Technical update

IASB

The IASB has published an exposure draft, Fair Value Hedge Accounting for a Portfolio Hedge of Interest Rate Risk, proposing improvements to the implementation of IAS 39, Financial Instruments: Recognition and Measurement. If adopted, the proposals would enable fair value hedge accounting to be used more readily for a portfolio hedge of interest rate risk (sometimes referred to as 'macro hedging'). The ED retains the basic principles behind IAS 39 while aiming to reduce the cost of compliance.

The exposure draft proposes the following:

• in a fair value hedge of the interest rate risk associated with a portion of a portfolio of financial assets (or financial liabilities), the hedged item may be designated in terms of an amount of assets (or liabilities) in an expected maturity time period, rather than as individual assets or liabilities or the overall net position. It also proposes that the entity may hedge a portion of the interest rate risk associated with this designated amount
• it proposes that all of the assets (or liabilities) from which the hedged amount is drawn must be items that could have qualified for fair value hedge accounting if they had been designated individually. In the case of financial liabilities included in the balance sheet that a counterparty can redeem on demand (i.e. demand deposits and some time deposits), the IASB concluded that the fair value of such liabilities is not less than the amount payable on demand and do not change with changes in the interest rate. Including such liabilities (i.e. demand deposits and some time deposits) in a fair value hedge would imply that its fair value changes with interest rates, which is inconsistent with the IASB's decision. It follows that a financial liability that the counterparty can redeem on demand cannot qualify for fair value hedge accounting for any time period beyond the shortest period in which the counterparty can demand payment
• the amount of the assets (or liabilities) designated as the hedged item in a maturity time period determines the percentage measure that is used to evaluate hedge effectiveness. Any ineffectiveness is recognised in the profit and loss account
• for qualifying fair value hedges, the adjustment arising due to the gain or loss attributable to the hedged item due to a change in the hedged risk may be presented in the following manner: (a) in a separate line item within assets, if the hedged item for a particular maturity time period is an asset, or (b) in a separate line item within liabilities, if the hedged item for a particular maturity time period is a liability.

The separate line items referred to in (a) and (b) above are to be presented in the financial statements next to financial assets or financial liabilities. Amounts contained in these line items will be removed from the balance sheet when the assets or liabilities to which they relate are derecognised.

The release of the ED is part of the IASB's continuing process of improving and easing the implementation of IAS 39. The IASB published its first round of proposed improvements for public comment in June 2002. Based on the comments received and a series of public roundtable discussions held in March 2003, the IASB launched intensive discussions with interested parties, including banking representatives, to find a way within the principles of IAS 39 to accommodate macro hedging. Whilst the discussions did not produce complete agreement on the measurement of hedge ineffectiveness and deposit liabilities, the IASB's approach set out in the exposure draft would mark an important advance by permitting macro hedging. Furthermore, consistently with the IASB's established due process, the Basis for Conclusions on the Exposure Draft includes a discussion of all views considered, including those of the bank representatives. The Invitation to Comment raises questions about hedge ineffectiveness and deposit liabilities.

The IASB invites comments on the exposure draft by 14 November 2003. The complete text of the exposure draft Fair Value Hedge Accounting for a Portfolio Hedge of Interest Rate Risk is available from the IASB website. Copies of the ED (ISBN 1 904230 31 8) are also available, at £5 each (8 euros/US$7) including postage, from the on-line bookshop, or contact: IASCF Publications Department, 1st Floor, 30 Cannon Street, London EC4M 6XH, UK. Tel: +44 (0)20 7332 2730. E-mail: publications@iasb.org.uk.

In September the International Financial Reporting Interpretations Committee (IFRIC) released Draft Interpretation D2, Changes in Decommissioning, Restoration and Similar Liabilities. The proposed Interpretation contains guidance on accounting for certain changes in decommissioning, restoration and similar liabilities that are recognised both as part of the cost of an item of property, plant and equipment in accordance with IAS 16, Property, Plant and Equipment, and as a liability in accordance with IAS 37, Provisions, Contingent Liabilities and Contingent Assets.

