Changes to audit exemptions
On 6 September 2012 the Department for Business Innovation and Skills (BIS) published the response to the Consultation on Audit Exemptions and Change of Accounting Framework which confirmed that a set of new rules was to be introduced in respect of audit exemption for companies and LLPs.
Additionally it was announced that dormant subsidiaries could be exempted from the requirement to prepare and file accounts at Companies House and that entities that currently prepare accounts under International Accounting Standards would be subject to more relaxed rules for switching to UK GAAP.
The Government then laid before Parliament Statutory Instrument 2012/2301 that introduces the new regulations by amending Companies Act 2006 in respect of accounts for financial years ending on or after 1 October 2012.
As far as audit exemptions are concerned, the main changes introduced by the new rules include the alignment of audit thresholds to accounting thresholds for small companies, so that a company will be able to claim audit exemption if it qualifies as small by meeting two out of three criteria for turnover, total assets and number of employees.
Similar changes have been applied for group companies that will be able to claim exemption if they are a member of a group qualifying as small by meeting two out of the three criteria. Additionally a new exemption is specifically available to subsidiaries of any size controlled by an EEA parent and meeting a number of conditions.
The new provisions bring UK legislation more in line with the exemptions available under the EU’s 4th Company Law Directive and, according to BIS, the effect of the amendments to Companies Act 2006 will be that of making audit exemption available to a further 119,000 companies.
The amended provisions of Companies Act in respect of audit exemption have been summarised below.
More details about the application of the provisions for audit exemption can also be found in ACCA Technical Factsheet 175.
Non-group companies and LLPs
Under amended section 477 of the Act Companies and LLPs that are not part of a group may claim exemption from audit if they qualify as small in a year in accordance with section 382 of Companies Act 2006 and if they do not fall within a category of companies and LLPs excluded by section 478 of the Act.
Under section 382 of the Act a company or LLP qualifies as small in its first financial year if it meets at least two of the following three requirements:
|Turnover||Not more than £6.5 million|
|Balance Sheet Total||Not more than £3.26 million|
|No. of Employees||Not more than 50|
For subsequent financial years a company or LLP will qualify as small if it meets the ‘two- year’ rule, ie it will continue to be small unless it fails two of the three criteria in two consecutive financial years or it will become small if it meets two out of three criteria for two consecutive years.
The consequence of the new provisions is that if a company or LLP fails to meet two out of the three criteria in a financial year, it may still claim audit exemption in that year providing it satisfied two out of the three criteria and qualified as small in the preceding financial year. That differs from the previous rules that included further size conditions (turnover and balance sheet total) to be met in the year for which exemption was claimed.
The following categories of companies and LLPs are excluded from audit exemption by section 478 of the Act:
- a public company;
- an LLP whose securities are admitted to trading on a regulated market in an EEA state;
- a company or LLP that:
(i) is an authorised insurance company, a banking entity, an e-money issuer, a MiFID investment firm or a UCITS management company, or
(ii) carries on insurance market activity, or;
- a special registered body or an employers’ association as defined in the Trade Union and Labour Relations (Consolidation) Act 1992 or the Industrial Relations (Northern Ireland) Order 1992.
Group companies and LLPs
Companies and LLPs that are parents or subsidiaries of a group may claim audit exemption if, in addition to meeting the conditions for non-group entities outlined above, they meet the requirements of amended section 479 of the Act. The requirements are that the group of which they are part qualifies as a small group in accordance with section 383 of the Act and that it was not at any time in the financial year an ineligible group under section 384 of the Act.
Under section 383 of the Act a group qualifies as small in respect of its parent’s first financial year if it meets at least two of the following three requirements:
||Not more than £6.5 million net or|
£7.8 million gross
|Aggregate balance sheet total
||Not more than £3.26 net or £3.9 million gross|
|Aggregate number of employees
||Not more than 50|
For subsequent financial years a group will qualify as small if it meets the ‘two-year rule’, ie it will continue to be small unless it fails two of the three criteria in two consecutive financial years or it will become small if it meets two out of three criteria for two consecutive years.
