Easing the Move to Component Accounting
The deadline for IFRS compliance may still be several years ahead for housing associations, but there is a clear requirement to begin to meet the demands of Statement of Recommended Practice (SoRP) 2008 by the end of this financial year. Yet organisations are only now facing up to the enormity of the challenge, from the implications of component accounting on depreciation to the new data and reporting processes required.
From scoping the project to creating and reconciling data, a manual approach to component accounting could take years for the larger housing associations – always assuming the resources are available. In contrast, a streamlined approach that combines depreciation modelling with data migration and automated reconciliation based on industry best practice can transform the speed and cost of SoRP 2008 and IFRS compliance.
While International Financial Reporting Standards (IFRS) have been fully adopted by local government authorities for the 2010/11 Statement of Accounts, the legislation has not yet come into force for the housing sector. However, with SoRP 2008 advising that housing associations adopt the required processes – in particular relating to component accounting – sooner rather than later, organisations must consider the options available now.
The primary impact of the shift to SoRP/IFRS is the adoption of component accounting. For example, whereas a housing block, or indeed an entire housing scheme, will be recorded as a single asset at present, IFRS and component accounting requires that each block is split into units, and that each unit is then split into different component assets, including land as well as replaceable elements such as kitchens, bathrooms and heating.
While the mere process of attaining and reconciling this detailed information is a massive administrative challenge, the major consideration for housing associations is the impact on rates of depreciation. As the early adopters of SoRP 2008 have discovered, moving from a standard unit-based depreciation model to one that incorporates different rates of depreciation for different components and has to allocate different proportional values to each category, can have a dramatic effect on the overall monthly depreciation figure.
This sudden shift in depreciation, and its impact on the profit and loss (P&L), has raised significant board-level concerns. It is therefore essential, before any work is done to compile and reconcile data, to undertake depreciation modelling within reasonable tolerances so as to attain a model that both supports component accounting and enables the housing association to continue to raise finance and meet growth plans.
It is only once this modelling has been undertaken and signed off by both the board and auditors that an association should begin the process of creating the new data source.
However, this process, when addressed manually using spreadsheets, is highly time-consuming and resource-intensive. Indeed, some of the larger housing associations have taken over a year to combine the scheme or unit level asset information typically held within the finance system with the more detailed information held within property management systems, such as replacement programme data. Furthermore, with limited guidance either within the SoRP regulations or from auditors, associations are often unsure exactly how best to proceed, especially concerning how much or little detail to go into and how to allocate component values.
As a result, even when the component data source is created, organisations then struggle to reconcile this information to ensure its accuracy and to then impose suitable rules to allocate proportional component value to the overall unit value. Furthermore, this information is typically still languishing in a spreadsheet, making it extremely difficult for a housing association to undertake the ongoing activity required to update asset information, such as the existence of new kitchens or boilers following refurbishment.
The good news is that several large associations have already been through this pain and have one or two years’ audited accounts to prove the point. Their experience has provided a clear best practice model that other organisations can leverage to both speed up the process and improve the quality of the component accounting model.
By combining a proven database matrix with best practice experience of how best to create a profile for each property archetype and allocate proportionate component costs, asset and property management information can be quickly combined, providing housing associations with, in a single step, accurate information directly loaded into asset management software.
There is no doubt that SoRP/IFRS-led changes will have a big impact upon every housing association – more in depth information and new accounting practices will require additional resources. It is therefore no surprise that many are questioning the value of the upheaval and hoping for ongoing leniency from the auditors.
But there is also a general acceptance that this cannot be avoided. SoRP is an excellent interim step towards IFRS and those housing associations that gain real understanding of the implications of component accounting today will be far better placed to address IFRS when required. The objective must be to make the transition as painless as possible, from ascertaining the implications for asset depreciation to streamlining the data preparation and leveraging best practice to implement the new complex component value calculations.