HMRC is pitting itself against the auditing fraternity – challenging the application of accounting standards of large companies in a bid to ensure debt is not written down due to misapplication of the rules say Harris & Co accountants Northampton
An increase of 57% of the £282m in underpaid tax under investigation by its Large Business Service relates specifically to the misapplication of accounting policies.
Leading tax expert Heather Self, of Pinsent Masons, has warned that this means the tax authority is challenging the professional judgements of the auditing fraternity.
‘A standard such as FRS 12, [Provisions, Contingent Liabilities and Contingent Assets,] is about the ability of companies to make provisions. In order to do this, there needs to be a past event, a future obligation and then a reasonable quantification of liability. That is what the standard requires.
‘When a company’s accounts are audited, the auditors check that the standard has been applied properly.
‘It is quite dangerous ground for HMRC to now go on – where they decide they don’t’ agree with the application of the accounting standard. They are pitting themselves up against the auditors,’ warned Self.
Self says there have been a few recent cases in which accounting policies were critically scrutinised in its challenge of companies’ tax schemes.
‘These challenges were won by HMRC. But HMRC is challenging cases in which companies have made genuine losses –where I’m not sure it’s appropriate for them to challenge.
‘To tell a company that they and their auditors are misusing or misinterpreting accounting regulations is quite a charge to make. You are essentially saying that shareholders of that company have been given incorrect numbers. Listed companies and their auditors take the issue of accounting standards very seriously, so they are very surprised if HMRC challenges them in this area,’ said Self.
HMRC is understood to have used some of its increased compliance budget to hire professionals with accounting expertise, boosting its ability to challenge companies in this area.
‘Ten years ago, HMRC wouldn"t have gone head to head with the financial reporting teams or auditors of a FTSE 100 company over their accounting principles, but now they see this as an important battleground,’ Self said.
Issues under scrutiny include the size and timing of losses from foreign exchange contracts, whether the size of provisions set aside for the mis-selling of financial products were appropriate and the treatment of intangible assets.
Some companies had experienced huge losses due to the recession and the volatile prices of currencies and commodities, forcing them to make decisions about when was the best time to recognise these losses for accounting purposes.
‘The recession has had a dramatic effect on UK corporations with many businesses writing down millions of pounds worth of debt, winding down defunct business areas and selling off assets.
‘Even in good times the write-downs that follow an M&A deal can often run into the hundreds of millions, so there is a lot at stake in this area. Listed companies will often want to book all the losses as soon as they can so that they can draw a line under their problems; rather than continue to take losses over a longer period, which may demoralise shareholders.
‘However, HMRC wants to make sure this isn"t cutting into their tax take,’ said Self.