Under UK and Ireland GAAP all entities -- with the exception of micro-entities preparing financial statements under FRS 105 The Financial Reporting Standard applicable to the Micro-entities Regime -- must select accounting policies for use in the preparation of the financial statements.
FRS 102 The Financial Reporting Standard applicable in the UK and Republic of Ireland defines accounting policies as:
"The specific principles, bases, conventions, rules and practices applied by an entity in preparing and presenting financial statements."
FRS 102 does not define the term accounting estimate, but the periodic review of UK and Ireland GAAP, finalised in March 2024, includes a new definition:
"Monetary amounts in financial statements that are subject to measurement uncertainty."
It is important to emphasise that an accounting estimate is not an accounting policy. The estimate is a relevant part of applying an entity's accounting policy and hence estimates form part of the accounting policy disclosure.
Where an entity must make significant estimates and judgements, these should be disclosed separately, usually as a sub-section of the accounting policies section. Examples of significant estimates and judgements include the revaluation of a non-current asset, amounts recognised in a defined benefit pension plan and amounts used in arriving at fair values.
Distinguishing between accounting policies and accounting estimates is important:
- A change in an accounting policy is applied retrospectively, and the prior year's financial statements are restated.
- A change in an accounting estimate is applied prospectively, and the change is applied in the current period and moving forwards -- no retrospective restatement is necessary.
FRS 102, para 10.8 only allows a change in an accounting policy in two situations:
- The change is required by an FRS.
- The change is made by management of an entity so that the financial statements provide reliable and more relevant information about the effects of transactions, other events or conditions on the entity's financial position, financial performance or cash flows.
Developing an accounting estimate should be done with care, and we should consult the standards to ensure we do it correctly. This will involve the entity:
- Selecting a measurement technique, such as determining estimated selling price less costs to complete and sell for an item of inventory under FRS 102 Section 13 Inventories.
- Selecting the inputs to be used when applying a chosen measurement technique -- for example, determining the expected cash outflows when determining a provision for warranty costs under FRS 102, Section 21 Provisions and Contingencies.
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