The long-awaited exposure draft of the new charity statement of recommended practice (the Charity SORP) has finally been published and with it comes a proposal for some major changes in the way charities prepare their financial statements.
Whilst only an exposure draft at this stage a number of the proposals are in line with changes that are already happening to both international and UK financial reporting so these will happen.
Over recent history a new SORP has been published roughly every 10 years. With the last SORP taking effect in 2015, an update was long overdue, and the exposure draft had been expected for some time. The consultation on the exposure draft closed on 20 June and it is expected that the new SORP will be published in the autumn to take effect from 1 January 2026.
The good news is that this is for financial periods beginning on or after 1 January 2026 so the first full years affected will be entities with a 31 December 2026 year end. However, charities will want to consider the impact in advance of implementation date as the changes could affect anything from reserves policies to banking covenants.
The draft standard proposes a three tier approach to the financial reporting requirements as follows:
These new tier thresholds are designed to align more closely with the newer Companies Act reporting standards for small, medium and large companies that were updated for periods commencing after April 2025. The draft standard frames the reporting tiers exclusively in terms of total income, with no consideration of assets (as there is in the charity audit framework). With many charities with income of less than £250,000 being eligible to adopt receipts and payments accounting, the Tier 1 requirements may yet be applicable to a relatively small number of charities.
Whilst there are some financial reporting changes (for example smaller charities will no longer be required to prepare a cash flow statement) the majority of the tiered requirements affect the Trustees’ Report module.
The two areas which are likely to present the greatest difficulty in transitioning to the new standard are the new requirements for Income recognition and accounting for leases: both of these changes are required by changes to the underlying UK accounting standard FRS 102 and so will have to be adopted in full where they are applicable.
Income Recognition
The new income recognition rules primarily affect income earned in exchange for delivering services or products. Donations, legacies and non-exchange grants won’t be affected by these rule changes.
Charities will need to follow a ‘five-step model’ to determine when and how much revenue to recognise under the new accounting rules. This process includes identifying the services being provided, attributing income to each service, and choosing an appropriate point in time or period over which to recognise the income for each service.
Recognition of legacies is an area that many charities find overly complex and the current recognition rules, which can sometimes require a charity to recognise income far in advance of any money being received, are regarded by some as problematic and counter intuitive. The draft SORP does not propose any changes to the core recognition and measurement rules but does encourage greater disclosure in the accounting policies and the notes of any significant estimates and/or judgements involved in the recognition of legacy income.
Leases
The second major change concerns how charities account for leases. Currently, many leases are classified as "operating leases" and are held “off-balance-sheet,” with only the annual rental payments showing in the accounts. Once the new SORP is adopted most of these operating leases will need to be recognised on the balance sheet with:
For charities with significant leases, this new requirement will completely change the balance sheet as well as the amount charged in the income and expenditure account. Bank covenants could well be affected by the change as both gross assets and gross liabilities may well change significantly under the new rules..
A charity with a December year-end will need to account for the leases for the first time in its December 2026 accounts and early adoption is not permitted However the charity will need to go back to the opening date of the accounting period where the standard is adopted to get the correct starting point.
Charities will need to spend time identifying the leases that they hold, working out the correct accounting and the impact on the financial statements. The draft SORP is rather light on detailed application guidance where charities occupy premises at rentals which are either ‘peppercorn’ or significantly below market rental rates, which is not uncommon where charities are asked to take on services previously provided by local authorities, and it is hoped that the final version will provide greater clarity in this area.
Trustees’ report
The draft SORP proposes a restructured Trustees’ report with more clarity and explanation of what needs to be included under each heading.
Impact reporting will be required for all charities in Tiers 2 and 3. The draft SORP proposes the use of “prompt questions” in encouraging charities to assess their impact but stops short of mandating any specific framework or quantitative reporting. Our experience is that relatively few charities are using quantitative impact assessment models and it will be interesting to see if this changes if the proposed requirements do come into force.
Sustainability reporting is required for the first time for Tier 3 charities and is encouraged for Tiers 1 & 2. Requiring sustainability reporting for all charities with income in excess of £15 million would be a significant change from the current position where only guarantee company charities exceeding the large company thresholds (£36 million income, £18 million gross assets, 250 employees) are required to report, although some smaller charities choose to make some disclosures on a voluntary basis.
Charity reserves remain in the spotlight as, despite the levels of guidance from the Charity Commission and some well-publicised charity failures, this is an area that is often not fully discussed in the Trustees’ reports and the link between a charity’s risk register and the reserves policy is not always clear. The draft SORP reiterates that a charity must explain both what its reserves policy is, and why that is considered the most appropriate policy in the context of the charity’s specific environment. Where the level of reserves is significantly different from the policy target, the reasons for this and the plans to deal with the deficit or surplus must also be disclosed, together with an explicit link to the Trustees’ assessment of going concern.
If you wish to discuss this in further detail, please get in touch with one of our Charities experts at James Cowper Kreston here.
