The Scottish Government

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2. Background

In 2000 the Scottish Executive established the Scottish Charity Law Review Commission (the McFadden Commission) in 2000 to consider reforms to charity regulation. We responded to the commission's recommendations in December 2002, agreeing to take them forward, although legislative time was not available at that point.

On 15 November 2004 the Charities and Trustee Investment (Scotland) Bill was introduced to Parliament following extensive consultation. ( http://www.scottish.parliament.uk/business/bills/index.htm) The changes in charity regulation that the Bill puts in place are designed to support and encourage charitable activity in Scotland, while reassuring the public that their money is being well used and that support is being properly provided. The proposed accounting regulations outlined here are integral to this.

As stated in the consultation paper issued with the draft Bill in June 2004 ², the Bill is motivated by the Executive's belief that there is a clear public interest in the effective regulation of charities in Scotland. For regulation to be effective, it must promote five key principles ³. It must be:

independent

proportionate

accountable

transparent

consistent.

Our proposals for the accounting regulations are intended to follow those principles.

The Home Office is also currently taking forward reforms to charity legislation in England and Wales including revising their accounting regulations. For more details of Home Office plans and a copy of their draft charities Bill and proposed accounting regulations visit their website at www.homeoffice.gov.uk/comrace/active/charitylaw/index.html.

Consistency with UK Accounting Standards

The way in which UK accounting standards apply to the accounts of charities is set out in Statements of Recommended Practice ( SORPs) endorsed by the Accounting Standards Board. SORPs supplement the accounting standards and legal requirements and conform to the Accounting Standards Board's ( ASB) code of practice. They are developed for specialist sectors and provide recommendations on accounting practices. SORPs have been issued which cover the special accounting needs of institutions of Higher and Further education and registered social landlords. Outside these specialist needs, the SORP "Accounting and Reporting by Charities" (the Charities SORP) is the relevant embodiment of UK accounting standards for charities. The Charity Commission recently published the exposure draft of the revised Charities SORP, which has now been adopted by the ASB. This revised SORP reflects the changes in accounting practices and the drive for charities to be more open and accountable in their reporting, providing a clearer link between their objectives, activities and results.

It is important that the regulations are flexible enough to adapt to the changes within the sector and to accounting practices and we propose that the regulations rely on the charities SORP to accommodate this. The principles of openness and accountability encompassed in the Charities SORP are a key part of the proposed charity regulation in Scotland and we believe they are essential to the future development and prosperity of the sector. By adopting the charities SORP the regulations will meet accepted standards of best practice in accounting and will adapt as accounting practices change.

The charities SORP applies to charities producing fully accrued accounts and so our proposals include specific provision for smaller charities that choose to produce accounts on a simpler receipts and payments basis.

Current Requirements

The current accounting requirements for charities are set out in the Charities Accounts (Scotland) Regulations 1992 under the powers in the Law Reform (Miscellaneous Provisions) (Scotland) Act 1990. They apply to all Scottish based charities except designated religious bodies and registered and unregistered companies. Certain exemptions were granted by the Charities (Exemption from Accounting Requirements)(Scotland) Regulations 1993.

The regulations provide that charities with an income of less than £25,000 may produce a simplified statement of accounts otherwise charities must produce fully accrued accounts. If a charity's income or expenditure exceeds £100,000 then a full audit is required, for all other charities their accounts should be subject to independent examination by someone the trustees reasonably believe "to have the requisite ability and practical experience to carry out a competent examination" ⁴. The examination of the accounts by somebody who is independent and competent is the key issue here and the definition is not restricted to qualified accountants. We intend to continue to use this definition in the new regulations.

For those charities with an income of over £25,000 the statement of accounts must include:

1. an income and expenditure account
2. a balance sheet
3. notes to the accounts
4. an annual report

Charities with an income less than £25,000 the statement must include:

1. a receipts and payments account
2. a statement of balances
3. notes to the accounts
4. an annual report.

Charitable companies are subject to the accounting provisions in the Companies Act 1985 and must provide annual accounts which include:

1. an income and expenditure account
2. a balance sheet
3. an auditors report (if appropriate)
4. a directors report

Charitable companies with an income of less than £250,000 may choose to have an accountants report instead of an audit. Those with an income of less than £90,000 are exempt from having their accounts audited.

Reasons for change

While roughly 67% ⁵ of the charities sector have an income of less than £25,000 requiring all charities with an income over this to provide fully accrued accounts is extremely onerous on those still relatively small charities that are caught by this threshold. It also means that a large proportion of the fully accrued accounts are not subject to audit which is only compulsory over £100,000. We do not believe this is desirable as it is unduly burdensome for the sector and does not provide transparency or reassurance for the general public.

The current regulations have failed to keep up with changes in accounting practice. The Charities SORP requires a Statement of Financial Activities, which replaces the Income and Expenditure Account. The regulations have continued to require an Income and Expenditure Account, causing unnecessary duplication. The introduction of the Charities and Trustee Investment (Scotland) Bill provides an opportunity to ensure that the accounting regulations for charities are relevant to the shape of the sector and meet current practices and standards.

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