Why we’ve fallen short when it comes to corporate reporting
Note: this commentary was written by Richard Murphy in 2011. It will be brought up to date in due course.
All UK companies are required by law to prepare annual accounts in a format laid down by the Companies Acts. The 1967 Companies Act did for the first time introduce a requirement that all companies must file their annual accounts at Companies House: until then private companies enjoyed an exemption from filing. In addition, that Act required that all accounts of private limited companies be audited by an independent qualified person. This requirement arose as a result of a recommendation of a committee in the early 1960s that had emphasized the value to credit insurers of reliable information on the trading of all companies being available on public record. That benefit was not hard to see; if reliable information on the creditworthiness of a company with which a person planned to trade was available then the risk of suffering a bad debt as a result of that trade was very obviously reduced, and that had to be to the benefit of society as a whole because the efficiency and reliability of markets would be enhanced as a result.
The benefit of that information placed on public record was substantially reduced from 1981 when, as a result of the implementation of the European Commission Fourth Company Law Directive, the then Government took advantage of the exemptions then made available throughout the EU allowing small and medium-sized companies to file short-form or abbreviated accounts. Despite the fact that this meant that these companies filed either no, or very limited, profit and loss accounts and many fewer notes than in a full set of accounts, it remained a legal requirement that they publish full audited accounts for the benefit of their members. In other words, there was no saving in cost for the companies as a result of this change because they actually had to prepare both full and abbreviated accounts, with the latter merely meaning they could publish less information on public record. The logic of this has always been hard to work out, but it should be stressed that the costs involved were not, necessarily, onerous. Some small companies bought their audit services for only a few hundred pounds a year.
In 1993, following implementation of the European Commission Eighth Company Law Directive there was a further change in UK company law as a result of which very small private companies (those with a turnover of £90,000 or less) no longer needed their accounts audited whilst private companies with a turnover between £90,000 and £350,000 were required to have an accountant report on their accounts, but those accountants did not need to undertake an audit, a situation that lasted for just four years, after which the turnover limit below which in audit was not required was increased to £350,000. There was no doubt that this increased the attraction of small limited companies to some businesses because most would have enjoyed a reduction in costs as a result of between a few hundred pounds and maybe, at most, £1,000 a year. It is stressed, however, that the company still had to prepare full accounts for presentation to its members, although they did not now need to be audited.
In 1999 this issue was considered again as a result of further changes in European Union law. At the time it was noted that an analysis of data for some 750,000 companies whose accounts filed at Companies House included turnover data indicated a distribution as follows[i]:
|Turnover interval||Number of companies|
|Up to £350,000||520,000|
|£350,000 to £1 million||110,000|
|£1 million to £2 million||40,000|
|£2 million to £3 million||20,000|
|£3 million to £4.2 million||15,000|
|Over £4.2 million||45,000|
The preponderance of very small companies on the Register at the time was obvious: there is no reason to think that this situation has changed since then.
As a result of the 1999 review[ii] the thresholds at which an audit was required changed again, being substantially increased in 2000 to £1 million[iii], and then again in 2004 to the EU maximum of £5.6 million, a figure now raised in turn again in 2008 to £6.5 million[iv].
The result has been that in little over a decade the requirement that companies have their accounts audited, or even examined by an independent third party, has been virtually abolished in the UK. According to the 2009-10 statistical data on company registration activities published by the Department for Business, Innovation and Skills (table F2) at least 91.6% of all accounts (and maybe more) were either unaudited or qualified as abbreviated small company accounts and were therefore highly likely to be unaudited in 2009-10.
This is a matter of considerable significance. Whereas in 1993 every company had to have its accounts subject to independent review by a qualified person by 2008the vast majority did not. It cannot be said that this directly increased the number of companies incorporated, but it must have increased the attractiveness of using a limited company for some, and most especially those with little regard for regulatory obligations. At the same time an essential third party regulatory control on small business activity and regulatory compliance in the UK has almost entirely disappeared. In the light of the evidence in this report this change must, inevitably had a detrimental effect on compliance and resulted in a serious increase in the UK tax gap.
[i] Department for Trade and Industry, 1999, “The Statutory Audit Requirement For Smaller Companies, A Consultative Document”
[iii] Institute of Chartered Accountants in England and Wales, 2006, “Audit-exempt companies – Beyond the threshold” an Issues paper