International Accountant 123 by Association of International Accountants

INTERNATIONAL

ACCOUNTANT MAY/JUNE 2022 ISSUE 123

The e-Commerce Package: can it be improved? Mitigate your sanctions risk and apply due diligence The accounting treatment of investment and owner-occupied property The latest OECD transfer pricing guidelines

CONTENTS

In this issue Contributors 2 Meet the team

News and views

Significant rise in international money laundering compliance

AIA news

treatment for both fair value gains and losses on investment property and revaluation gains and losses on owneroccupied property under FRS 102.

14 5

AIA held its 90th Annual General Meeting on 20 May 2022

IR35 reform

8 Business finance

Students 8 Passing your EPP exam The Ethics and Professional Practice exam requires you to explain how you would respond to real world dilemmas in the workplace. It can be a daunting subject for many – even experienced accountants! This short article should hopefully give you some hints and tips to help you put your best foot forward in the upcoming exam.

Breaking new ground A slew of FinTechs – from multi-currency payment platforms to accounting software – have reshaped our perception of modern business finance. Tilly Michell (Airwallex) considers how challenger banks and FinTech are changing the business finance landscape.

11 Transfer pricing

Property 11 Accounting for property valuations Confusion often surrounds the accounting treatment of investment property and owner-occupied property. Steve Collings (Leavitt Walmsley Associates) examines the accounting Editorial Information International Accountant, the bimonthly publication of the Association of International Accountants (AIA). International Accountant Staithes 3, The Watermark, Metro Riverside, Newcastle Upon Tyne NE11 9SN United Kingdom +44 (0)191 493 0277 www.aiaworldwide.com

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The latest OECD transfer pricing guidelines Ava Colocho and Srinidhi Tuppal (CBIZ) examine the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations 2022. Global business in general and specifically those that are involved in highly integrated activities and intra-group financial transactions should assess their transfer pricing policies.

Editor Angela Partington E: angela.partington@lexisnexis.co.uk Advertising For advertising opportunities advertisingsales@lexisnexis.co.uk Subscribe to International Accountant subscriptions@aiaworldwide.com

The impact of IR35 reform The IR35 reforms were met with concern from many industries that rely on skilled contractors when they were introduced in 2021. One year on, it is clear that a continued lack of understanding around the new rules is stifling access to specialised talent. Matt Tyler (Kingsbridge) discusses new research into the impact of IR35 reforms since their introduction and what this means for the accountancy sector.

Sanctions 22 Managing sanctions risk Russia’s invasion of Ukraine in February 2022 has brought a new focus on financial sanctions and due diligence for accountants operating in the United Kingdom and Republic of Ireland. David Potts (AIA) considers how to apply appropriate due diligence and mitigate your sanctions risk.

EU e-commerce package

Dates for your diary

How successful is e-commerce? The European Commission is likely to hail the introduction of the EU e-Commerce Package as a success in reducing the cost of compliance for cross border trade. However, as ongoing consultations are concluded, Alex Smith (Sovos) asks whether there is room for improvement.

Upcoming events

Technical 30 Global updates

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Contributors to this issue STEVE COLLINGS

Times of unprecedented financial uncertainty

Angela Partington Editor, International Accountant

torrent of unexpected events have rained down upon us in recent months. Just as we start to throw off the impact of Covid, the cost of living crisis is now dominating the mainstream media. In the UK, inflation is currently expected to peak at 10.2% in the fourth quarter of 2022, according to the Bank of England. The energy price cap increased by 54% in April, and a further increase of 40% is expected in October, meaning it could reach eye watering levels of £2,800. Following emergency measures announced on 26 May, an energy profits levy (markedly not a ‘windfall tax’) placed a 25% surcharge on energy firms to target ‘the extraordinary profits of the oil and gas sector’. With a sunset clause of the end of 2025, this levy is anticipated to bring in around £5 billion over the next year alone. However, a new 80% investment allowance will mean that businesses will overall get a 91p tax saving for every £1 they invest, making it almost impossible to be certain how much will revenue be generated. Whatever it brings in will be put towards a £15 billion emergency financial package announced by Rishi Sunak, consisting of both universal support measures and unprecedented increases in welfare payments this year. Much of these global financial uncertainties have been driven by

Russia’s invasion of Ukraine in February 2022. The subsequent response of countries and international organisations around the world has brought a new focus on financial sanctions and due diligence for accountants operating in the United Kingdom and Republic of Ireland. In the UK, the Office of Financial Sanctions Implementation may impose monetary penalties if a person has breached a prohibition or failed to comply with an obligation imposed under financial sanctions legislation. In usual cases, this penalty could be £1,000,000, alongside sentencing for criminal prosecutions of up to seven years. A robust sanctions compliance programme is vital, including national and international screening and monitoring. Accountants and auditors need to apply all their professional skills to make these measures effective, and help companies cope with the disruption they will bring. David Potts considers how to apply appropriate due diligence and mitigate your sanctions risk (see page 22). In other features, Alex Smith asks whether there is room for improvement in the EU e-commerce package (see page 26); Matt Tyler discusses new research into the impact of IR35 reforms since their introduction and what this means for the accountancy sector (see page 20); and Tilly Michell considers how challenger banks and FinTech are changing the business finance landscape (see page 14).

Steve Collings, FMAAT FCCA is the audit and technical partner at Leavitt Walmsley Associates Ltd. In 2010, he became a Fellow of the ACCA. AVA COLOCHO

Ava Colocho is a Transfer Pricing Senior Manager with CBIZ based in Irvine, California, and specialises in a wide array of intercompany transactions. TILLY MICHELL

Tilly Michell is a content specialist at Airwallex, creating content that supports company growth, and specialises in tech and business finance. ALEX SMITH

Alex Smith is a member of the Consulting Services team at Sovos, specialising in providing cross-border advice to a wide range of businesses. DAVID POTTS

David Potts is director of operations at the AIA, and is responsible for maintaining AIA’s international recognition. SRINIDHI TUPPAL

Srinidhi is a Transfer Pricing Manager with CBIZ’s National Transfer Pricing Practice, advising clients on transfer pricing and tax valuation issues . MATT TYLER

Matt Tyler is Kingsbridge’s IR35 Consultancy Manager and has an in depth understanding of IR35 and the case law surrounding the legislation. ISSUE 123 | AIAWORLDWIDE.COM

News MONEY LAUNDERING

RUSSIA

The Financial Action Task Force (FATF) has published a ‘Report on the State of Effectiveness and Compliance with the FATF Standards’. This is the first public report of its kind and outlines results from the 4th Round of Mutual Evaluations, which assessed the strengths and weaknesses of countries’ frameworks to combat money laundering and the financing of terrorism and proliferation. Overall, the report finds that countries have made huge progress in improving technical compliance by establishing and enacting a broad range of laws and regulations to better tackle money laundering, terrorist and proliferation financing. This has created

a firm legislative basis for national authorities to ‘follow the money’ that fuels crime and terrorism. In terms of laws and regulations, 76% of countries have now satisfactorily implemented the FATF’s 40 Recommendations. This is a significant improvement in technical compliance, which stood at just 36% in 2012, demonstrating the positive impact of the FATF Mutual Evaluation and Follow-up processes. However, many countries still face substantial challenges in taking effective action commensurate to the risks they face. This includes difficulties in investigating and prosecuting high-profile cross-border cases and preventing anonymous shell companies and trusts being used for illicit purposes. FATF is an independent intergovernmental body that develops and promotes policies to protect the global financial system against money laundering, terrorist financing and the financing of proliferation of weapons of mass destruction. The FATF Recommendations are recognised as the global anti-money laundering and counter-terrorist financing standard.

Ban on services exports to Russia © Gettyimages/iStockphoto

Significant rise in international money laundering compliance

Foreign Secretary Liz Truss has announced a ban on services exports to Russia, cutting them off from doing business with UK sectors that are critical to the Russian economy. The new measures will mean Russia’s businesses can no longer benefit from the UK’s world class accountancy, management consultancy and PR services, which account for 10% of Russian imports in these sectors. Russia is heavily reliant on Western services companies for the production and export of manufactured goods, and these measures will further ratchet up economic pressure on Putin’s siege economy. Foreign Secretary Liz Truss said: ‘Doing business with Putin’s regime is morally bankrupt and helps fund a war machine that is causing untold suffering across Ukraine. Cutting Russia’s access to British services will put more pressure on the Kremlin and ultimately help ensure Putin fails in Ukraine.’

OFFSHORE ASSETS

Huge spike in UK taxpayers admitting unpaid tax on offshore income The number of wealthy UK taxpayers admitting to unpaid tax on offshore assets has jumped 35% from 3,301 to 4,443 in the last year, says multinational law firm Pinsent Masons. These figures represent the number of declarations made to the Worldwide Disclosure Facility, a system by which taxpayers owing tax to HMRC on offshore income can come forward and confess. This allows taxpayers to potentially receive reduced penalties. Provided that an accurate and complete disclosure is made, the risk of criminal AIAWORLDWIDE.COM | ISSUE 123

prosecution is also significantly reduced. HMRC reserves criminal investigations for where it needs to send a strong deterrent message or where the taxpayer’s conduct is such that only a criminal sanction is appropriate. Pinsent Masons says the increase in individuals admitting to unpaid tax on offshore assets is likely to be due to a HMRC campaign warning taxpayers that it has received information from tax authorities abroad. HMRC has sent out letters in the last 12 months asking taxpayers to sign a declaration asserting

they do not owe any tax from offshore sources. HMRC now receives information on taxpayers’ offshore assets from tax authorities abroad through the Common Reporting Standard. Information shared with HMRC includes taxpayers’ names, addresses and the amount received in offshore income. Over 100 countries and territories participate in the Common Reporting Standard, including historically popular tax havens such as Switzerland, Bermuda, the British Virgin Islands and the Cayman Islands.

News IRELAND

SANCTIONS

Launch of a single integrated financial platform © Gettyimages/iStockphoto

Deloitte fined £1.45 million over audit failures

The Financial Reporting Council (FRC) has issued a financial sanction of £2 million against Deloitte LLP in relation to the statutory audit of the financial statements of Mitie Group for the financial year ended 31 March 2016. The fine was reduced to £1.45 million due to early admission and payment by Deloitte. John Charlton, audit engagement partner at Deloitte, was also fined £65,000. The sanctions related to the audit breaches involving the impairment testing of goodwill in Mitie’s healthcare division. Deloitte has admitted that there were deficiencies in its audit work of goodwill in Mitie’s 2016 financial statements. However, FRC did state that there is no suggestion that the breaches were intentional, dishonest or reckless. Claudia Mortimore, deputy executive counsel at FRC, said: ‘It is vital that audit work in relation to the carrying amount of goodwill is conducted properly and the disclosures are sufficient to enable investors to understand the position and have confidence in the numbers included in the financial statements.’