The proposal addresses accounting for changes in:

• the estimated outflow of resources embodying economic benefits (e.g. cash flows)
• the current market-assessed discount rate, and
• an increase that reflects the passage of time (also referred to as the unwinding of the discount).

The main changes dealt with in the Interpretation are those that arise from (i) the revision of estimated outflows of resources embodying economic benefits and (ii) revisions to the current market-assessed discount rate. Under the proposed Interpretation, these two changes are accounted for in the same manner as the initial estimated cost. Hence, amounts relating to the depreciation of the asset that would have been recognised to date are reflected in current period income or expense and amounts relating to future depreciation are capitalised. This approach views the asset, from the time the liability for decommissioning is initially incurred until the end of the asset's useful life, as the unit of account to which decommissioning costs relate.

In the spirit of convergence, the IFRIC considered the US GAAP approach in Statement of Financial Accounting Standards No. 143, Accounting for Asset Retirement Obligations and, in particular, that changes in estimated cash flows are capitalised as part of the cost of the asset and depreciated prospectively, and the decommissioning obligation is not required to be revised to reflect the effect of a change in the current market-assessed discount rate. The IFRIC did not choose this approach because IAS 37, unlike SFAS 143, requires a decommissioning obligation to reflect the effect of a change in the current market-assessed discount rate. The IFRIC agreed that it was important that any Interpretation it developed should deal consistently with changes in estimated cash flows and changes in the discount rate.

The complete text of the draft Interpretation is freely available from the IASB's website (www.iasb.org.uk). The proposal is open for public comment until 3 November 2003.

IFAC

IFAC's International Auditing and Assurance Standards Board (IAASB) has proposed that auditors take a more active role in seeking out fraud. Meeting in New York in July, the IAASB approved the release of an exposure draft of an International Standard of Auditing (ISA), entitled The Auditor's Responsibility to Consider Fraud in an Audit of Financial Statements (ISA 240).

The ED sets out the auditor's responsibility to consider fraud in an audit of financial statements. It explains that the primary responsibility for the prevention and detection of fraud rests with both those charged with governance and management of the entity and describes the responsibilities of these parties.

The exposure draft also alerts auditors to risks of material misstatement due to fraud they may encounter in the conduct of an audit and requires the auditor to assess the risks of material misstatement due to fraud and to respond to the assessed risk.

The proposed ISA requires the auditor to respond to the presumed risk of improper revenue recognition and the risk of management override of controls. The response would include testing the appropriateness of journal entries, reviewing the accounting estimates for biases and obtaining an understanding of the business rationale of significant transactions that are outside the normal course of business for the entity. It also discusses auditor communications with management and those charged with governance, as well as auditor communications to regulatory and enforcement authorities.

The IAASB has also taken action to strengthen and clarify the IAASB's international standard setting role and process by issuing amended terms of reference and a new Preface to International Standards on Quality Control, Auditing, Assurance and Related Services. The Preface includes new terms of reference for the Board, clarifying the IAASB's role as an independent standard setting body under the auspices of IFAC. It also highlights the Board's public-interest responsibilities and emphasises its objective of achieving convergence of standards by working closely with national standard setters.

The IAASB's July meeting also resulted in approval for the release of a second exposure draft, entitled Planning the Audit (ISA 300). The ED complements the IAASB's proposed guidance on audit risk issued in October 2002. It includes basic principles and essential procedures on the considerations and activities applicable to planning an audit of financial statements. In particular, it provides new guidance on matters the auditor should consider prior to performing significant planning activities: client acceptance and retention; ethical requirements including independence and communications with prior auditors; and the terms of the audit engagement. The ED also incorporates more specific guidance regarding planning considerations in initial audits and includes a discussion of the planning considerations related to the direction, supervision and review of the work of engagement team members.

The exposure drafts can be viewed via IFAC's website at www.ifac.org/EDs. Any comments must be submitted by 15 November 2003 to Edcomments@ifac.org, faxed to the IAASB technical director at +1 212 286 9570, or posted to the IAASB technical director at IFAC, 545 Fifth Avenue, 14th Floor, NY, NY 10017, USA.

