CFM64030 - Accounts drawn up in a foreign currency: changes to the rules made by FA04 and FA05 applicable from 2005 onwards

FA04 and FA05 changes

FA 04: periods beginning on or after 1 January 2005

Changes to the Companies Act in 2005 meant that UK companies could draw up their accounts either in accordance with UK GAAP or with International Accounting Standards. At the same time new accounting standards were issued under UK GAAP to bring it more into line with IAS, including a new standard on accounting for foreign currencies. This meant that the currency accounting rules could no longer rely exclusively on SSAP 20. They had to accommodate IAS 21 ‘The Effects of Changes in Foreign Exchange Rates’, which was implemented into UK GAAP as FRS 23.

Adoption of either FRS 23 or IAS 21 is mandatory for listed entities for accounting periods beginning on or after 1 January 2005, and for companies using accounting policies consistent with the fair value measurement rules of the Companies Act for accounting periods beginning on or after 1 January 2006. Other entities have the option of adopting FRS 23, though only if they also apply FRS 26 ‘Financial Instruments: Measurement’. Companies that do not adopt FRS 23 or IAS 21 will continue to use SSAP 20 until the introduction of FRS 102.

With effect for company periods of account beginning on or after 1 January 2015, FRS 102, ‘The Financial Reporting Standard applicable in the UK and Republic of Ireland’, was a new UK standard that replaced all earlier standards. Accordingly, SSAP 20 could no longer be applied.

FRS 102 is closely aligned in its approach with International Financial Reporting Standards, though it is less detailed. The main alternatives to FRS 102, for UK companies, are (i) International Accounting Standards as adopted by the EU (required for certain companies), (ii) FRS 101 which is similar to IAS, but with a reduced disclosure framework or (iii) in the case of micro-entities which satisfy the necessary conditions, the very much simpler FRS 105, ‘The Financial Reporting Standard applicable to the Micro-entities Regime’.

See CFM64110 and CFM26000 for more on accounting standards and accounting for foreign currency translation.

The FA02 legislation (FA93/S93A - FA93/S94AB)) was repealed, and replaced by new sections 92A to 92E, (now at CTA10/S5 to 9). FA93/S92, which sets out the basic rule that CT profits are to be computed in sterling (CFM64100), was amended so as to admit further exceptions. The changes had effect for periods of account (not accounting periods) beginning on or after 1 January 2005. So, for example, if a company prepared accounts for an 18-month period beginning on 1 January 2004 - and therefore had an accounting period 1 January 2005 to 30 June 2005 - the new rules would nevertheless not apply until the start of the next period of account on 1 July 2005. This commencement provision applied even where a company incorporated outside of the UK may have been permitted or required to use IAS earlier than 1 January 2005.

The main changes from the FA02 legislation were as follows.

  • IAS 21 and FRS 23 allowed accounts to be drawn up in any currency. The currency in which the accounts are drawn up (the presentation currency) does not have to be the functional currency - in essence the currency of the economic environment in which the business was conducted.

The legislation was amended such that:

  • If accounts were prepared in a currency other than sterling, but the company identified sterling as its functional currency, profits and losses were computed as if it had drawn up accounts in sterling.
  • If accounts were prepared in a currency other than sterling, but the company identified a different currency, other than sterling, as its functional currency, profits and losses were computed as if it had drawn up accounts in that currency.
  • If accounts were prepared in a currency other than sterling, which the company identified as its functional currency, profits and losses were computed in that currency. This also applied to computations for the UK permanent establishment of a non-resident company.

Also:

  • Amounts were to be translated into sterling at an appropriate average rate for the period or at the spot rate applicable to a transaction.
  • There is no specific rule for dealing with cases where part of a business is calculated in a different currency.
  • Carry forward of losses, management expenses and non-trading loan relationship debits was in sterling only. (This was changed by FA09.)

FA 05

A rule was added to deal with the transition from the FA02 to the FA04 rules. The guidance has been deleted as obsolete.

More detail of the legislative history

Until the enactment of FA93 there were no legislative rules setting out how a company should deal with exchange gains and losses arising from transactions in foreign currencies, and no statutory basis for translating a foreign currency profit or loss into sterling to arrive at taxable profits. FA93 introduced rules on the tax treatment of exchange differences for the first time. FA02 changed the position such that exchange differences on loan relationships, money debts and derivative contracts were dealt with in what are now Parts 5, 6 and 7 of CTA 2009.

Accounts drawn up in a foreign currency continued to be dealt with in FA93. The rules were subject to a number of revisions in FA04, FA05 and FA09.

The changes made by FA09/SCH18 made significant changes to the rules relating to losses and other amounts carried forward or back to other periods. These changes had effect from a company’s first accounting period beginning on or after 29 December 2007. The legislation contained transitional rules and an election to defer the effects of the change until 1 July 2009. By this point the rules had largely assumed their current form.

On the rewrite of the Corporation Tax Acts, these provisions then became CTA10/PT2/CH4.

Changes were made in FA11 to allow companies to make designated currency elections in certain circumstances. This allowed the tax computation to be based on a different currency to the company’s functional currency. This was as a result of changes to the accounting rules which provided additional guidance for determining the functional currency of a company.

There was one further significant change, in FA13. This inserted CTA10/S9C, which may allow chargeable gains and allowable losses of companies to be calculated in a company’s functional or designated currency on a disposal of ships, aircraft or interests in shares.