In March 2020, the Australian Accounting Standards Board approved the issue of AASB 2020-2 Removal of Special Purpose Financial Statements for Certain For-Profit Private Sector Entities and AASB 1060 General Purpose Financial Statements – Simplified Disclosures for For-Profit and Not-for-profit Tier 2 Entities. This means that for periods beginning on or after 1 July 2021, certain for-profit entities will no longer be able to self-assess their reporting requirements and prepare special purpose financial statements.
For entities currently preparing Special Purpose Financial Statements, I’d encourage you to get in contact with your financial reporting expert before 30 June 2021 to consider and work through what impact these changes will have on your business as these changes could have significant financial reporting implications for your business.
What is the difference between General Purpose and Special Purpose Financial Statements?
General Purpose Financial Statements are financial reports that meet the information needs common to users who are unable to command the preparation of reports tailored to satisfy, specifically, all their information needs. Think of listed companies, financial institutions, and entities with public accountability. General Purpose Financial Statements meet all the recognition, measurement, presentation and disclosure requirements of the Australian Accounting Standards.
Special Purpose Financial Statements are, as the name suggests, prepared for a special purpose, commonly to satisfy legislative requirements, compliance with contracts or agreements, or simply to satisfy the internal information needs of the entity. These are often prepared where the users of the financial statements are limited or required to serve a specific purpose. This might be the case for a large family owned business, required to prepare financial statements by ASIC, but with limited users. Or to satisfy a lender like a bank. In these cases, the application of accounting policies may not be in line with all Australian Accounting Standards.
Why have they done this?
Australia is the only player on the international stage that gives entities the ability to self-assess their reporting requirements. As you can appreciate, with a regulator in place, the question is often asked – why are reporting requirements so flexible? And how can you regulate financial statements with varying accounting treatments? Shouldn’t there be some benchmark to ensure consistency in application and understanding of how the numbers are arrived at in financial statements, or that important information to users is not left out?
There are many situations where entities that are deemed economically significant by the regulator’s standards that are currently able to prepare Special Purpose Financial Statements.
So, this change, the removal of Special Purpose Financial Statements for certain entities, has been on the agenda and has been a long time coming.
Who does this affect?
There are two criteria, and if either are met, will require entities to prepare General Purpose Financial Statements. These are:
- For-profit private sector entities required by legislation to prepare financial statements in accordance with Australian Accounting Standards or accounting standards, or
- For-profit private sector entities whose constituting document or another document requires the preparation of financial statements that comply with Australian Accounting Standards if that document is created or amended after 1 July 2021.
Tell us a bit more about these criteria
The first one refers to situations where legislation requires the preparation of financial statements in accordance with Australian Accounting Standards or accounting standards. Immediately, we think about the Corporations Act 2001 and those entities required to prepare and lodge financial statements with ASIC. These include:
- Large proprietary companies (including grandfathered companies)
- Unlisted public companies
- Small foreign controlled companies
- Financial service licensees
- Small companies with crowd-sourced funding, and
- Companies directed to prepare financial reports in accordance with Australian Accounting Standards by ASIC or shareholders.
Notice how the key word in the criterion is preparation. Grandfathered companies may not have to lodge financial statements but are still required under the Corporations Act 2001 to prepare financial statements.
The other key phrase in the criterion is the reference to Australian Accounting Standards or accounting standards. This is based on the view that, in referring to accounting standards only, it can be reasonably expected that legislators intended compliance with standards issued by the AASB when the term accounting standards is used under Australian legislation.
The second criterion is where an entity’s constituting document or other document requires preparation of financial statements that comply with Australian Accounting Standards IF created or amended in any way on or after 1 July 2021.
Think constitutions, trust deeds, self-managed superannuation funds, partnership or joint arrangement agreements, customer and supplier contracts and loan documents, for example. If these refer to preparation of financial statements in accordance with Australian Accounting Standards, then they are caught under this criterion and must prepare General Purpose Financial Statements.
That sounds like a lot of extra work for those entities currently preparing Special Purpose Financial Statements. How significant of an impact is this likely to be?
Firstly, there are a lot of entities that prepare Special Purpose Financial Statements that meet all the recognition and measurement requirements of the Australian Accounting Standards. In these cases, perhaps it’s only the disclosure requirements element that needs to be addressed.
It’s important to note, that there are two tiers of General Purpose Financial Statements. Tier 1 incorporates International Financial Reporting Standards and include requirements that are specific to Australian entities. Tier 2 comprises the recognition, measurement and presentation requirements of Tier 1 and substantially reduced disclosures corresponding to those requirements.