Ireland’s National Shared Services Office (NSSO) has launched its Finance Shared Services on a new, single integrated financial platform. This launch represents the large-scale transformation of finance and accounting processes used by central government and offices. Finance Shared Services will introduce the standardisation of accounting practices and new automation technology to produce standard accounts for central government and offices, delivering improved financial management information to ensure greater efficiency and effectiveness, and enhanced security and controls. This new service offering by the NSSO will provide support for critical finance and accounting administration, such as the processing of suppliers’ invoice payments and receipting. It will manage the procurement of all goods and services in a new standardised way. The management of cash, the production of standard accounts and reporting to support the annual appropriation accounts and audit will also be provided by the NSSO. The new central finance accounting system will replace 31 different legacy finance systems over time, eliminating the need to maintain, support and upgrade multiple different systems, reducing cost and improving security. This single platform will consolidate expenditure through the Exchequer. It will support eInvoicing and eProcurement and the management of supplier data.

The implementation will enable the financial reporting reform required to support the move to international accounting standards. In addition, the simplification and standardisation of accounting processes across central government will strengthen compliance with EU and international reporting and transparency requirements. Commenting on the launch of this new financial service, Minister McGrath said: ‘The modernisation of accounting standards and comprehensive reporting of finance has been a key objective for this government. Coming from the accountancy profession, I know the extensive value that having rich centralised data available from a single central financial system can deliver, and the value that the NSSO is bringing. The ability to respond quickly to new and emerging fiscal and financial requirements today is critical for any government. This project will improve financial reporting, promote good governance and transparency and deliver value for money.’ Finance Shared Services went live with an initial eight public service bodies, including the Department of Finance, the Office of the Comptroller and Auditor General and the Department of Public Expenditure and Reform. Over 40 additional client organisations will be on-boarded on a phased basis over the next three to four years.

in monetary policy was required to bring inflation back to the 2% target sustainably in the medium term. But, conditioned on the market path for Bank Rate, the endpoint of the forecast was characterised by a large margin of excess supply and CPI inflation well below target, although the mediumterm outlook was particularly uncertain. Based on its updated assessment of the economic outlook, most members of

the Committee judge that some degree of further tightening in monetary policy may still be appropriate in the coming months. There are risks on both sides of that judgement and a range of views among these members on the balance of risks. The MPC will continue to review developments in the light of incoming data and their implications for mediumterm inflation.

INTEREST RATES

Highest UK interest rates since 2009 The Monetary Policy Committee (MPC) at the Bank of England has voted by a majority of 6-3 to increase Bank Rate by 0.25 percentage points, to 1%. Those members in the minority preferred to increase Bank Rate by 0.5 percentage points, to 1.25%. The May Report projections implied that some tightening

ISSUE 123 | AIAWORLDWIDE.COM

NEWS

AIA

NEWS THEMATIC REVIEW

Trust and Company Service Providers Thematic Review published New guidance for members

We expect firms providing higher risk services to recognise the risks, have a documented firm-wide risk assessment, strong verification procedures and robust procedures for monitoring ongoing relationships with clients. This new guidance has been specially formulated for AIA Members in Practice offering trust or company service work and is influenced by the outcome of the 2022 Thematic Review. Access new guidance: www.aiaworldwide.com/my-aia/aml/ tcsp-risk/ AIAWORLDWIDE.COM | ISSUE 123

The United Kingdom National Risk Assessment (2020) highlighted trust and company service providers (TCSPs) as being at a higher risk of exploitation by criminals to facilitate money laundering. 51% of AIA’s total population of supervised firms currently offer trust and company services to clients. In Spring 2022, we undertook the TCSP Thematic Review for Small and Medium Sized Practices to assess the nature of these services and to explore the risk that they may be used to facilitate money laundering. The report sets out a selection of the qualitative and quantitative data and trends we observed from the responses to questionnaires we sent to firms offering TCSP services. The findings show that all the firms we surveyed consider and assess the risk of providing TCSP services as lower when provided to existing clients with a clear business rationale expressed for the service. The thematic review highlighted examples of good practice and recommended improvements over several key areas: ● firm-wide procedures; ● customer due diligence; ● risk factors; ● enhanced due diligence; ● suspicious activity reporting; and ● training.

AIA’s monitoring and supervision strategy. AIA Director of Operations and MLRO David Potts said: ‘We monitor our supervised population and take measures where necessary to ensure compliance. Understanding the underlying risk factors within our supervised population means we can better educate our firms to identify, mitigate and avoid these risks and protect themselves from unwittingly aiding economic crime. The new guidance released by AIA today is another key tool for our supervised firms.’

The report also noted how the results of the thematic review have impacted

See www.aiaworldwide.com/insights/ aml/tcsp to read the report.

NEWS ANNUAL GENERAL MEETING

AIA Annual General Meeting 2022

Philip Ford, Shahram Moallemi and Linda Richards

AIA held its 90th Annual General Meeting on 20 May 2022. The AGM was attended by AIA President Shahram Moallemi and AIA Vice Presidents Phillip Ford and Linda Richards. All the resolutions of the AGM were passed, and Linda Richards, Twaraq Oozeerally, Hugh McCormack, and Andrew Lamb were re-elected to Council. The Council represent members of the Association and are responsible for setting AIA’s strategic direction and priorities. AIA President Shahram Moallemi said, ‘The Covid-19 pandemic has been a catalyst for change. We have increased the pace of delivering our educational programme, for both qualifications and continuing professional development, allowing greater flexibility for both members and students and increased capacity in our global markets. ‘Despite the challenges we have faced this year, we have maintained the highest standards in professional education and membership, developed as an organisation and delivered many of the core strategic objectives we had set ourselves. ‘Our strategy remains focused on delivering at speed to ensure the continued growth of the AIA and fully committed to our core values of collaboration, innovation, excellence, integrity and respect.’ Further details including the President’s full statement, available within the Annual Report and Accounts, and voting results can be found here: www.aiaworldwide.com/ my-aia/agm-2022

ECONOMIC CRIME

A new UK Bill aims to drive out dirty money The social and economic cost to the United Kingdom from economic crime is estimated at £8.4 billion per year. To help tackle this, the UK government recently brought forward the Economic Crime (Transparency and Enforcement) Act that included provision for a new Register of Overseas Entities owning or buying property in the UK. A new Economic Crime and Corporate Transparency Bill has now been announced which aims to drive out dirty money from the UK and crack down on kleptocrats, criminals and terrorists who abuse its open economy. Between 2015/16 and 2020/21 just over £1.3 billion was recovered from criminals using Proceeds of Crime Act powers. The new reforms will broaden the Registrar of Companies’ powers so that they become a more active gatekeeper over company creation and custodian of more reliable data, including new powers

to check, remove or decline information submitted to, or already on, the Company Register. Reforms will also include the introduction of identity verification for people who manage, own and control companies and other UK registered entities. This aims to improve the accuracy of Companies House data, support business decisions and law enforcement investigations. Linked to this are new investigation and enforcement powers for Companies House and the introduction of better cross-checking of data with other public and private sector bodies, alongside enabling businesses in the financial sector to share information more effectively to prevent and detect economic crime. AIA Director of Operations and MLRO David Potts said: ‘AIA strongly supports the introduction of measures which seek to tackle economic crime. We will continue to work with the UK government and agencies such as Companies House to ensure these reforms are effective.’

AUDIT REFORM

Audit Reform Although not present within the text of the Queen’s Speech itself, the UK government has published outline proposals to publish a draft Audit Reform Bill, which were included within the supporting papers issued alongside the speech. The main elements include: ● Establish a new statutory regulator, the Audit, Reporting and Governance Authority, that will protect and promote the interests of investors, other users of corporate reporting and the wider public interest. ● Provide new measures to open up the market, including a new approach of managed shared audit in which challenger firms undertake a share of the work on large-scale audits. ● Bring the largest private companies in scope of regulation in the definition of ‘public interest entities’, recognising the public interest in companies of this size. ● Give the new regulator effective powers to enforce directors’ financial

reporting duties, to supervise corporate reporting, and to oversee and regulate the accountancy and actuarial professions. ● Reform the regulation of insolvency practitioners to give greater confidence to creditors. Strengthen corporate governance of firms in or approaching insolvency so that ‘asset stripping’ can be more effectively tackled. AIA Director of Operations David Potts said: ‘AIA has worked with the UK government, the Financial Reporting Council, and other stakeholders, to ensure the proposals are robust, appropriate and achievable. We are encouraged that there has been some progress towards implementing changes recommended in the 2018 Kingman report. However, we would argue that this progress is long overdue, and the government should ensure it remains committed to implementing the proposed reforms quickly in order to remove uncertainty around their detail and timing.’ ISSUE 123 | AIAWORLDWIDE.COM

STUDENTS

Passing your EPP exam The Ethics and Professional Practice exam requires you to explain how you would respond to real world dilemmas in the workplace.

thics and Professional Practice can be a daunting subject for many – even experienced accountants! This short article should hopefully give you some hints and tips to help you put your best foot forward in the upcoming exam.

Practice questions

You wouldn’t run a marathon without training – and you should also think of the upcoming exam as a test of fitness that you need to train for. Your BPP book contains a large number of practice questions that you should be trying in the run-up to the exam. In particular, remember to practise the following skills: ● Read the scenario carefully, underlining or highlighting key points or anything else you think is important. ● Read the question carefully – it is particularly important that you answer what the question is asking you to do, not the question you would like it to be asking. ● Plan an answer to fully address these points – it’s a good idea to take a new paragraph for every point you’re making. Once you’ve answered your question, review your answer carefully against the solution in the book. It’s very easy to look at the solution and think, ‘Yeah, I would have got that’ – but if you didn’t put it down on the paper, you wouldn’t have got the marks in the exam. Spend some time thinking about how your answer compares to the model one: does your answer contain all the necessary information, and are all the key points covered in detail? It’s a good idea to practise the question again, changing it based on what you know now.

Write enough

In many of the recent exam attempts, we have seen candidates answer with very brief and underdeveloped answers. Quite simply, a complex and detailed ethical situation can’t be answered in a few brief sentences. It is therefore important that you write enough to allow the marker to give you marks. No matter how much you’ve thought about a scenario or think you understand it, the marker can’t award any marks unless you put those thoughts down on paper. Let’s take this example from the December 2021 sitting, question 1 B (ii): Identify and critically evaluate two threats to effective corporate governance within the above scenario and suggest what safeguards could be adopted to reduce these threats. To fully develop an answer to the above we would have to do the following: 1. Write down what each of the two threats were. 2. Critically evaluate them – in other words clearly state why they are a threat to corporate governance. ISSUE 123 | AIAWORLDWIDE.COM

STUDENTS

● Some candidates giving very generic answers with regards to suggested safeguards, and merely implying that the action was bad. For example: ‘The CEO should stop acting in such a way.’ Again, an answer like this gives the reader no understanding of what could be done to deal with the situation in practical terms. A much better answer would follow the steps laid out above: 1. What is a threat to corporate governance? The CEO appears to have a very close relationship with the chairman. 2. Why is this a threat? The chairman is supposed to be independent and represent the shareholders’ interests within a company, which means challenging the executive directors on their decision making. If the chairman is very close to the CEO and mainly following their guidance, then they are clearly not carrying out this role correctly. 3. What could be done? Safeguards could be put in place in recruitment to ensure that the chairman and other non-executive directors are truly independent upon appointment and do not have a vested interest within the company or a close relationship with any of the existing directors.