The effect of amended section 479 of the Act is that a group company or LLP may still be able to claim audit exemption even if the group fails to meet two out of the three criteria in a financial year, provided that it met at least two criteria and qualified as a small group in the previous financial year. Again these provisions differ from those applying previously that included further size conditions (aggregate turnover and aggregate balance sheet total) to be met in the year for which exemption was claimed.
Under section 384 of Companies Act, a group is ineligible if any of its members is:
- a public company;
- a body corporate (other than a company) whose shares are admitted to trading on a regulated market in an EEA State;
- a person (other than a small company or small LLP) who has permission under Part 4 of the Financial Services and Markets Act 2000 (c 8) to carry on a regulated activity;
- a small company or small LLP that is an authorised insurance company, a banking company or banking LLP, an e-money issuer, a MiFID investment firm or a UCITS management company;
- a person who carries on insurance market activity.
Subsidiaries of an EEA parent
A new exemption from mandatory audit has been introduced by new section 479A of the Act for qualifying subsidiaries that fulfil a set of rather stringent conditions. It has to be noted that eligibility for this exemption is not limited by the failure of the company or LLP to meet the requirements of sections 477, 478 or 479 of Companies Act outlined above. The availability of the exemption is in fact regulated by a new set of specifically drafted sections of the Act (479A, 479B and 479C).
A subsidiary company or LLP will be able to claim audit exemption if it fulfils all of the following conditions:
- its parent undertaking is established under the law of an EEA (European Economic Area) state;
- all members must agree to the exemption in respect of the financial year in question;
- the parent must give a statutory guarantee under section 479C of all the outstanding liabilities to which the subsidiary is subject at the end of the financial year;
- the company or LLP must be included in the consolidated accounts drawn up by the parent undertaking, which must be prepared in accordance with the Seventh Company Law Directive or International Accounting Standards specifically drafted;
- the use of the exemption by the subsidiary under Companies Act 2006 must be disclosed in the notes to the consolidated accounts drawn up by the parent;
- the following documents must be filed by the directors or designated members of the subsidiary at Companies House on or before the date that they file the subsidiary’s accounts:
- written notice of the members' agreement;
- a statement under section 479C by the parent that it guarantees the subsidiary’s liabilities;
- a copy of the consolidated report and accounts and the auditor’s report on those accounts;
- the company is not quoted within s385(2) of the Companies Act (the Act) at any time in the year;
- it is not an authorised insurance company, a banking company or LLP, an e-Money issuer, a MiFID investment firm or a UCITS management company, or carries on insurance market activity;
- it is not a trade union or an employer’s association.
The statement of guarantee of a subsidiary’s liabilities that is filed with Companies House must be authenticated by the parent and will have the effect of binding the parent undertaking to guarantee all the liabilities of the subsidiary that are outstanding at the end of the financial year, until they have been satisfied in full. Any person to whom the subsidiary is liable at the end of the financial year will be able to enforce the guarantee against the parent undertaking. A creditor who has obtained a judgement against the parent guarantor in the courts of England and Wales, Scotland or Northern Ireland will generally be able to enforce that judgement in another EEA jurisdiction without issuing separate proceedings there.
The effect of this new exemption will be that of allowing qualifying subsidiaries to claim audit exemption even if they are not small companies in their own right or are part of groups that are ineligible or not small. A public company or a member of a group that includes a banking company may still be eligible to claim audit exemption if it meets the new requirements for qualifying subsidiaries.
BIS believes that the interest of stakeholders or potential creditors of qualifying subsidiaries will not be compromised by the new exemption, as they will have the opportunity to assess the level of risk involved by accessing the consolidated accounts of the parent entity providing the guarantee that will be filed at Companies House.
More details about the application of the provisions for audit exemption can be found in ACCA Technical Factsheet 175.