All disclosure requirements for Tier 2 entities will now be included in AASB 1060 in a single source from 1 July 2021 and supersede the previous Reduced Disclosure Requirements framework.
There are some key areas to consider ahead of 1 July 2021, particularly for those entities currently preparing Special Purpose Financial Statements who may be captured under the previously mentioned criteria. Areas where entities may not have applied recognition and measurement requirements in their Special Purpose Financial Statements include, but are not limited to:
- Consolidation and equity accounting
- Revenue recognition
- Financial instruments, and
- Related party transactions.
What steps can be taken now to ensure the right information is prepared for the intended users of the financial statements in future?
There is no way out for entities meeting the first criterion, that require preparation of financial statements in accordance with legislation.
However, for entities that are required to prepare financial statements in accordance with constituting or other documents, there’s not long left to 30 June 2021 to amend these documents. For those who still want flexibility in determining their financial reporting requirements, the Australian Accounting Standards Board has released a publication titled “Navigating the Financial Reporting requirements in for-profit private sector client documents – what you need to know”. This publication suggests considering amending wording in these documents to:
- Prepare financial information as specified by the beneficiaries/partners/joint venturers, or
- Prepare financial statements in accordance with the directions of the trustee/partners/joint venturers.
And avoiding use of:
- Accounting standards
- Generally accepted accounting principles, or
- True and fair view.
Making such changes before 1 July 2021 will provide the flexibility in preparation of financial information, should the underlying documents be altered after this date.
What advice can you give us, what is the next step?
There are some key questions to ask yourself:
- Am I currently preparing financial statements under legislation or in accordance with constituting or other documents? And what do these specifically require?
- Are my material accounting policies in compliance with the recognition and measurement criteria of Australian Accounting Standards?
- Are there any subsidiaries, associates or joint ventures that will need to be consolidated or equity accounted? What processes and controls do I need to ensure are in place to consolidate or equity account these?
Transition requirements and the relief available if early adopting
It’s worth noting that there is transition relief that might be handy if early adopting these new standards (for the year ended 30 June 2021), which will be lost if left until the last minute where mandatory adoption is required. This is particularly relevant for entities preparing special purpose financial statements that are not in compliance with all requirements of Australian Accounting Standards.
An entity has a choice of the transition method. These include:
- AASB 108 Accounting Policies, Changes in Accounting Estimates and Errors which requires a full retrospective treatment of accounting policies and may be difficult to achieve; or
- AASB 1 First-time Adoption of Australian Accounting Standards which allows certain items not to be re-stated; for instance, accounting for business combinations prospectively from 1 July 2020 without needing need to go back many years to account for the business combination at the acquisition date. There is also a one-off opportunity to revert measurement of property, plant and equipment using the revaluation model back to the cost model by using fair value as deemed cost at 1 July 2020. In all other circumstances, once the revaluation method is adopted for measurement of property, plant and equipment, it is highly unlikely that this can be reversed, and assets are required to be measured at fair value form that point onwards.
Transitioning at the mandatory effective date
This will require restating comparatives in the 30 June 2022 financial statements if the 30 June 2021 framework was not compliant with all recognition and measurement requirements of the Australian Accounting Standards. As a result, the entity will need to prepare three separate balance sheets on 1 July 2020, 30 June 2021 and 30 June 2022, while only presenting 30 June 2021 and 30 June 2022. It could be costly for entities that have already had their 30 June 2021 financial statements audited under the previous framework.
The only transition relief available is that an entity does not need to distinguish between changes in accounting policies or correction of errors. These can be combined as a single change described as transitional adjustment on preparation of general purpose financial statements.
There is a big incentive for entities to transition early if they have previously prepared special purpose financial statements that did not comply with all recognition and measurement requirements of the Australian Accounting Standards.
Firstly, no restatement is required for comparatives in the 30 June 2021 financial statements if moving to Tier 2 general purpose financial statements and applying AASB 1. Instead, this can be disclosed as an equity reconciliation on 1 July 2020.
Secondly, no comparative information is required for new notes that were not included under the previous framework.
The transition relief of combining changes in accounting policies and correction of errors is still available for those early adopting.
For more information on the removal of special purpose financial reports for certain for-profit entities and/or the requirements under the general purpose financial statement regime, please contact your local William Buck Audit and Assurance advisor.
For more detail on what to expect under the new general purpose financial reporting regime, please read Nicholas Benbow’s article here.