3. State what the company could do to prevent these threats. In the exam sitting, we saw some of the following issues: ● Some candidates simply writing down two threats and moving on, without attempting to deal with the other parts of the question. If you don’t answer all the question, unfortunately we can’t give you all the marks. ● Some candidates repeating the threat as the explanation; for example: ‘The position of the CEO on the board is a threat as the CEO should not have that position on the board.’ An answer like this gives the reader no explanation or understanding as to what the issue was with the CEO or why it poses a threat to the company. AIAWORLDWIDE.COM | ISSUE 123

Situational ethics

A good way to approach any exam is to think what the examiner is looking for or trying to test. In the case of Ethics and Professional Practice, the aim is to test how you would respond to various ethical and professional dilemmas that you would face in the workplace. As a professional accountant, it is likely that you will have to make a number of decisions regarding ethical and professional choices throughout your career. AIA naturally considers it to be of vital importance that you are properly equipped to make these decisions. Every candidate has a different background, different experiences and a different role, and it is impossible to predict what roles each person will carry out in their professional career. If we had a crystal ball and could predict the future, we would write a different exam for every student, preparing each of them for the exact scenarios they would be set to face in their professional life!

We have seen candidates answer with very brief and underdeveloped answers. A complex and detailed ethical situation can’t be answered in a few sentences.

As you can see here, we are not expecting you to write a huge amount, but enough to fully develop and answer the question.

STUDENTS a responsibility both to our clients and to our professional standards.

In many cases, there isn’t a single right answer. We’re assessing your process of reaching a particular decision or response. Unfortunately, this is clearly impossible (we don’t have crystal balls yet!) so in the exam we make use of a technique called situational ethics. This tests your ethical knowledge and abilities by assessing how you would react in a certain situation. The exam, therefore, has a number of short case studies or scenarios in which you are presented with a situation that an accountant may face in real life. You may notice from the model solution that in many cases there isn’t a single right answer to some of these scenarios – and that is correct. We’re not assessing your ability to get to a specific correct answer (as we might, for example, in a finance exam), but more your process of reaching a particular decision or response.

Answering situational ethics questions

Getting a good exam mark therefore relies on approaching the questions correctly. The first step in this is recognising that each scenario is different and will place you in a different role within a different organisation. This means that trying to learn a set formula won’t work: it’s important that you judge each scenario on its individual situations and characters. In particular, it’s vital to consider the fact that the role in the scenario may be very different from your current employment. In some scenarios, you will be taking on the role of a specific ‘character’, while in others you will be an observer looking at the role that other characters are carrying out. In either case, it is essential that you consider: ● the position of persons within an organisation; ● their responsibilities; and ● what pressures are on them. Let’s consider the following example:

Example: Swithin Audit Swithin Audit LLP is medium-sized audit firm based in Cardiff, Wales. One of the audit firm’s main clients is Broderick Plc., a large manufacturer of computer components. Just from this short paragraph, we can tell a lot about this situation. As an audit firm, we have

The current audit has been difficult due to staff shortages. During recent audit work, Stephen Clark – a newly qualified accountant – has been asked to supervise part of the audit. Due to the staff shortages, however, he has ended up doing much of the audit fieldwork himself. He has prepared some payroll testing sheets and asked audit trainee Sioned Jones to sign these off as her own work. Stephen will then sign them off as reviewed, saving everyone time. How we approach the situation, however, can be very different depending on our role within the firm. If we had a junior role within the firm, our responsibilities would largely be to ensure that our own work would be of good quality and meet the expectations of our professional standards. We would not be expected to be involved in the setting of the culture of the firm. It would also be expected that there could be significant pressures on us related to our junior role within the organisation. A reasonable answer in this case could involve a description of how we would report this to a more senior member of staff. If we were a partner in the firm, however, reporting this would not be a very good answer. In a more senior role, it would be expected that we would take a lead in setting the culture and the organisation of the firm. If we were to suggest reporting it, who would we report it to? We are one of the most senior people in the firm – there is nobody above us that we could report to. A good answer in this situation would consider how we could make it clear to Stephen that his behaviour was inappropriate and send a clear message to other employees of the firm regarding expected conduct. How you approach this question can therefore be very different depending on what your role in the organisation is.

Summary

To sum up, the best way to approach an Ethics and Professional Practice case study question is as follows: 1. Read the case study carefully. Try to understand the nature of both the organisation in the case study and your role within it. Underline or highlight any parts you feel are particularly important. 2. Read the questions carefully, making sure you understand what is being asked – not what you would like to be asked! 3. Plan your answer to fully deal with all elements of the question. Make sure you write enough to clearly deal with all of these elements. ISSUE 123 | AIAWORLDWIDE.COM

PROPERTY

Accounting for property valuations Steve Collings examines the accounting treatment for both fair value gains and losses on investment property and revaluation gains and losses on owner-occupied property under FRS 102. Steve Collings Partner, Leavitt Walmsley Associates Ltd

Investment property

FRS 102 defines ‘investment property’ as: ‘Property (land or a building, or part of a building, or both) held by the owner or by the lessee under a finance lease to earn rentals or for capital appreciation or both, rather than for: a. use in the production or supply of goods or services or for administrative purposes; or b. sale in the ordinary course of business.’ Therefore, where a property generates a rental income stream for the business, the property will meet the definition of investment property and will be accounted for under FRS 102 Section 16. Land that is being held for capital appreciation purposes will also be classified as investment property. AIAWORLDWIDE.COM | ISSUE 123

Initial recognition

On initial recognition, a property that meets the definition of investment property is recognised at cost. Cost may comprise several elements and includes the initial purchase price plus all directly attributable costs, such as legal fees and property transfer taxes. An entity may incur certain costs which relate to the property’s subsequent use but are not directly attributable costs. Typical examples include marketing costs to attract new tenants and operating costs which are incurred prior to the property reaching its target occupancy rate. These sorts of costs are not recognised within the cost of the investment property on initial recognition – they are recognised in profit or loss as incurred.

Subsequent measurement

FRS 102 Section 16 applies the Fair Value Accounting Rules in company law and all investment property (with the exception of intra-group investment property, which can be measured under the cost model – see FRS 102 para 16.4A) must be remeasured to fair

RS 102 ‘The Financial Reporting Standard applicable in the UK and Republic of Ireland’ deals with investment property in Section 16 ‘Investment property’ and with property, plant and equipment in Section 17 ‘Property, plant and equipment’. Micro-entities choosing to prepare their financial statements under FRS 105 ‘The Financial Reporting Standard applicable to the micro-entities regime’ apply Section 12 ‘Property, plant and equipment and investment property’. This article covers the accounting treatment for both fair value gains and losses on investment property, and revaluation gains and losses on owner-occupied property under FRS 102; and examines some of the more notable accounting issues that preparers often face.

PROPERTY

Example 1: Change in fair value of investment property Sunnie Ltd has an investment property on its balance sheet which is measured under FRS 102 Section 16. At the year end 31 December 2021, the property had increased in value from the prior year by £35,000. The company has been making annual profits amounting to approximately £500,000 per annum for the last five years and the company’s forecasts indicate that this level of profit will continue for the foreseeable future. The fair value gain will be recorded in Sunnie’s profit and loss account as follows: £ Dr Investment property

35,000

Cr Fair value gain (profit or loss)

35,000

Being fair value gain on investment property as at 31 December 2021

Example 2: Deferred tax on fair value gain We continue to follow Sunnie Ltd from Example 1. The fair value gain was £35,000 and the company expects to make profits around £500,000. It will therefore be taxed at 25% from 1 April 2023, even though profits will be taxed at 19% in the tax computation for the year ended 31 December 2021. The financial year ended on 31 December 2021 and so deferred tax is calculated at a rate of 25% because this is the rate that is expected to apply to the reversal of the timing difference. Consequently, a deferred tax liability on the fair value gain of £8,750 (£35,000 x 25%) arises and will be recorded as: £ Dr Deferred tax expense (P&L)

8,750

Cr Deferred tax provision

8,750

Being deferred tax on investment property fair value gain

value at each reporting date. Changes in fair value are taken to profit or loss (not a revaluation reserve).

Deferred tax

FRS 102 para 29.16 states: ‘Deferred tax related to investment property that is measured at fair value in accordance with Section 16 Investment Property shall be measured using the tax rates and allowances that apply to the sale of the asset, except for investment property that has a limited useful life and is held within a business model whose objective is to consume substantially all of the economic benefits embodied in the property over time.’ Investment property is a non-monetary asset that is subject to revaluation and hence falls under the scope of deferred tax in FRS 102 Section 29 ‘Income tax’. In the spring 2021 Budget, the chancellor announced that the rate of corporation tax in the UK

would increase from 19% to 25% on 1 April 2023 for companies making taxable profits in excess of £250,000. However, the rate of corporation tax will remain at 19% for companies making taxable profits of £50,000 or less. There is an added complexity at the present time for preparers of financial statements under UK GAAP because of this increase. FRS 102 Section 29 requires deferred tax to be calculated using the tax rates and laws that have been enacted or substantively enacted by the reporting date and which are expected to apply to the reversal of the timing difference. The 25% tax rate was codified in Finance (No. 2) Bill, which became substantively enacted on 24 May 2021. Consequently, for balance sheet dates ending on or after 24 May 2021, deferred tax in respect of timing differences which are expected to reverse on or after 1 April 2023 will need to be remeasured at: ● 19% where taxable profits are expected be less than £50,000 ● 25% where taxable profits are expected to exceed £250,000; or ● the marginal rate if taxable profits are expected to fall between £50,000 and £250,000. Gains on fair value fluctuations of investment property are not distributable to the shareholders. This is because profits must be ‘realised’ to be classed as distributable which, in essence, means that they have been converted into cash or can be readily converted into known amounts of cash. There is no guarantee that an investment property can be sold instantly and so any net gains recorded in profit or loss will be classed as non-distributable. Hence, in Examples 1 and 2 of Sunnie Ltd above, the net gain of £26,250 (£35,000 - £8,750) is non-distributable. It may be advisable to keep a record of the value of reserves which are not distributable to the shareholders either within the accounting records themselves or by ringfencing them in a ‘non‑distributable reserve’ within equity. There is nothing in company law that requires non‑distributable profits to be ringfenced in a separate component of equity, but it is an efficient means of keeping track of profits which cannot be distributed to the shareholders.

Revaluations of owner-occupied property

Owner-occupied property (e.g. a freehold building) is measured under the provisions of FRS 102 Section 17 ‘Property, plant and equipment’ (or FRS 105 Section 12 ‘Property, plant and equipment and investment property’).

Initial recognition

On initial recognition, the property is measured at cost. Cost can include several components including purchase price and directly attributable costs. FRS 102 para 17.10 provides a list of the elements of ISSUE 123 | AIAWORLDWIDE.COM

PROPERTY cost which include legal fees, irrecoverable purchase taxes and costs of site preparation. After initial recognition at cost, there are two possible subsequent measurement bases available under FRS 102: ● cost model; and ● revaluation model.

Subsequent measurement: cost model

Under the cost model, an entity measures an item of property, plant and equipment (PPE) at cost less depreciation less accumulated impairment losses.

Subsequent measurement: revaluation model

FRS 102 para 17.15B states that under the revaluation model, an item of PPE whose fair value can be measured reliably is carried at a revaluation amount, being its fair value at the date of revaluation, less any subsequent accumulated depreciation and subsequent accumulated impairment losses. It must be emphasised that all assets within the same asset class must be subject to revaluation. FRS 102 defines ‘class of assets’ as: ‘A grouping of assets of a similar nature and use in an entity’s operations.’