FEE

In September FEE launched a Discussion Paper on the Financial Reporting and Auditing Aspects of Corporate Governance, offering practical recommendations designed to strengthen corporate governance and to increase confidence in financial reporting. The recommendations highlight the role that the audit committee should play within listed companies in future.

FEE's key recommendations for sound corporate governance include the following:

• all listed companies should have an audit committee function discharged by non-executive directors or supervisory board members where, at a minimum, the majority of the committee's members are independent. Entities not having an audit committee should disclose their reasons in a corporate governance statement, as well as explaining how the audit committee function has been discharged
• audit committees' core responsibilities should include: reviewing financial reporting arrangements (including internal control); monitoring of the relationship with the external auditor; and monitoring of the work and resources of the internal audit function
• the audit committee should establish a policy on purchasing non-audit services in line with applicable legislation. The audit committee's report should set out that policy and explain its assessment that there are sufficient safeguards to ensure independence in relation to the provision of those services
• companies should be required to make a comprehensive corporate governance statement in their annual report. Information on the audit committee's responsibilities and activities should be given
• the use of extended (long form) reports by the external auditors in combination with presentations and discussions should be explored by boards. These facilitate more informal and in-depth exchanges of views between the auditor and the audit committee or board
• concerning internal control, the board should ensure a regular evaluation of the nature and extent of the risks to which the company is exposed and the controls to manage them
• boards should ensure their company has an ethical code emphasising integrity and that they and their staff understand and apply it
• there is no need for a separate European Corporate Governance Code. However, some principles and common benchmarks for national codes should be set at European level
• in a unitary board, the roles of chairman and chief executive should be held by different people balanced by a strong independent non-executive element. In a two-tier structure, at least for listed companies, the management board should have further members in addition to the chief executive.

The Discussion Paper can be downloaded free of charge from FEE's website (www.fee.be).

UK

Financial reporting

The ASB has issued a supplement to FRED 30, entitled Financial Instruments: Fair Value Hedge Accounting for a Portfolio Hedge of Interest Rate Risk. The supplement is based on an exposure draft published by the IASB that proposes changes to the hedge accounting requirements in IAS 39, Financial Instruments: Recognition and Measurement.
IAS 39 permits hedge accounting to be used only if certain principles are followed. But commentators have expressed their concerns that IAS 39 restricts the availability of hedge accounting for portfolio hedges of interest rate risk. In response, the IASB has proposed some changes so that it is easier to use hedge accounting for some macro hedges without departing from the overall principles.
Comments on the supplement are invited by 14 November.

In September, the IASB's International Financial Reporting Interpretations Committee (IFRIC) published Draft Interpretation D2, Changes in Decommissioning, Restoration and Similar Liabilities. Entities in some industries have obligations to dismantle and remove plant and equipment and to restore property from environmental damage. UK and IFRS contain similar requirements for recognising and measuring such liabilities, which may be estimates of expenditure that will be incurred many years in the future.
The IFRIC draft proposes that where a liability is revised as a result of a change in the estimated future cash outflows or a change in the discount rate, the change should be added to or deducted from the related asset to the extent the change relates to the portion of the asset that will be depreciated in future periods. The ASB notes that this issue is addressed in FRS 12, which requires that where a provision or a change in a provision is recognised, an asset should also be recognised when the incurring of the present obligation recognised as a provision gives access to future economic benefits; otherwise the setting up of the provision should be charged to the profit and loss account. This principle does not conflict with the IFRIC draft, although FRS 12 does not specify that the change in a liability should be allocated between capital and income or expense in the way the IFRIC draft proposes.
The IFRIC has requested comments on the draft by 3 November.

