FRC asks for comments on proposed changes that reflect developments in legislation and regulation
The Financial Reporting Council (FRC) has asked for comments on its proposed revisions to Practice Note 11: The audit of charities in the United Kingdom, by 25 August. It has stated that a final version will be issued in 2017, with the revised PN stating that it would apply to financial statements for periods commencing on or after 17 June 2016.
Practice Note 11 was last updated in 2012 and the FRC states that the update is required to incorporate ‘changes to the legislative and regulatory framework and developments in accounting and audit framework, including the issuance of a new Charities SORP’. It also highlights that charities have been under scrutiny, with the FRC stating that they ‘have also been the subject of extensive press, public and Parliamentary interest of late, and this revision of the Practice Note seeks to incorporate lessons learned.’
The Charity Commission for England and Wales in its latest Accounts Monitoring Review highlights that both auditors and independent examiners need to consider actions by trustees. The commission states that:
‘the trustees of charities that are late in filing may need additional help and support in meeting their legal obligations
late filing is often indicative of wider governance problems in a charity
it is the responsibility of an independent examiner to check that their charity client is eligible for independent examination.’
The revised PN11 will be of use to many auditors as it contains charity-specific guidance on the ISAs that were updated in June 2016, as well as legislative changes such as the Charities Act 1992 Section 59 (as amended by the Charities (Protection and Social Investment) Act 2016) requirement that there is an agreement in a prescribed form between the charity and a fundraising organisation.
The practice note has been halved in length and is now 71 pages. Many sections have been removed, including appendices 2 to 7, with some of the material being incorporated into the main text. For example, reporting matters of material significance to charity regulators, previously included in ISA (UK) 250 Section B and Appendix 5, now has its own section.
The appendix on charity accounting and audit regulations has been retained. There is a new appendix, ‘Conditions and events that may indicate risks of material misstatement’, which sets out conditions and events that may give rise to a risk of material misstatement specific to charities. There is also additional guidance regarding materiality, going concern and other information.
The section ‘Conditions and events that may indicate risks of material misstatement’ also contains examples of ‘conditions and events that may indicate the existence of risks of material misstatement in the financial statements’ specific to charitable organisations. It includes general areas such as failure to act in accordance with the trust documentation through to specific tax areas that may cause issues. Caveats are in place highlighting that it is not a comprehensive list and may not apply to all charitable organisations. However, it would be useful for it to be highlighted as part of the audit briefing.
The section ‘Responsibility for the prevention and detection of fraud’ is an area that auditors will need to consider. It’s highlighted that ‘the trustees of a charity are responsible for the prevention and detection of fraud in relation to the charity, even if they have delegated some of their executive functions to senior staff. The trustees are expected to safeguard charity assets and reserves through the implementation of appropriate systems of control.’ The section states that the ‘auditor of a charity is responsible for forming an opinion as to whether financial statements show a true and fair view and to this end the auditor plans, performs and evaluates the audit in order to have a reasonable expectation of detecting material misstatements in the financial statements arising from error or fraud.’ Specific mention is also made that in ‘planning, performing and evaluating the audit work the auditor considers the risk of material misstatement arising from breaches of trust.’ The section ‘Evaluation of fraud risk factors’ highlights charity-specific factors that need to be considered in addition to those in ISA 240. Key risks include:
the limited involvement of trustees in key decision-making or monitoring transactions, and limited engagement with charity staff
widespread branches or operations, such as those established in response to emergency appeals in countries where there is no effective system of law and order
reliance on volunteers and staff with limited management or supervision and a lack of segregation and rotation of duties
transactions (income and expenditure) often undertaken in cash
unpredictable patterns of giving (in cash, by cheque and through donations in kind) by members of the public, both in terms of timing and point of donation.
The guidance retains the note that charitable companies that do not exceed the Companies Act 2006 audit threshold may elect to take advantage of the audit exemption conferred by section 477 of the Companies Act 2006. However, charitable companies that are eligible for audit exemption under the Companies Act 2006, but are above the lower threshold for audit contained within charity law, must receive an audit under charity law if they elect not to be audited under the Companies Act 2006.
It also explains that care needs to be taken to understand the interaction between Companies Act 2006 and the relevant Charities Acts: ‘For charitable companies claiming audit exemption under the Companies Act 2006, the legal requirements for audit are provided in the relevant Charities Acts. A small charitable company that is eligible for audit exemption under Companies Act 2006 but does not claim this exemption continues to be audited under Companies Act 2006 and in England and Wales no additional audit requirement arises under the 2011 Act (E&W). For charitable companies that do claim audit exemption and comply with Section 475(2) to (4) of the Companies Act 2006, which requires a statement on the face of the balance sheet confirming that the company is entitled to audit exemption, the audit arrangements referred to in the auditor’s reports are the 2011 Act (E&W) and the 2005 Act (Scotland).’
The FRC states that ‘For charitable companies below the Companies Act 2006 audit threshold and claiming exemption but above the thresholds of the relevant Charities Acts, this could be achieved by a statement such as:
For the year ended [date] the company was entitled to exemption from audit under Section 477 of the Companies Act 2006 relating to small companies but as this company is a charity, it is subject to audit under the [Charities Act 2011/Charities and Trustee Investment (Scotland) Act 2005/Charities Act (Northern Ireland) 2008].
The members have not required the company to obtain an audit of its accounts for the year in question in accordance with Section 476 of the Companies Act 2006.
The directors acknowledge their responsibilities for complying with the requirements of the Companies Act 2006 with respect to accounting records and the preparation of accounts.
These accounts have been prepared in accordance with the provisions applicable to companies subject to the small companies’ regime.’
The revised suggested statement is, with the exception of the Charities Act 2011 and inclusion of the Charities Act (Northern Ireland) 2008, unchanged from the practice note updated in 2012.