For example, if an entity has four properties, then all four properties must be subject to the revaluation model; the entity cannot just ‘cherry pick’ those assets which have appreciated in value and ignore the others. The revaluation exercise must be carried out with sufficient regularity to ensure that the carrying amount of the revalued asset at the reporting date does not differ materially from that which would be determined using fair value at the reporting date. This will require professional judgement as FRS 102 does not specify timescales as to how frequently the revaluation exercise must be undertaken. The revaluation model in FRS 102 Section 17 applies the Alternative Accounting Rules in company law. This means that any gains on revaluation are taken to a revaluation reserve in the equity section of the entity’s balance sheet and are reported as other comprehensive income. The Alternative Accounting Rules also require disclosure of the equivalent historical cost figures had the revaluation not taken place.

Example 3: Revaluation gains and losses Dexter Co has an asset with a carrying value of £140,000. On 31 July 2020, the asset was revalued upwards to £160,000 (note that deferred tax implications are ignored for the purposes of this example). The entries in the books to reflect this revaluation gain are: £ Dr PPE revaluation

20,000

Cr Revaluation reserve

20,000

Being revaluation gain on asset at 31 July 2020 On 31 July 2021, the asset’s value had decreased to £130,000. The entries in the books to reflect this revaluation loss are: £ Dr Revaluation reserve Dr Profit and loss account

10,000

Cr PPE

30,000

Being revaluation loss as at 31 July 2021 If it is assumed that on 31 July 2022, the asset increases in value to £150,000, the revaluation gain is recorded as follows: £ Dr PPE

20,000

Cr Profit and loss account

10,000

Cr Revaluation reserve

10,000

Being revaluation gain as at 31 July 2022 In the 31 July 2022 financial statements, the previous revaluation loss of £10,000 has been reversed as the asset’s value has increased. Hence, rather than take the whole revaluation increase of £20,000 to the revaluation reserve, £10,000 is recognised in profit and loss to reverse the previous revaluation loss as at 31 July 2021. (due to part or all of the revaluation gain reversing a previous revaluation loss, or an excess loss being recorded in profit or loss), the associated deferred tax element will need to be split pro-rata between other comprehensive income and profit or loss.

Conclusion

Deferred tax

PPE measured under the revaluation model are non‑monetary assets subject to revaluation and fall within the scope of deferred tax. Deferred tax in respect of PPE will follow its underlying transaction in the financial statements. Hence, for revaluation gains, a deferred tax liability (or movement therein) will be taken to the revaluation reserve. A reduction in a deferred tax liability for a revaluation loss will also be taken to the revaluation reserve. Where any element of gain or loss passes through profit or loss AIAWORLDWIDE.COM | ISSUE 123

20,000

Author bio

Steve Collings is the audit and technical partner at Leavitt Walmsley Associates Ltd.

Confusion often surrounds the accounting treatment of investment property and owner-occupied property. It is important to keep in mind the relevant company law rules that are being applied to ensure the correct accounting treatment is applied. (Investment property is measured under the Fair Value Accounting Rules; owner-occupied revalued property is measured under the Alternative Accounting Rules). Also, keep in mind the requirement to bring deferred tax into account which poses its own difficulties at the present time due to marginal rates being brought back. ●

BUSINESS FINANCE

Breaking new ground

Tilly Michell considers how challenger banks and FinTech are changing the business finance landscape.

t’s been almost 15 years since the first online-only challenger banks burst onto the scene, promising to change the way we manage our money. Since then, a slew of FinTechs – from multi-currency payment platforms to accounting software – have reshaped our perception of modern business finance. With online banking and WealthTech services making it easier than ever to switch providers, savvy CFOs, entrepreneurs and sole traders are shopping around for a better deal. They are looking for improvements both in fees, and for broader benefits such as customer service, platform capabilities and ethical policies. This has resulted in an interesting shift across the industry. Traditional institutions are scrambling to up their game, buying up tech solutions and introducing their own environmental

policies in an effort to contend with their more agile competitors and offer a more client-focused experience. In this article, I’ll look at some of the most significant changes we’ve seen in recent years, and the implications for businesses and financial institutions going forward.

Ethical finance

Can a company call itself ethical if its bank invests heavily in fossil fuels? That’s a question you can expect to hear a lot over the coming years, especially as more businesses push to become B Corps. In a smart PR move, Starling Bank has positioned itself as an ethical choice for businesses and consumers. But whilst Starling’s policies extend to paying workers a living wage and not investing in arms or tobacco, their stance on the environment is murkier. Starling claims that ISSUE 123 | AIAWORLDWIDE.COM

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Tilly Michell Content Manager, Airwallex

BUSINESS FINANCE being online-only reduces its carbon footprint, but is that enough to convince modern businesses (and their customers) that the bank is truly sustainable? Triodos Bank takes things ten steps further by limiting its investments to organisations that focus on the environment, culture and people. Triodos is also committed to transparency, and lists every business it lends to on its website. In response to mounting pressure, high street banks have released their own sustainability statements, promising to ‘finance a greener future’. But discerning customers will note that the Big 4 consistently score near the bottom on ethical finance ratings because they invest trillions in fossil fuels. What challenger banks and FinTechs bring to the table when it comes to ethical finance is consumer choice. With no excuse for apathy, businesses that brand themselves as ethical must think carefully about which financial institutions they want to align themselves with. In turn, banks must consider how they can improve their standards beyond surface-level PR campaigns – particularly as the environmental crisis deepens and sustainable finance develops from a fringe topic to headline news.

Global expansion

According to a survey by Airwallex, 77% of UK businesses intend to expand their international presence this year. Global expansion used to be a costly venture, with banks charging high transaction fees and FX rates for cross-border transfers and payment acceptance. Businesses could reduce these fees by opening multiple foreign currency bank accounts, but this created a disjointed banking experience and racked up additional account management costs. Payment solutions like Airwallex solve this problem by allowing businesses to collect, hold and send multiple currencies from a single account. For ecommerce businesses, this is a game-changer. Using a multi-currency solution, businesses can collect payments in local currencies around the world without excessive fees. In short, ‘going global’ is no longer an option but a no-brainer, particularly for ecommerce companies. This is why the cross-border ecommerce market is set to grow by a compound annual growth rate of 27% over the next four years, and FBA aggregators (companies that buy up small Amazon sellers and take them global) have successfully raised billions of dollars from investors.

Technology

The finance industry has a reputation for being tech-phobic – banks still rely on solutions like AIAWORLDWIDE.COM | ISSUE 123

FinTechs and challenger banks have injected some much needed competition into thebusiness finance market. BACs and SWIFT that haven’t changed much since the 1970s. But times are changing, and FinTech is going through a renaissance which sees no sign of abating. Modern payment solutions use local banking routes to transfer money across borders faster and more cheaply than SWIFT, accountants use software to automate bookkeeping and forecasting, and everyday investors are moving away from traditional stockbrokers onto WealthTech apps like Plum and Stake. That’s before you consider the impact of blockchain and crypto. Ultimately, tech is making life significantly easier for businesses. From automating manual tasks such as expense management and payroll, to enjoying fast access to forecasting and risk data. The trouble is that traditional financial institutions are not designed for rapid change. The Silicon Valley motto – ‘move fast and break things’ – is a far cry from the culture in most banks, and this lack of agility has made it difficult for them to compete with smaller, tech-focused companies. So, what we’re seeing now is larger financial institutions buying up tech companies and investing in white label solutions in order to deliver a better digital service for clients. In June 2021, JP Morgan acquired the online investment platform Nutmeg ahead of the UK launch of its digital bank; Lloyds recently partnered with cash management platform Satago to ‘reinvent invoice financing for UK SMEs’; and Goldman Sachs is reportedly making moves to buy Nucleus.

Looking to the future

FinTechs and challenger banks have injected some much needed competition into the business finance market, and drawn attention to the issues that matter to modern businesses – customer service, platform usability, tech innovation, low fees and high ethical standards. With so much choice available, businesses are now thinking carefully about where they put their money, not just how they make it. And as expectations rise, the financial services industry has been forced to become more consumer-focused. Traditional providers can no longer afford to be complacent, and those that fail to adapt will continue to lose customers to slicker and cheaper competitors. ●

Author bio

Tilly Michell is a content specialist at Airwallex – the multi-currency payment solution for global businesses.

TRANSFER PRICING

The latest OECD transfer pricing guidelines Ava Colocho and Srinidhi Tuppal examine the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations 2022. Ava Colocho Transfer Pricing Senior Manager, CBIZ

Srinidhi Tuppal Transfer Pricing Manager, CBIZ

he Organisation for Economic Co-operation and Development (OECD) is an international organisation that – together with governments, policy makers and citizens – helps to shape policies and international standards. The goal of the OECD is to find solutions to a range of social, economic and environmental challenges. The OECD provides a unique forum and knowledge hub for data and analysis, exchange of experiences, best practice sharing and advice on public policies. Establishing international standards helps to improve economic performance, create job opportunities and fight international tax evasions. The OECD/G20 Inclusive Framework on Base erosion and profit shifting (BEPS) implemented a 15 point action plan to tackle the tax planning strategies used by multinational enterprises that exploit gaps and mismatches in tax rules to avoid paying tax. The action plan also aimed to improve the coherence of international tax rules and to ensure a more transparent tax environment. The OECD Transfer Pricing Guidelines provide guidance on the application of the arm’s length principle, which is the international consensus on the valuation of cross-border transactions between associated enterprises (see bit.ly/3y2386b). Specifically, Actions 4, 8-10, and 13 of the BEPS Action Plan

proposed certain changes to the transfer pricing guidelines. The 2017 edition of the OECD Transfer Pricing Guidelines reflected the majority of the clarifications and revisions contained in the 2015 BEPS Action Plan reports on Actions 8-10 (Aligning transfer pricing outcomes with value creation) and Action 13 (Transfer pricing documentation and country-by-country reporting).

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TRANSFER PRICING

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TRANSFER PRICING

The revised guidance makes clear that a lack of comparables is, by itself, insufficient to warrant the use of the profit split method.

After the 2017 edition of the OECD Transfer Pricing Guidelines, the OECD issued additional guidance reports: ● The application of transactional profit split method; ● Guidance for tax administrations on the application of the approach to hard-to-value intangibles; and ● Transfer pricing guidance on financial transactions. The latest edition of the OECD Transfer Pricing Guidelines for multinational enterprises and tax administrations, published on 20 January 2022, reflects the revisions made to the 2017 edition of the OECD Transfer Pricing Guidelines based on these three additional guidance reports and also includes certain consistency changes.