Employment law

Unfair dismissal and bankruptcy
In Grady v HM Prison Service (2003) IRLR 474, the Court of Appeal decided that a bankrupt applicant can pursue a complaint of unfair dismissal. Such a claim is personal to the applicant and is not a 'thing in action' which vests in the trustee in bankruptcy. In essence, a claim for which the principal remedy is reinstatement is personal, rather than proprietary. According to the Court of Appeal, the claim is of a unique kind which offers the restoration to the claimant of something which only the claimant can do. To vest it in the trustee in bankruptcy would be of no appreciable benefit to the creditors, except to the extent that it might produce a money settlement and "the creditors will probably be better served if the bankrupt can get her job back or a similar job in its place".

Post-employment discrimination
In Rhys-Harper v Relaxion Group Plc, etc (2003) IRLR 484, the House of Lords considered three appeals concerning whether discriminatory acts of an employer following termination of employment fall within the scope of the legislation prohibiting discrimination on the grounds of sex, race and disability. Their Lordships held that an employment tribunal has jurisdiction under the Sex Discrimination, Race Relations and Disability Discrimination Acts to consider a complaint of discrimination which relates only to acts which are alleged to have taken place after the complainant's employment has come to an end.

Age discrimination
The DTI is consulting on how the UK should implement the European Employment Directive which prohibits age discrimination in employment and vocational training. The consultation document, Age Matters, seeks views on various policy aims including:

• the abolition of mandatory retirement ages that are not objectively justified
• the possibility of a default retirement age of 70, at which employers could legitimately retire employees
• proposed legitimate aims that employers, exceptionally, could use to justify the retention of a small number of age-related practices, and
• changes to the legislation in respect of unfair dismissal and redundancy payment entitlements.

• facilitating voluntary agreements, rather than laying down detailed rules that apply to everyone
• allowing pre-existing agreements that have both workforce and employer approval to continue, and
• ensuring that arrangements agreed with the workforce cannot be overturned by a small minority of employees.

Taxation

Inland Revenue publications
The following new manuals and booklets have been published.

• Employment Income Manual which is similar in many ways to the existing manual, but incorporates all necessary references to the Income Tax (Earnings and Pensions) Act 2003.
• Community Investment Tax Relief Manual
• IR40 (CIS). A revised version of the leaflet has been published. All these documents can be viewed on the IR website.

• a short term investment product
• a medium term investment product
• a pooled investment product.

• The Corporation Tax (Treatment of Unrelieved Surplus Advance Corporation Tax) (Amendment) Regulations 2003. Sl 1861/2003. These regulations are consequential on principal life assurance regulations.
• The Insurance Companies (Taxation of Reinsurance Business) (Amendment) Regulations 2003. Sl 1828/2003. These regulations amend the 1995 regulations.
• The Life Assurance (Apportionment of Receipts of Participating Funds) (Applicable Percentage) Order 2003 Sl 1860 2003. This order replaces Sl 1541/1990 for periods of account ending after 6 August 2003.
• The Finance Act 2003 Schedule 22 para 3 (1) Appointed Day Order 2003 (Sl 1997/2003). This order appoints 1 September 2003 as the day from which Schedule 22 para 3 (1) FA 2003 has effect.
• The Tax Credits (Provision of Information) (Function relating to Employment and Training Regulations) 2003. (Sl 2042/2003). These regulations allow for the provision of information on job retention and career advancement under s2 Employment and Training Act 1973.
• The Income Tax (Authorised Unit Trusts) (Interest Distributions) Regulations 2003. Sl 1830/2003. These regulations replace Sl 2318/1994.
• The open ended Investment Companies (Tax) (Amendment) Regulations 2003. Sl 1831/2003. These regulations amend Sl 1154/1997.
• The Capital Allowances (Energy Saving Plant and Machinery) (Amendment) Order 2003. Sl 1744/2003. This applies to revised lists published on 15 January 2003 and makes certain other extensions.
• The Charitable Deductions (Approved Schemes) (Amendment) Regulations 2003. Sl 1745/2003. This refers to the extension of the 10% supplement on payroll giving up to 5 April 2004.
• The Double Taxation Relief (surrender of Relievable Tax within a Group (Amendment) Regulations 2003. Sl 1829/2003. This amends the position for insurance companies in accordance with schedule 33 FA 2003.