Accounting

Reserves

The Teachers’ Pension Scheme is not accounted for under FRS 17, but balances on other defined benefit schemes may well have been brought onto the balance sheet for the first time this year. This feature considers the impact on reserves. By Stephen Fisher

How do we show the deficit in reserves?
In accordance with SORP 2005, a separate pension reserve is disclosed. This reserve is a debit mirroring the liability within net assets and it will be in unrestricted funds unless elements can clearly be allocated to restricted funds.

What is the effect on free reserves?
The short answer is: “it depends”. While the liability reduces the total reserves, note that the liability will not crystallise immediately nor will it crystallise at the same monetary amount. Hence, the pension deficit does not necessarily reduce free reserves but does need detailed thought in the context of the reserves policy.

Should a designated fund be set up too?
Generally, no. This is illustrated by the following scenarios:

School A has unrestricted reserves of £5 million and a negative pension reserve of £1 million. However, it does not follow that £1 million of the unrestricted reserves should be earmarked to “cover”. Based on actuarial advice (on a different basis to FRS17), School A will increase its contributions to  the scheme by £150,000 for each of the next five years. According to its projections, it will be able to fund the additional payments from future  ashflows without drawing on reserves or reducing activity significantly. Hence, a designated fund is not appropriate.

Contrast with School B, which has unrestricted reserves of £5 million and a negative pension reserve of £2 million. School B is to make a £1 million one-off payment in the next year and will make additional contributions of £150,000 for five years. Based on its projections, £800,000 of the contributions will be met from future income, with the rest being funded from reserves. Therefore, School B may designate a fund of £950,000 in respect of pensions [that is, £1 million + (£150,000 x 5) – £800,000 = £950,000]. This scenario is expected to be rare.

What if full implementation puts the school in a net liability position?
School C has total funds of £10 million and a pension liability of £12 million, hence a negative total fund of £2 million. Its position is worsened by a large proportion of reserves being tied up in buildings.

School C is technically insolvent – its liabilities exceed its assets – but this does not automatically mean that it is not a going concern, because the FRS17 liability does not represent an immediate cash outflow of £12 million. However, it is a warning signal. Detailed scrutiny of the impact of future pension contributions on cashflow is needed.

What is the impact on reserves policy?
One could argue that there is none, on the basis that the impact of the school’s commitment to defined benefit schemes should have been considered already. In practice, FRS17 has highlighted pension liabilities as one of the many risks that schools face and it will figure more prominently in governors’ consideration of the adequacy of reserves.

Does any of this enhance the clarity of a school’s financial reporting?
School accounts are often complicated and it is true that many “lay” users of them may struggle with their interpretation.

On full implementation of FRS17, a school will show a liability of £X and a pension fund of £-X on its balance sheet. Arising from this liability, it will make payments of £Y and, in rare cases such as in School B, designate a fund of £Z. This, however, does not make for greater clarity.

As ever, preparers of accounts should clarify matters as far as possible through clear, transparent narrative in the financial review section of the governors’ report.

Stephen Fisher is the senior charities manager for haysmacintyre. Stephen can be contacted on 020 7969 5595 or sfisher@haysmacintyre.com

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