The transactional profit split method

The revised guidance on the application of the transactional profit split method, published on 21 June 2018, responds to the mandate in the 2015 BEPS Action Plan reports on Actions 8-10 and specifically addresses Action 10 (Aligning transfer pricing outcomes with value creation: other high-risk transactions) of the BEPS Action Plan. This guidance is incorporated in the 2022 OECD Transfer Pricing Guidelines, replacing the previous text on the transactional profit split method in Chapter II, part III, section C. The revised guidance retains the basic premise that the profit split method should be applied where it is found to be the most appropriate method to the case at hand, but it significantly expands the guidance available to help determine when that may be the case. It also contains more guidance on how to apply the method, as well as numerous examples. This revised guidance, while not being prescriptive, clarifies and significantly expands the guidance on when a profit split method may be the most appropriate method. It describes the presence of one or more of the following indicators as being relevant: ● each party makes unique and valuable contributions; ● the business operations are highly integrated, such that the contributions of the parties cannot be reliably evaluated in isolation from each other; and ● the parties share the assumption of economically significant risks, or separately assume closely related risks. The revised guidance makes clear that a lack of comparables is, by itself, insufficient to warrant the use of the profit split method; however, conversely, if reliable comparables are available it

is unlikely that the profit split method will be the most appropriate. The revised text also expands the guidance on how the profit split method should be applied, including determining the relevant profits to be split, and appropriate profit splitting factors (see bit.ly/3xY31bT). The revised guidance provides clarification regarding the distinction between profit split as a valuation method and profit split as a way to share in actual profits. The revised guidance provides that generally the relevant profits to be split are operating profits, but a different measure of profits such as gross profits may also be considered appropriate in certain cases. Regardless of the measurement of profits used, the account standards applicable should be selected in advance and should be consistently applied over the lifetime of the arrangement. The revised guidance has also included headcount to the list of potential profit split factors in addition to assets, capital or time spent. The guidance refers to the multinational enterprise’s Local Files and Master File as a potential source of information to determine economically valid splitting factors.

Hard to value intangibles

The guidance for tax administrations on the application of the approach to hard-to-value intangibles (HTVI), published on 21 June 2018, responds to the mandate in the 2015 BEPS Action Plan reports on Actions 8-10 and specifically address the Action 8 (Aligning transfer pricing outcomes with value creation: intangibles) of the BEPS Action Plan. This guidance document has been incorporated into the 2022 OECD Transfer Pricing Guidelines as an annex to Chapter VI. The development of transfer pricing rules or special measures for transfers of HTVI are aimed at preventing base erosion and profit shifting by moving intangibles among group members. The 2022 OECD Transfer Pricing Guidelines, Chapter VI, section D4 contains the approach to HTVI. The HTVI approach protects tax administrations from the negative effects of information asymmetry by ensuring that tax administrations can consider ex-post outcomes as presumptive evidence about the appropriateness of the ex-ante pricing arrangements. At the same time, the taxpayer has the possibility to rebut such presumptive evidence by demonstrating the reliability of the information supporting the pricing methodology adopted at the time the controlled transaction took place. The guidance for tax administrations on the application of the approach to HTVI aims at reaching a common understanding and practice among tax administrations on how to apply adjustments resulting from the application of the ISSUE 123 | AIAWORLDWIDE.COM

TRANSFER PRICING HTVI approach (see bit.ly/3MyoADM). It aims to improve consistency and reduce the risk of economic double taxation. In particular, the new guidance: ● presents the principles that should underlie the application of the HTVI approach by tax administrations; ● provides a number of examples clarifying the application of the HTVI approach indifferent scenarios; and ● addresses the interaction between the HTVI approach and the access to the mutual agreement procedure under the applicable tax treaty. The guidance for tax administrations on the application of the approach to HTVI prevents the application of the HTVI approach when the transfer of the HTVI is covered by a bilateral or multilateral advance pricing agreement in effect for the period in question between the jurisdictions of the transferee and the transferor. In the event that the application of the HTVI leads to double taxation, it is important to permit resolution of such cases through access to the mutual agreement procedure under an applicable treaty.

Guidance on financial transactions

The transfer pricing guidance on financial transactions, published on 11 February 2020, responds to the mandate in the 2015 BEPS Action Plan reports on Action 4 and Actions 8-10 and specifically addresses Action 4 (Limiting base erosion involving interest deductions and other financial payments) of the BEPS Action Plan. Sections A to E of this guidance has been included in the 2022 OECD Transfer Pricing Guidelines as Chapter X. Section F of the guidance has been added to section D.1.2.1 in Chapter I of the 2022 OECD Transfer Pricing Guidelines, immediately following paragraph 1.106. In particular, section B.1 of the transfer pricing guidance on financial transactions elaborates on how the accurate delineation analysis under Chapter I applies to the capital structure of a multinational enterprise within a multinational enterprise group. It also clarifies that the guidance included in that section does not prevent countries from implementing approaches to address capital structure and interest deductibility under their domestic legislation. Section B.2 outlines the economically relevant characteristics that inform the analysis of the terms and conditions of financial transactions. Sections C, D and E of the guidance address specific issues related to the pricing of financial transactions (e.g. treasury functions, intra-group loans, cash pooling, hedging, guarantees and AIAWORLDWIDE.COM | ISSUE 123

captive insurance). This analysis elaborates on both the accurate delineation and the pricing of the controlled financial transactions. Finally, Section F provides guidance on how to determine a risk-free rate of return and a risk-adjusted rate of return (see bit.ly/37QfS52). The guidance on financial transactions elaborates on the concept of accurate delineation of the actual transaction with regards to the conditions and economically relevant circumstances that may relate to the balance of debt and equity funding of an entity within a multinational enterprise group. In other words, the tax authorities normally should not disregard the actual transaction undertaken by the taxpayer or substitute other transactions for them unless the arrangements made in relation to the transaction, viewed in their totality, differ from those which would have been adopted by independent enterprises behaving in a commercially rational manner in comparable circumstances (see bit.ly/3vrrRiF). The purpose of the functional analysis is highlighted in the guidance on financial transactions to explain the activities and liabilities of related entities when determining the appropriate distribution of interest income based on inherent risk. A company’s financial capacity and control functions are taken into consideration when evaluating the level of risk in regard to justifying the interest income allocable to the related party lender. The guidance on financial transactions’ endorsement of the comparable uncontrolled price method solidifies the approach as an appropriate method to benchmark comparable data to support the specific interest rate range selected by a company when implementing an intercompany loan transaction. Also, the guidance reiterates the necessity of considering comparability adjustments to ‘eliminate the material effects of differences between the controlled intra-group loan and the selected alternative in terms of, for instance, liquidity, maturity, existence of collateral or currency’.

In conclusion

Global business in general and specifically those that are involved in highly integrated activities and intra-group financial transactions should assess their transfer pricing policies in light of this latest 2022 OECD Transfer Pricing Guidelines. Careful consideration should be taken when determining the unique and valuable contributions provided by the parties and during the selection of an appropriate method. Multinational enterprises should consider the use of a mutual agreement procedure if there is a potential risk of double taxation as a result of adjustment related to HTVI. ●

Author bio

Srinidhi Tuppal is a Transfer Pricing Manager with CBIZ’s National Transfer Pricing Practice.

Author bio

Ava Colocho is a Transfer Pricing Senior Manager with CBIZ based in Irvine, California.

IR35 REFORM © Getty images/iStockphoto

The impact of IR35 reform Matt Tyler discusses new research into the impact of IR35 reforms since their introduction in 2021 and what this means for the accountancy sector.

Matt Tyler IR35 Consultancy Manager, Kingsbridge

he IR35 reforms were met with concern from many industries that rely on skilled contractors when they were introduced in 2021. One year on, it is clear that a continued lack of understanding around the new rules is stifling access to specialised talent which, in turn, is impacting businesses’ growth across the UK. Skilled contractor labour is essential for many industries across the UK, particularly during the ongoing skills shortages following the pandemic. According to IPSE data, contractors contributed £300 billion to the UK economy in 2021 alone (see bit.ly/3loQt5P). The accountancy sector is no exception, with many firms relying heavily on skilled contractors, alongside permanent members of staff. With this in mind, we were interested to discover the true impact of the IR35 reforms

on the market. To find out more, we conducted research amongst contractors, recruiters and end clients – businesses that work with contractors – including organisations in the accountancy sector, asking them questions about their experiences over the last 12 months.

A changing landscape

The research revealed that IR35 has been the biggest obstacle to hiring contractors over the past 12 months for 50% of the end clients surveyed, coming in above the likes of Brexit and the pandemic, which have also had a disruptive effect on the market. In fact, over 70% of businesses and recruiters reported that they had seen a reduction in their limited company PSC contractor workforce. We found that end clients and recruiters are increasingly struggling to place contractors in ISSUE 123 | AIAWORLDWIDE.COM

IR35 REFORM inside IR35 roles – positions that are considered ‘employees’ for tax purposes and therefore likely to be taxed at a higher rate. Over 70% of contractors are looking only for outside IR35 roles over the next six to 12 months, with 66% claiming they would not even consider an inside IR35 role. Yet, these account for less than 41% of roles on offer. Clearly, there is a disparity between the roles on offer and the opportunities contractors are looking for. As a result, nearly half of contractors have considered closing their businesses and 25% have sought work outside the UK. For accountancy businesses, this means increasingly restricted access to a much needed, highly skilled and flexible workforce which has previously been relied upon by the industry. The timing of this couldn’t be worse. Whilst job vacancies remain at a record high, contractors could be providing a much needed interim solution to keep things working and avoid major disruption to UK businesses. Sadly, the complexities of IR35 and perceived risks are putting businesses off. Another obstacle facing accountancy firms working with contractors is an increase in day rates. The research showed us that as many as 65% of contractors would try to negotiate an increased rate if placed inside IR35, with respondents suggesting that this could be up to a 25% increase. We’re already beginning to see this in practice. 37% of contractors deemed inside IR35 have increased their day rate in the last 12 months, compared with just 20% of those deemed outside IR35. This means that accountancy businesses are almost twice as likely to have to pay a contractor more if they work inside IR35.

CEST and its limitations

An incredible 50% of recruiters told us that end clients were not well prepared for IR35 reform in the private sector, indicating that more education was – and still is – desperately needed. Too many companies are relying on the government’s Check Employment Status for Tax (CEST) tool, a free service consisting of multiplechoice questions leading to a decision on IR35 status. However, despite strong encouragement from HMRC to use it, the tool remains insufficient for assessing status and has been heavily criticised by businesses and the House of Lords. Others have adopted misguided blanket bans on contractors, or are working with umbrella companies, which also demonstrates ongoing confusion and caution. In fact, I believe CEST is having a direct impact on the decreasing pool of contractors. 38% of the recruiters who stated their end clients use CEST have seen a 61% or greater reduction in AIAWORLDWIDE.COM | ISSUE 123

their contractor pool, compared to just 23% who use independent employment status tools. This is likely due to the fact that end clients simply can’t rely on CEST to give a clear inside or outside status determination, with the tool producing indeterminate results 21% of the time.

Reasons for optimism

The last year has certainly presented significant challenges when it comes to working with contractors in the UK, and end client projects have ultimately suffered. Despite this, there are signs that the situation is improving. As many as 95% of end clients claimed they intend to use more limited company contractors in the next six to 12 months. Recruiters echoed this message, telling us they foresee fewer bans on working with contractors in the year ahead and even reporting that some end clients are beginning to make U-turns on the blanket bans they introduced when the reforms were first introduced. Interestingly, independent employment status tool users have seen more blanket ban U-turns from their end clients than CEST users (44% versus 26%). In other words, employers using independent status tools are twice as likely to reverse their blanket bans on working with contractors than those using CEST. In addition to an increase in the number of businesses lifting blanket bans on working with contractors, our research shows us that a growing number of contractors (42%) are optimistic about their job prospects for the next six to 12 months.

