Following publication of the first Triennial Review of FRS 102, a few incremental improvements and clarifications have been made. In this blog post, we consider the changes in relation to gift aid payments. This is relevant to both charities themselves and companies in a wholly owned group, where the charity owns the trading company and the trading subsidiary distributes its profits to its parent through a tax efficient gift aid donation.
Prior to the amendment
It has been common practice to recognise a gift aid payment (as an expense in profit and loss) on the strength of a pre year board minute demonstrating an intention to distribute profits. The tax treatment followed the accounting treatment and, assuming all taxable profits were donated to the parent, no corporation tax charge arose providing that the donation was paid within nine months of the company’s year end date.
It was recently established that gift aid payments are distributions in law. FRS 102 has now caught up with this principle, clarifying that gift aid payments must be recognised as equity rather than P&L account transactions – in the same way that dividends do. In addition, the recognition of gift aid payments is aligned with dividends, so payments must not be recognised unless both 1) there are sufficient distributable reserves and 2) the donation has either been paid or there is a legal obligation to do so.
There is currently no clear consensus on whether this change in recognition should be presented as a prior period adjustment.
Non-intuitively the tax treatment does not follow the accounting treatment in that a gift aid donation can still be pre-empted for corporation tax purposes, providing there is an expectation that the donation will be paid within nine months of the company’s year end date. So, companies can take account of the anticipated tax relief for the year regardless of whether the gift aid payment is recognised, and they are not required to reflect the difference as part of deferred tax.
When does this change come in to effect?
The vast majority of amendments from the Triennial Review are effective for accounting periods beginning on or after 1 January 2019 and can only be early adopted provided all amendments are early adopted. The tax effect of gift aid payments is excepted from this rule though and can be separately early adopted. This means it is consistent with the clarified recognition rules for gift aid payments themselves.
How to proceed?
We see three potential ways to address this change:
- Simply adopt the new recognition requirements and recognise gift aid payments as they are paid. This would mean that 2018 donations would be recognised in the 2019 year when they are actually paid. However, to avoid an anomalous year where no gift aid donation is seen, a prior period adjustment could be made to present figures as if the principle had always been in place e.g. the donation recognised in the 2017 year end accounts will now be recognised as a payment in 2018 year end accounts and so on.
- Make a payment on account pre year end. This will be based on a best estimate of profits of the trading subsidiary but will always need to be corrected post year end. This method may have impacts on the cash flow situation of the subsidiary though – particularly in the transition year when effectively two gift aid payments will be made.
- Put a deed of covenant in place. A deed of covenant creates a legal obligation for the trading subsidiary to distribute all of its taxable profits to its parent (that are legally distributable). As the obligation is legal, the subsidiary can recognise the gift aid payment before it is paid e.g. pre year end. While this route may seem advantageous, it is restrictive and will not take into account any reserves that the trading subsidiary may need to retain for working capital or other purposes. Should you decide to opt for this vehicle, the deed of covenant must be fully approved and in place by the year end date.
Careful thought is needed now on how best to proceed for your charity/company so that any decisions can be implemented pre year end before it is too late to change.
If we can help further, please do get in touch with our Charity Accounting and Advisory team. We would be happy to help.