FRS17 rules could make small businesses appear insolvent

UK businesses must take action now to avoid potentially dire consequences of accounting standard FRS17, warn PKF accountants and business advisers.

FRS17 'Retirement benefits' forces UK businesses within its scope to account for any surplus or deficit in a defined benefit pension scheme. Until now, these have merely had to be disclosed in the notes to the accounts but for periods beginning on or after 1 January 2005 they will have to be included in the balance sheet. This could result in a solvent business suddenly appearing insolvent when it has to include its pension scheme deficit - which may be huge - in its accounts.

Whilst accounting for a surplus or deficit does not, of itself, improve or worsen the employer's financial position, it may have consequences such as:

• causing breaches of borrowing covenants;
  
  
• affecting management remuneration schemes that are based on results; and
  
  
• precluding a company from paying dividends.

Philip Long, head of corporate recovery at PKF, said: "FRS17 surpluses or deficits should be included in balance sheets for accounting periods beginning on or after 1 January 2005, and while the majority of businesses have included these figures in the notes to previous accounts, they haven't yet affected the bottom line. Many business owners may be surprised to find they are insolvent on paper when they do and by this time it may be too late. If enough businesses fail to act it could spell disaster for UK insolvency rates.

Vicky Summers, employee benefits consultant at PKF Financial Planning Ltd, said: "Businesses need to seek advice now to minimise the impact of a likely pension scheme deficit. In many cases there may be ways of capping the deficit."

The surplus or deficit calculated under FRS17 is based on the estimated cost of providing the benefits earned to date by employees. The volatility of such estimates, along with the lack of understanding about the rule, is leading to nervousness across the business community.

One business which has disclosed FRS17 figures in its accounts for the last three years has seen the pension scheme deficit almost double over this period, even though it has experienced good investment returns on the scheme assets and has increased contributions into the scheme.

The best advice is not to leave it too late – seek help now.