Developments on audit exemption and the EC's simplification initiative

Find out about recent developments on audit exemption and the EC's simplification initiative.

The last increase in the audit exemption threshold was in 2004 to a turnover threshold of £5.6 million and a balance sheet total of £2.8 million. 

The small and medium-sized thresholds were also raised at that time. This was after a 3 month Government consultation in 2003.

£5.6 million – Threat or opportunity? provides more information on this.

 

Recent EU changes

Recent amendments to the 4th and 7th Directive give member states an option to increase the small and medium-sized accounting thresholds (and audit exemption thresholds) by 20 per cent.

 

DTI consultation on amendments to the 4th and 7th Accounting Directives

In March 2007, the Department of Trade and Industry (DTI) consulted on plans to implement Directive 2006/46/EC of the European Parliament and of the Council on Company Reporting which was adopted on 14 June 2006.

The overall objective behind the directive is to enhance confidence in the financial statements and annual reports published by European companies. The specific measures in the directive cover the following areas:

• Increasing the SME thresholds
• Extend the application of fair value accounting
• Disclosure requirements in respect of off-balance sheet transactions and related party transactions
• Corporate governance statement for publicly traded companies
• A requirement to ensure the collective responsibility of board members towards the company for the annual accounts and reports.

Of particular importance to SMEs is the option for member states to raise the financial thresholds defining small and medium-sized companies by 20%. In its consultation the DTI proposed to take advantage of the option to raise the SME thresholds and the proposed thresholds are set out in the following table:

Download table (Word 27kb/1 page)

 

Government response to the consultation

The DTI (now the Department for Business Enterprise & Regulatory Reform) published its response to the consultation in July 2007.

The government will take advantage of the option to raise the thresholds defining small and medium-sized companies and groups in line with the maximum limit offered by the Directive.

The thresholds used to determine eligibility for exemption from audit will also be revised in line with the small company thresholds. Hence BERR plan to raise the audit exemption turnover threshold to £6.5 million and balance sheet total to £3.26 million. 

In its consultation paper, the DTI (BERR) says that 6,100 small companies would become eligible to take advantage of audit exemption should the limits be raised.

BERR plan to raise the thresholds through Part 2 of the draft Companies Act 2006 (Accounts and Reports) (Amendment) Regulations 2008 which are on the BERR website. BERR expects that the regulations will take effect for financial years starting on or after 6 April 2008.

 

Simplifying the business environment for companies

Communication from the Commission of the European Communities

The commission has put forward a series of proposals designed to simplify the business environment for EU companies in the areas of company law, accounting and auditing. 

The key measures under consideration in the consultation paper are:

• Repealing company law Directives that deal mainly with domestic situations (e.g. domestic mergers of companies, domestic divisions, capital of public limited companies and private single-member limited liability companies) or removing certain information obligations in the company law Directives
• Simplifying disclosure requirements for companies and for branches
• Further reducing reporting and auditing requirements for small and medium-sized entities (SMEs).

The specific proposals for reducing reporting and auditing requirements for SMEs are summarised below and some have implications for audit exemption. Further information on the other proposals is set out in the consultation paper.

 

The introduction of a category of micro entity

The commission is considering introducing a category of micro entity into the Fourth Directive. It is consulting on the following ‘tentative’ definition for micro entities:

• Less than 10 employees
• A balance sheet total below 500,000 EUR, and
• A turnover of below 1,000,000 EUR.

Member states would then be allowed to exclude micro entities from the accounting directives as well as to exempt micro entities from the requirements in the directives for a statutory audit. 

Member states can then allow micro entities to use some form of simpler accounting framework at a national level.

 

Thresholds for SMEs

Article 12 of the Fourth Directive requires that a company that was previously small must apply accounting and auditing requirements of a medium-sized company if it trespasses the threshold for two consecutive years. 

The commission believes that this two year period does not adapt well to actual economic cycles of SMEs. It suggests that it often takes more than two years for a small entity to consolidate growth of its business and that the chances that a successful company permanently exceeding the thresholds are much higher after 5 years. 

It also highlights that should a company cross the thresholds and for any reason (eg economic difficulties) fall below the thresholds again, the directive requires the company (which is now small again) to apply for two years the provisions of a medium-sized company.

It believes that greater flexibility would be achieved if there was a five year period for companies exceeding the thresholds and a one year period for those ceasing to exceed the thresholds.

The consultation paper highlights that the SME thresholds were recently increased by 20% in the directive, giving member states the option to increase the thresholds and allowing more entities to benefit from further simplification. The DTI (now BERR) has also recently consulted on this (see above).

The consultation paper also recommends that the procedure for changing the thresholds should be simplified. At the moment only the council can amend the thresholds. In the future it is suggested that any amendment to the thresholds could be left to the commission.

 

Relief from publication requirements for small entities

The commission suggests that the publication requirements for small companies should be abolished.

 

Extension of exemptions for certain medium-sized companies

The commission believes that there should be fewer requirements for companies that do not have a wide range of external users of their accounts. 

It proposes to allow medium-sized companies that meet the following criteria to follow the regime for small companies:

• Companies where the managers are the owners
• Unlimited liability companies.

 

Simplification measures for all companies

Article 57 of the Fourth Directive gives member states the option to exempt certain subsidiaries of groups from the requirement for audited accounts. 

The commission says that full use of Article 57 should be encouraged, in particular where the subsidiaries are small or medium-sized. The exemption would be mandatory for small companies and a further option offered to the member states to exempt medium-sized companies in this situation from statutory audit should be examined.

Further measures are suggested regarding the requirements for consolidated accounts and the commission is also suggesting changes to accounting for deferred taxes and a reduction in disclosure requirements regarding formation expenses and the breakdown of net turnover into categories of activity and geographical markets.

 

ICAEW response

The ICAEW has submitted a response to the consultation.

We will keep you updated on any further developments.