Looking ahead

However, there is still work to be done to accelerate this positive change and avoid losing access to the skilled talent businesses need. In my opinion, three key changes are required to ensure real progress: 1. More education is needed to address the issues still being experienced. A better understanding of IR35 would be much healthier for the market as a whole. 2. CEST must be made fit for purpose and take Mutuality of Obligation (MOO) into consideration to offer accurate status determinations and therefore improve confidence amongst end clients. 3. Companies looking to hire experienced contractors outside of IR35 should utilise purpose-built tools, advice and insurance to mitigate against the perceived risks of hiring contractors. For more information about the research, download your free copy of the ‘IR35 – One Year On’ whitepaper (see bit.ly/3yKMYyl). ●

Author bio

Matt Tyler is an IR35 Consultancy Manager at Kingsbridge and has an in‑depth understanding of IR35 case law.

SANCTIONS

Managing sanctions risk

David Potts Director of Operations, AIA

ussia’s invasion of Ukraine in February 2022 and the subsequent response of countries and international organisations around the world has brought a new focus on financial sanctions and due diligence for accountants operating in the United Kingdom and Republic of Ireland. Sanctions are restrictive measures imposed on individuals or entities to curtail their activities and exert pressure and influence on them. Measures include, but are not limited to, financial sanctions, trade sanctions, restrictions on travel and civil aviation restrictions. Sanctions can be put in place to fulfil a range of purposes, including complying with UN and other international obligations, supporting foreign policy and national security objectives, maintaining international peace and security, and preventing terrorism. However, sanctions are not an innovation and there are no new additional requirements for accountants to take consideration of when onboarding potential clients or servicing an ongoing relationship. The size, scale and interest in sanctions regimes may have grown, but the obligations for regulated accountancy firms remain the same.

Sanctions frameworks

The UK implements a range of sanctions regimes through regulations made under the

David Potts considers the limitations that sanctions place on accountants operating in the UK and Republic of Ireland, how to apply appropriate due diligence and how to mitigate your sanctions risk.

Sanctions and Anti-Money Laundering Act 2018 (also known as the Sanctions Act). The Sanctions Act provides the main legal basis for the UK to impose, update and lift sanctions. Some sanctions measures (such as asset freezes and travel bans) apply only to persons or ships which have been designated or specified by the UK government. This is publicised through the UK sanctions list, which contains designations or specifications made using legislation under the Sanctions Act. The Office of Financial Sanctions Implementation in HM Treasury also maintains a Consolidated List of Asset Freeze Targets, which contains details of designations specifically for financial sanctions, where asset freeze measures apply. The Republic of Ireland does not impose any unilateral sanctions regimes, but implements UN and EU sanctions, published within consolidated sanctions lists. Within the EU, each member state is required to designate competent authorities that are engaged with sanctions issues. In Ireland, the three competent authorities are: the Department of Foreign Affairs; the Department of Enterprise, Trade and ISSUE 123 | AIAWORLDWIDE.COM

SANCTIONS Webinar recording: Understanding politically exposed persons and sanctions risk

This informative webinar looks at practical approaches to efficiently implement a risk‑based approach for better identification and monitoring of politically exposed persons and sanctions risk. The focus of the webinar is: ● developing and enhancing your money laundering and terrorist financing risk assessment to meet regulatory expectations; ● providing you with an ability to identify gaps or opportunities for improvement in anti-money laundering policies, procedures and processes; ● ensuring that firms are aware of key risks, control gaps and remediation efforts; ● establishing source of funds and wealth of current and prospective clients; ● assessing whether clients are classified as politically exposed persons and how this alters the business relationship; and ● firm responsibilities relating to sanctions.

Employment; and the Central Bank of Ireland. Given the multi-sectoral nature of sanctions measures, a wide range of government stakeholders are also engaged with sanctionsrelated issues.

Anti-money laundering requirements

A firm offering accountancy services must carry out and apply customer due diligence when establishing a business relationship and throughout an ongoing business relationship. Regulation 33 (6)(c)(iii) of the UK Money Laundering Regulations 2017 requires that when assessing whether there is a high risk of money laundering or terrorist financing in a particular situation, and the extent of measures which should be taken to manage and mitigate that risk, you take account of risk factors including countries subject to sanctions, embargoes or similar measures. Similarly, the Republic of Ireland Criminal Justice (Money Laundering and Terrorist Financing) Act s 39 lists countries subject to sanctions, embargoes or similar measures issued by organisations such as the UN or EU as factors suggesting potentially higher money laundering risk. AIAWORLDWIDE.COM | ISSUE 123

This webinar will help supervised firms to ensure that they maintain client due diligence policies and procedures which meet regulatory requirements and best practice, appropriate and proportionate for their size and activities. www.aiaworldwide.com/my-aia/aml/ peps-and-sanctions-risk/

Appropriate due diligence

A firm offering accountancy services must apply customer due diligence when establishing a business relationship.

In addition to anti-money laundering controls, a firm needs to be able to ensure that it is not doing business that is connected to individuals, entities or countries subject to sanctions. To ensure a robust sanctions compliance control framework, firms must understand the products and services they offer, identify areas where they may be vulnerable to sanctions breaches, and put controls in place to mitigate these sanctions risks. Therefore, it is key to establish the source of wealth and source of funds of clients. The risk of an entity or individual being present on a consolidated list is often aggravated when they are a politically exposed person, a high net worth individual or are resident in, or operating in, a high-risk jurisdiction. If a firm is undertaking trust or company services, the risk is also heightened. Sanctions themselves bring a new risk of displacement of funds and assets as sanctioned individuals and entities seek to disassociate themselves from wealth and property yet maintain control over it, such as by transferring ownership to a trusted associate or family member not presently on a consolidated list.

SANCTIONS

Top tips: how can I be compliant and manage my risk?

● Consider discussing with clients their supply chains and exposure to sanctioned entities. ● Review your firm-wide risk assessment and check your risk appetite. ● Sanctions guidance is often changing. For further information, frequently check: www.aiaworldwide.com/insights/aml/financialsanctions-measures-russia ● Subscribe to e-alerts from HM Treasury and Office of Financial Sanctions Implementation.

To help protect your firm, a robust sanctions compliance programme is vital, including national and international screening and monitoring. The risks of acting for a sanctioned individual or entity

There are a number of risks associated with acting for a sanctioned individual or entity: ● Monetary penalties: In the UK, the Office of Financial Sanctions Implementation may impose monetary penalties if a person has breached a prohibition or failed to comply with an obligation imposed under financial sanctions legislation. In usual cases, this penalty could be £1,000,000, alongside sentencing for criminal prosecutions of up to seven years. The penalties in Irish law for a breach of EU financial sanctions are contained in a statutory instrument signed by the Minister for Finance. ● Disciplinary proceedings: Failing to comply with the regulations in force could mean you lose your AIA Practising Certificate and face disciplinary proceedings if you are judged to be non-compliant during a monitoring review. ● Reputational risk: Outcomes of the above penalties are available in the public domain and accessible for potential clients determining accountants to hire. ● Assisting bad actors evade sanctions: Fundamentally, acting for sanctioned individuals or entities undermines the sanctions regime and assists those seeking to evade these restrictions.

Mitigating sanctions risk

To help protect your firm from conducting business with sanctioned entities or individuals, a robust sanctions compliance programme

is vital, including national and international screening and monitoring. Furthermore, because the global sanctions landscape is always changing, you must make sure that your controls and processes are agile enough to react appropriately. To ensure compliance with sanctions regimes, there are some best practices firms may follow: ● senior management (where applicable) should understand and endorse your firm’s sanctions obligations and policies; ● prepare and update your firm’s policies and procedures; ● communicate these policies and procedures to staff and third parties; ● provide regular training to ensure that staff and third parties understand the requirements; ● ensure the firm’s screening process covers the nature, size and risk of its business; ● ensure that procedures provide escalation contacts for sanctions enquiries (where applicable) and to report violations; and ● regularly review the sanctions compliance programme, including policies, procedures, training and screening.

Checking whether your client is a sanctioned individual or entity

Your client onboarding and ongoing business relationships should involve conducting searches through global, government and regulatory databases to identify entities that are restricted from participating in certain activities or industries. These searches can be undertaken manually, searching published lists, or electronically if you use client onboarding software. In this instance, you should check that your software or third-party solution is using updated sanctions lists as these are subject to change. If there is no automatic flagging system, you must ensure that you continue to run checks as part of your ongoing customer due diligence, particularly where ownership of a business changes or the jurisdictions in which your client operates changes. If you have many clients, you should determine how resource intensive conducting ongoing monitoring may be and consider the use of client management software which addresses verification and monitoring using a risk-based approach. You should also ensure that you have an up to date firm-wide risk assessment, taking note of the guidance AIA provides. This can be used to assess whether you are comfortable taking clients on who are high net worth individuals, operate in high-risk jurisdictions or who request company formation services. Has your risk ISSUE 123 | AIAWORLDWIDE.COM

SANCTIONS appetite and firm-wide risk assessment changed since additional focus has been placed on sanctions? When conducting due diligence, it is also vital to maintain records which evidence the checks you have undertaken. These can be excerpts from company registers, copies of verified identifications or company structures. You must make sure you verify the identity of all beneficial owners of the company. Where a company is owned by another entity, you must make every endeavour to identify the human owner. You may consider that your clients are not involved in sanctions regimes or individuals, but can you prove it? Have you addressed any supply chain issues which could mean that your clients have exposure? Have you had this discussion with them? Do you know your clients enough to consider whether this is useful to understand?

increased the potential risk of money laundering as individuals and business may seek to evade these respective sanctions regimes. Recent developments in Russia and Ukraine may also impact on the classification of new and existing clients and cause them to fall within the definition of politically exposed persons. Members in practice are reminded of their obligation under the UK Money Laundering Regulations 2017 and the Republic of Ireland Criminal Justice (Money Laundering and Terrorist Financing) Act 2010 (as amended) respectively, to conduct risk assessments and to perform enhanced due diligence checks where required. In particular, members should ensure that they fully understand the source of funds and wealth in relation to their clients identified as high risk.

Key points to remember

● Sanctions exist and they can have a big impact on you and your business. Breaching financial sanctions is a criminal offence and can result in a civil monetary penalty being imposed on your business or you, with imprisonment of up to seven years. ● It is your responsibility to check whether individuals, organisations or countries that you are dealing with are impacted by sanctions. You are expected to undertake due diligence so that you know who you are dealing with, both directly and indirectly; for example, looking at ownership and control of an organisation. ● You may need a licence. In certain circumstances, the government may grant a license to permit an activity that would otherwise be prohibited. It is up to the licensing authority to determine whether a licensing application is in line with the purposes. ● You must report any suspected or actual breaches of financial sanctions to the Office of Financial Sanctions Implementation (UK) or the Department for Foreign Affairs (Republic of Ireland). If you believe that you are dealing with an individual or organisation that is or was subject to sanctions at the time of the activity, you must free their funds and assets immediately, report this, not deal with or make funds or economic resources available to them and not do anything that would circumvent the asset freeze.

