet total no more than £316,000, and no more than 10 employees.

Micro-entities’ accounts must still comply with UK GAAP. To facilitate this, in 2015 the Financial Reporting Council (FRC) issued FRS 105. In 2016, Amendments to FRS 105 widened its scope to include LLPs and qualifying partnerships.

In July 2017 HMRC published a 25-page overview paper to assist companies and other businesses which are thinking of choosing or have already chosen to apply FRS 105 and are therefore facing transition from old UK GAAP or the FRSSE.

HMRC’s guidance

HMRC’s overview paper highlights accounting and tax differences that arise between old UK GAAP, the FRSSE and FRS 105 – noting that in most cases there were few accounting differences between old UK GAAP and the FRSSE. The document also summarises key accounting and tax considerations likely to arise on transition to FRS 105.

FRS 105 only applies to companies, LLPs and certain qualifying partnerships. However, HMRC generally accept unincorporated businesses’ profit calculations prepared under FRS 105 if they meet the micro-entity size criteria.

Accounts and errors

Accounts prepared under FRS 105 must include a balance sheet (or ‘statement of financial position’) and profit and loss account (or ‘income statement’). A statement of total recognised gains and losses is not required. Accounts prepared in accordance with FRS 105 are presumed in law to give a true and fair view.

An entity that is required or chooses to present consolidated financial statements is excluded from the micro-entities regime and cannot use FRS 105.

‘Fundamental’ errors were previously accounted for by re-stating the prior period comparative figures. Under FRS 105 this applies to ‘material’ errors, so more prior year adjustments are likely to arise. They are still taxed or allowed only once as appropriate.

Financial instruments

Under FRS 105, financial instruments are typically recognised at transaction price and measured on an amortised cost basis, broadly as before. However, different issues arise where FRS 26 has been adopted under old UK GAAP, and significant adjustments may arise on transition.

For corporation tax but not for income tax, financial instruments fall within the regimes for loan relationships or derivative contracts.

Fixed assets and inventory

Investment property is measured under FRS 105 at cost less accumulated depreciation, with no exemption for property let to and occupied by group entities. Property, plant and equipment are also measured at cost less accumulated depreciation; major spare parts are included as plant, and renewals accounting is prohibited. Because special tax rules apply, these accounting changes are unlikely to have a significant tax impact.

FRS 105 differs from old UK GAAP and the FRSSE in its treatment of construction contracts and agricultural stocks. However, for many businesses these differences will have no impact on the recognition or measurement of stock or taxable profit.


FRS 105 requires amortisation of intangible assets including goodwill over a finite useful economic life, which (if it cannot be reliably estimated) must not exceed 10 years. For corporation tax there are statutory rules for changes in accounting for intangibles. For income tax there is no statutory equivalent of the corporation tax rules, so case law will determine whether any adjustment is required to the calculation of profits – in particular the case law interpreting the statutory provision prohibiting the deduction of capital.

Other topics

On business combinations, FRS 105 requires a micro-entity to follow rules set out in FRS 102, with some adaptations. The acquisition of a business is a capital expense for tax purposes. Tax statute determines the value of trading stock for the business ceasing and its value for the successor business.

Under FRS 105 the distinction between operating and finance leases follows closely old UK GAAP and the FRSSE, but with some differences which may alter the timing of income recognition for tax purposes.

The treatment of provisions and the rules for revenue recognition, government grants and borrowing costs are little changed under FRS 105, so for most businesses no significant tax impacts are likely to arise in these areas on transition.

Accounting for share based payments and certain other employee benefits will change on adoption of FRS 105, but related tax deductions are governed by specific legislation which has not changed.

HMRC’s overview addresses differences that might arise in relation to foreign currency translation and accounting for foreign branches. It does not address the FRS 105 treatment of agricultural activities.

Transition to FRS 105

Subject to specified exceptions, an entity transitioning to FRS 105 must:

  • recognise all assets and liabilities whose recognition is required by FRS 105;
  • not recognise items as assets or liabilities if FRS 105 does not permit such recognition;
  • re-classify assets, liabilities and components of equity to ensure presentation is consistent with FRS 105; and
  • apply FRS 105 in measuring all recognised assets and liabilities.

Company law prohibits the revaluation of any asset by micro-entities. Instead, they must measure fixed assets at cost less depreciation and impairment. With limited exceptions, FRS 105 does not permit the use of any revaluation amounts or fair values.

Transitional adjustments may arise, both from the recognition or de-recognition of assets and liabilities and their carrying values. For accounting, these are made to the assets and liabilities at the accounting transition date (that is, the first day of the earliest accounting period presented in the accounts), with a corresponding adjustment to the opening reserves.

For corporation tax or income tax, as applicable, on a change from one valid basis of computing trading profits to another (for example, on a change of accounting policy on transition to FRS 105), an adjustment will ensure that the impact is taxed or allowed only once.

Health warning

Changing the basis on which accounts are prepared is complex. As with all HMRC guidance, the overview paper is simply HMRC’s interpretation of the accounting standards and tax law, and should be no substitute for professional advice.

It remains the responsibility of each business to ensure that it prepares accounts or (for an unincorporated business) calculates profit in accordance with company law (where applicable) and the relevant GAAP, and that it self assesses in line with UK tax law.

Article supplied by Taxing Words Ltd


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