AIA Supervisory Expectations

The recent imposition of further sanctions on Russia and named individuals and entities has AIAWORLDWIDE.COM | ISSUE 123

Breaching financial sanctions is a criminal offence and can result in a civil monetary penalty being imposed on your business or you. Since many of those who are subject to sanctions may also be politically exposed persons, members are reminded of their obligation to ensure that they have adequate and up to date procedures in place to identify whether a client, or the beneficial owner of a client is a politically exposed person, or is a family member or known close associate of a politically exposed person. Whether in practice or in business, AIA members must comply fully with their legal and professional obligations relating to the sanctions regimes in their respective jurisdictions. AIA expects that they will be willing to play their part in helping companies across the economy to cope with any consequent disruptions. ●

Other sources of guidance

● Office of Financial Sanctions Implementation: bit.ly/3llgu5T ● Foreign, Commonwealth and Development Office consolidated lists: bit.ly/3Lp6xz3 ● Republic of Ireland, Department of Foreign Affairs: bit.ly/3NgM6FC ● EU consolidated lists: bit.ly/38tdYrH Firms should be aware that these sanctions are subject to change and should maintain up to date screening processes. Information correct as of 16 May 2022.

Author bio

David Potts is Director of Operations at the AIA.

EU E-COMMERCE PACKAGE

How successful is e-commerce? As ongoing consultations on the e-Commerce Package are concluded, Alex Smith asks whether there is room for improvement. Alex Smith Director of Consulting Services, Sovos

he European Commission (EC) is likely to hail the introduction of the EU e-Commerce Package as a success in reducing the cost of compliance for cross border trade – and for good reason. Before this scheme was introduced, in certain circumstances businesses were required to register and report VAT in every European country that they sold goods to if they exceeded distance selling thresholds. If eligible, this is no longer the case for businesses. Registering through One Stop Shop (OSS) schemes enables businesses to greatly reduce the time spent maintaining compliance across EU member states. However, while businesses have steadily registered for the OSS schemes intended to create a level playing field for businesses both within and outside of the EU, the EC has not met all of the goals that it set out to achieve with the e-Commerce Package. Since the introduction of the e-Commerce Package, the EC has been conducting ongoing consultations with businesses and tax authorities to address the teething issues that both parties experienced during the first year of the OSS schemes. These initial issues have included the convenience of the schemes, frustration with the threshold for low-value goods, and ongoing fraud with the supply chain – highlighting that more works needs to be done to ensure that businesses continue to use these schemes. The consultations ended on 15 April, so we can expect some changes to come over the summer months as we reach the one-year mark from the introduction of the EU e-Commerce Package. The nature of compliance for doing business within the EU and importing goods from abroad will continue to evolve, so business leaders will be tasked with staying up to date with these schemes and the potential changes ahead.

The benefits imported by the EU e-Commerce Package

The introduction of OSS last July required a much greater detail of data to be reported. The tradeoff was that the scheme unified the reporting mechanism for businesses selling via online marketplaces and their websites, which would only have to be completed via one tax authority. Initially, this meant there were issues for businesses as they had to re-address their record keeping of transactions and make sure that they collected and reported the right data. Automating these data processes became an essential cog in their compliance process to ensure that transactions and deliveries continued unimpeded. Automation also allowed firms to reduce the risk of human error. As the additional data requirements were introduced, these types of errors inevitably rose. Technology therefore became every company’s best friend. Once businesses had bought into the scheme and smoothed out these processes to harmonise with the requirements of OSS, it simplified the reporting of e-commerce transactions.

ISSUE 123 | AIAWORLDWIDE.COM

EU E-COMMERCE PACKAGE

under Union OSS, there is no mention of Intrastat, so there is no guidance for how this would be applied to businesses that have adopted the policy, which has created ambiguity. While all of this improves compliance across the EU, ongoing consultations have allowed businesses to have an open dialogue about their experiences using the e-Commerce Package. Now that the consultations have been finalised, we can expect some of the initial issues to be ironed out – so what work needs to be done?

Room for improvement

There was some initial frustration from businesses importing into the EU with the €150 threshold for low-value goods through the Import One Stop Shop (IOSS) scheme. This affected non‑EU businesses that were exporting goods to customers within EU member states and were fulfilling orders of multiple low-value goods. These orders would often accumulate to exceed the €150 threshold, meaning many e-commerce sellers weren’t able to use the IOSS scheme. This has been an ongoing issue that we can expect the EC to address following the consultations that finished in April. What’s unclear is where the EC will set the bar for low-value goods, particularly in light of the customs duty threshold being €150 – how will this work if VAT thresholds changed? It’s in the EC’s interest to make IOSS more appealing to businesses so that they can collect larger data sets to determine the health of the economy. But, in order to do this, the threshold will have to be raised to offer businesses convenience when it comes to compliance. What’s more, IOSS was not made compulsory for non-EU sellers. Due to the issues with the €150 threshold, some sellers would either not register and make the customer the importer or would use ‘special arrangements’ via their shippers. Where the customer was the importer of record, this has heavily impacted the customer experience, as they became the liable party to pay import VAT before the goods could be released and delivered to them. We have seen numerous examples of tax authorities challenging this position.

Fortunately, businesses have been allowed to correct previous OSS returns in their next OSS return. So, while the requirements are increasing the level of data reporting that companies need to meet, the EC has been particularly helpful to reporting errors. At the same time, the greater data requirements for OSS mean that tax authorities have a lot more information readily available to conduct audits and determine penalties without the need for lengthy on-site visits. This will ensure a much more efficient compliance process for regulators in the future. For intra-EU trade, e-commerce businesses selling goods previously had to comply with Intrastat obligations when they exceeded the reporting thresholds. For lots of businesses, an obligation arose when goods were dispatched from one member state and delivered to various other EU countries, so thresholds were often exceeded which complicated compliance. However,

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EU E-COMMERCE PACKAGE

Many EU member states are looking to reduce their VAT gap through tax digitisation, which will help them to streamline. For non-EU businesses, they may still have to apply for all three OSS schemes. For example, if products and services were being sold, with goods based in the UK and the EU, the business would need to register and report under all three schemes. Double taxation has also caused confusion and reluctance to join the scheme, particularly for goods over the €150 threshold as IOSS does not apply. If goods are imported into one member state but delivered to another, this can result in double taxation with import VAT due in the member state of import and local VAT due in the member state of destination. IOSS and OSS were ultimately introduced to improve the efficiency and simplicity of VAT compliance for businesses, but there are still a number of factors that remain complicated and deter businesses from registering for the scheme. But that’s not the only problem. Supply chain fraud is yet another issue facing the future success of the EU e-Commerce Package.

Addressing fraud in the supply chain

Author bio

Alex Smith is the Director of Consulting Services at Sovos.

Fraud is a major issue that has had a significant impact on many countries’ economic health and IOSS has proven to be extremely simple to exploit, meaning that many companies have avoided paying tax dues. For example, in December last year the EC reported that EU member states missed out on €134 billion in VAT revenues in 2019 because of VAT fraud and evasion. While we expected the VAT gap to have declined over the past two years, IOSS has not made VAT avoidance on imported goods any harder and needs to be addressed to further reduce the VAT gap. When businesses register to IOSS, they are given a unique registration number. This makes it easy to determine which business is accountable for paying the VAT due whenever goods are imported into the EU. However, because these registration numbers are printed on every package, the system is very easy to exploit. Even the large marketplaces, such as Amazon and eBay, have their own unique IOSS number. By doing this, fraudsters are able to ship goods into the EU without having to pay VAT, and businesses then have to contest the VAT that they owe. While the increased amount of data collected

on transactions makes it easier for sellers to prove whether or not the shipment of goods originated from them, the simplicity of fraudulently importing goods under a seller’s registration means that goods are able to be shipped and delivered and tax authorities will not be able to determine the right party to pay to the VAT dues. Ultimately, the EU will miss out on vital VAT revenue. As EU member economies emerge into a postpandemic world, they’ll be keen to reduce their VAT gap and collect the VAT that is owed to them. However, the issue of VAT fraud for imported goods is working against them in achieving this. As we approach a year on from the introduction of OSS, this is just one of a number of issues that need to be addressed to encourage more businesses to use these schemes.

What changes we can expect

As with every new tax legislation introduced, it takes time to smooth out the rough patches and make changes to ensure that it is fit for long term use. Many EU member states are looking to reduce their VAT gap through tax digitisation, which will help to streamline and accurately determine taxes due to them. OSS schemes will be no different and EU member states will want them to work as efficiently and accurately as possible. On the public sector side, reducing fraud in the supply chain will be a top priority. Technology will be the key to allowing tax authorities to determine that goods are being imported with the correct registration number. These systems will need to efficiently identify orders against a business’s transaction history. While this may require additional data reporting on top of the increased OSS requirements, it will also benefit the customer experience because it will dramatically reduce the time it takes for goods to clear customs. Increasing the low-value goods threshold is another issue that will likely be adjusted in the not too distant future. It’s likely that the level this threshold is adjusted to will rely on what will happen to the current customs duty on imported goods. Can the threshold be increased so the EU can encourage more businesses to use IOSS and what impact would this have on customs duty revenue? Meanwhile, businesses will want the increase because it offers them greater convenience and will reduce the time for goods to reach the customer following customs. In general, Union OSS has been welcomed. Ultimately, the EU e-Commerce Package has helped to increase the simplicity of VAT compliance for businesses operating within, and importing to customers who reside in, the EU. Over the summer, we can expect to see some changes take place that address the current issues and ultimately encourage more widespread use of the schemes. ● ISSUE 123 | AIAWORLDWIDE.COM

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TECHNICAL INTERNATIONAL

IPSASB issues IPSAS 44 ‘Non-current assets held for sale and discontinued operations’ The International Public Sector Accounting Standards Board has issued International Public Sector Accounting Standard (IPSAS) 44 ‘Non-current assets held for sale and discontinued operations’. IPSAS 44 has an effective date of 1 January 2025. Earlier application is permitted. IPSAS 44 is based on International Financial Reporting Standard (IFRS) 5 ‘Non-current assets held for sale and discontinued operations’. The new IPSAS specifies the accounting for assets held for sale and the presentation and disclosure of discontinued operations. IPSAS 44 includes additional public sector requirements; in particular, the disclosure of the fair value of assets held for sale that are measured at their carrying amounts, when the carrying amount is materially lower than their fair value.

INTERNATIONAL ISSB delivers proposals that create a comprehensive global baseline of sustainability disclosures The International Sustainability Standards Board (ISSB), established at COP26 to develop a comprehensive global baseline of sustainability disclosures for the capital markets, has launched a consultation on its first two proposed standards. One sets out general sustainability-related disclosure requirements; and the other specifies climate-related disclosure requirements. The proposals – exposure drafts – build upon the recommendations of the Task Force on ClimateRelated Financial Disclosures (TCFD) and incorporate industry-based disclosure requirements derived from Sustainability Accounting Standards Board (SASB) Standards. When the ISSB issues the final requirements, they will form a comprehensive global baseline of sustainability disclosures designed to

‘This standard fills a gap in the IPSAS suite by providing guidance on how to account for public sector assets that are held for sale on commercial terms,’ said IPSASB chair Ian Carruthers. ‘Adding guidance on this topic is important from a public interest perspective, as it ensures transparency and accountability when decisions to sell public sector assets have been taken.’ In July 2020, the European Financial Reporting Advisory Group (EFRAG) published a discussion paper ‘Accounting for cryptoassets (liabilities): holder and issuer perspective’. The discussion paper provided possible approaches to address the gaps in crypto-assets (liabilities) requirements. EFRAG has now reviewed the feedback received and derives recommendations for the IASB.

meet the information needs of investors in assessing enterprise value. The ISSB is working closely with other international organisations and jurisdictions to support the inclusion of the global baseline into jurisdictional requirements. The ISSB is seeking feedback on the proposals over a 120 day consultation period closing on 29 July 2022. It will review feedback on the proposals in the second half of 2022 and aims to issue the new Standards by the end of the year, subject to the feedback. The proposals have been developed in response to requests from G20 leaders, the International Organisation of Securities Commissions (IOSCO) and others for enhanced information from companies on sustainability-related risks and opportunities. The proposals set out requirements for the disclosure of material information about a company’s significant sustainability-related risks and opportunities that is necessary for investors to assess a company’s enterprise value. Later this year, the ISSB will consult on its standard-setting priorities. This consultation will include seeking

Based on the feedback received, EFRAG recommends clarifying or amending existing standards using a two-step approach. As a first step, EFRAG recommends addressing the accounting requirements for holders of crypto-assets by amending IAS 38 ‘Intangible assets’ to allow measuring crypto-assets or other intangibles within the scope of the standard at fair value through profit and loss and to develop disclosure requirements for issuers. As a second step EFRAG considers that it is important to also address issuer accounting in more detail and determine the appropriate accounting requirements for issuers, given the challenges that arise from the ambiguity on the nature of rights and obligations associated with the issuance of the novel and fastmoving crypto transactions.

feedback on the sustainability-related information needs of investors when assessing enterprise value and on further development of industrybased requirements, building on SASB Standards, which address a broad range of sustainability matters. The ISSB has also set out its plan for how its work will build on the SASB Standards and industry-based standard-setting processes. Emmanuel Faber, Chair of the ISSB, said: ‘Rarely do governments, policymakers and the private sector align behind a common cause. However, all agree on the importance of high-quality, globally comparable sustainability information for the capital markets. These proposals define what information to disclose, and where and how to disclose it. Now is the time to get involved and comment on the proposals.’ IFRS Sustainability Disclosure Standards are intended to provide a global baseline and to be compatible with jurisdiction-specific requirements, including those intended to meet broader stakeholder information needs. The ISSB’s Press Release is www.ifrs.org. ISSUE 123 | AIAWORLDWIDE.COM

TECHNICAL UK AND IRELAND FRC publishes a three year plan and takes further steps towards ARGA The Financial Reporting Council (FRC) has published its three year plan which sets out the FRC’s progress towards establishing the new Audit, Reporting and Governance Authority (ARGA). The plan follows the government’s 2021 consultation ‘Restoring trust in audit and corporate governance’, which moved the FRC closer to its aim of becoming ARGA. Respondents to the FRC’s consultation expressed continued support for the establishment of ARGA. The plan comprises a detailed breakdown of the FRC’s intended expenditure for 2022-23, and a summary of expected costs and headcount for the following two years. To support the FRC’s plan and act in the public interest the FRC’s core objectives are to: ● set high standards in corporate governance and stewardship, corporate reporting, auditing and actuarial work, and assess the effectiveness of the application of those standards, enforcing them proportionately where it is in the public interest; ● promote improvements and innovation in the areas for which it is responsible, exploring good practice with a wide range of stakeholders; ● influence international standards and share best practice through membership of a range of global and regional bodies and incorporate appropriate standards into the UK regulatory framework; ● promote a more resilient audit market through greater competition and choice; and ● transform the organisation into a new robust, independent, and highperforming regulator, acting in the public interest. The FRC’s CEO Sir Jon Thompson said: ‘In the three years since Sir John Kingman’s review of the FRC, we have made significant progress implementing those recommendations within our power to ensure better outcomes for stakeholders who rely on high quality audit, reporting and corporate AIAWORLDWIDE.COM | ISSUE 123

governance. As we continue to lay the groundwork for ARGA it is pleasing to see the continued level of support from our stakeholders for the FRC’s current plan.’

New Audit Firm Governance Code published The Financial Reporting Council (FRC) has published a new Audit Firm Governance Code for the Big Four audit firms and firms that audit FTSE 350 companies and significant numbers of public interest entities (PIEs). The new Code is a result of the findings of a monitoring programme undertaken by the FRC, which identified scope to further strengthen its oversight and governance and to align the provisions of the Code with operational separation for the Big Four firms. It separates the roles of the board chair and senior partner/chief executive, clarifies the role played by partnership boards in holding management to account and introduces criteria for board composition, reinforcing the position of independent non-executives within audit firms. For the largest audit firms, it sets out a clearer distinction between the role of independent non-executives and audit non-executives. The new Code also more closely aligns with the UK Corporate Governance Code, emphasising the importance of long-term sustainability, culture and employee engagement.

EUROPE European Supervisory Authorities see recovery stalling amid existing and new risks The three European Supervisory Authorities (ESAs) – the European Banking Authority (EBA), European Insurance and Occupational Pensions Authority (EIOPA) and European Securities and Markets Authority (ESMA) – issued their first joint risk assessment report for 2022. The report highlights the increasing vulnerabilities across the financial sector, as well as the rise of environmental and cyber risks. Russia’s invasion of Ukraine and its economic consequences have aggravated

the outlook for growth and inflation and brought heightened market volatility. Market resilience will critically depend on the ability of markets and financial institutions to deal with the economic consequences of the Russian invasion of Ukraine, and to withstand changes in public policy support on the monetary or fiscal side without material disruptions. Some of the risks emerging during 2021 and highlighted in the report were amplified by Russia’s invasion of Ukraine. The EU economy was on track for a strong recovery from the crisis caused by the Covid-19 pandemic and the financial sector largely proved resilient. However, the recovery appears to have been hindered by new waves and variants of the virus, concerns regarding inflation risk, rising commodity prices and heightened geopolitical risks. Additional vulnerabilities and risks for the financial system have built up over time. Financial markets remain vulnerable to changes in market sentiment, particularly if financial conditions tighten unexpectedly due to inflation pressures. In the real estate sector, persistent price increases and higher borrowing by households have increased risks. At the same time, the financial sector is increasingly exposed to environmental risks and risks stemming from digitalisation. In light of the risks and uncertainties, the ESAs advise national competent authorities, financial institutions and market participants to take the following policy actions: 1. Financial institutions should be prepared for further potential negative implications stemming from geopolitical tensions and ensure compliance with the sanctions regimes put in place both at the EU and at global levels. 2. Financial institutions and supervisors should prepare for a possible deterioration of asset quality in the financial sector. 3. The impact of further increases in yields and sudden reversals in risk premia on financial institutions and investors should be closely monitored. 4. Retail investors are of particular concern, and supervisors should monitor risks to retail investors seeing that their participation in financial markets has increased substantially in recent years.

TECHNICAL 5. Financial institutions should further incorporate ESG considerations into their business strategies and governance structures. 6. Considering the elevated level and frequency of cyber incidents, financial institutions should strengthen their cyber resilience and prepare for a potential increase in cyberattacks.

EFRAG publishes recommendations and feedback on its crypto-assets discussion paper In July 2020, the European Financial Reporting Advisory Group (EFRAG) published a discussion paper ‘Accounting for crypto-assets (liabilities): holder and issuer perspective’. The discussion paper provided possible approaches to address the gaps in crypto-assets (liabilities) requirements. EFRAG has now reviewed the feedback received and derives recommendations for the IASB. Based on the feedback received, EFRAG recommends clarifying or amending existing standards using a two-step approach. As a first step, EFRAG recommends addressing the accounting requirements for holders of crypto-assets by amending IAS 38 ‘Intangible assets’ to allow measuring crypto-assets or other intangibles within the scope of the standard at fair value through profit and loss and to develop disclosure requirements for issuers. As a second step EFRAG considers that it is important to also address issuer accounting in more detail and determine the appropriate accounting requirements for issuers, given the challenges that arise from the ambiguity on the nature of rights and obligations associated with the issuance of the novel and fast-moving crypto transactions.

UNITED STATES FASB expands disclosures and improves accounting related to the credit losses standard The Financial Accounting Standards Board (FASB) has issued an Accounting Standards Update (ASU) intended to improve the decision usefulness of

information provided to investors about certain loan refinancings, restructurings and write-offs. During the FASB’s PIR of the credit losses standard, including a May 2021 roundtable, investors and other stakeholders questioned the relevance of the troubled debt restructuring (TDR) designation and the decision usefulness of disclosures about those modifications. Some noted that measurement of expected losses under the current expected credit loss model already incorporates losses realised from restructurings that are TDRs; and that relevant information for investors would be better conveyed through enhanced disclosures about certain modifications. The amendments in the new ASU eliminate the accounting guidance for TDRs by creditors that have adopted current expected credit loss while enhancing disclosure requirements for certain loan refinancings and restructurings by creditors made to borrowers experiencing financial difficulty. The disclosure of gross write-off information by year of origination was cited by numerous investors as an essential input to their analysis. To address this feedback, the amendments in the new ASU require that a public business entity disclose current-period gross write-offs by year of origination for financing receivables and net investment in leases. The ASU, including information on effective dates, is available at www.fasb.org.

FASB improves and expands hedge accounting The Financial Accounting Standards Board (FASB) has issued an Accounting Standards Update (ASU) intended to better align hedge accounting with an organisation’s risk management strategies. ‘The expanded hedge accounting method better reflects the effects of risk management activities in the financial statements and provides investors and other allocators of capital with more transparent, decision-useful information around an entity’s use of derivatives,’ stated FASB Chair Richard R. Jones.

In 2017, the FASB issued a new hedging standard to better align the economic results of risk management activities with hedge accounting. That standard increased transparency around how the results of hedging activities are presented, both on the face of the financial statements and in the footnotes, for investors and analysts when hedge accounting is applied. One of the major provisions of that standard was the addition of the lastof-layer hedging method. For a closed portfolio of fixed-rate prepayable financial assets or one or more beneficial interests secured by a portfolio of prepayable financial instruments, such as mortgages or mortgage-backed securities, the lastof-layer method allows an entity to hedge its exposure to fair value changes due to changes in interest rates for a portion of the portfolio that is not expected to be affected by prepayments, defaults and other events affecting the timing and amount of cash flows. The ASU expands the current singlelayer method to allow multiple hedged layers of a single closed portfolio under the method. To reflect that expansion, the last-of-layer method is renamed the portfolio layer method. Additionally, the ASU: ● expands the scope of the portfolio layer method to include nonprepayable assets; ● specifies eligible hedging instruments in a single-layer hedge; ● provides additional guidance on the accounting for and disclosure of hedge basis adjustments under the portfolio layer method; and ● specifies how hedge basis adjustments should be considered when determining credit losses for the assets included in the closed portfolio. The ASU applies to all entities that elect to apply the portfolio layer method of hedge accounting. For public business entities, the ASU is effective for fiscal years beginning after 15 December 2022, and interim periods within those fiscal years. For all other entities, the ASU is effective for fiscal years beginning after 15 December 2023 and interim periods within those fiscal years. Early adoption is permitted. The ASU is available at www.fasb.org. ISSUE 123 | AIAWORLDWIDE.COM

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