Scottish Government

THE SCOTTISH GOVERNMENT

Notes to the Accounts

For the Year Ended 31 March 2009

1. Statement of Accounting Policies

In accordance with the accounts direction issued by Scottish Ministers under section 19(4) of the Public Finance and Accountability (Scotland) Act 2000 (reproduced here) these accounts have been prepared in compliance with the principles and disclosure requirements of the Government Financial Reporting Manual, which follows generally accepted accounting practice in the UK to the extent that it is meaningful and appropriate in the public sector context. The particular accounting policies adopted by the Scottish Government are described below. They have been applied consistently in dealing with items considered material in relation to the accounts.

The accounts are prepared using accounting policies, and, where necessary, estimation techniques, which are selected as the most appropriate for the purpose of giving a true and fair view in accordance with the principles set out in Financial Reporting Standard 18: Accounting Policies. Changes in accounting policies which do not give rise to a prior year adjustment are reported in the relevant note.

1.1 Accounting Convention

These accounts have been prepared under the historical cost convention modified to account for the revaluation of fixed assets, financial instruments and stocks where material, at their value to the organisation by reference to their current costs.

1.2 Basis of Consolidation

These accounts reflect the consolidated assets and liabilities and the results for the year of all the entities within the Scottish Government accounting consolidation boundary as defined by the Government Financial Reporting Manual (Section 2.4). Transactions between entities included in the consolidation are eliminated. A list of all those entities within the consolidation boundary is given at Section 2 of the Annual Report.

The Executive Agencies detailed at Section 2 of the Annual Report are reported within the Outturn Statements of their sponsoring portfolio.

The core Scottish Government was restructured in 2008-09 to include an additional portfolio, Local Government. In addition many of the programmes within portfolios were restructured. As a result, all the prior year comparatives have been restated

1.3 Transfer of Function/Merger Accounting

Most of the functions of three Executive agencies, Communities Scotland, the Scottish Agricultural Science Agency and the Scottish Building Standards Agency, were transferred to the core Scottish Government on 1 April 2008. As this was a transfer of function, merger accounting applied and all the relevant core Scottish Government schedules and notes to the accounts have been restated, see Note 27. This transaction was removed upon consolidation as it will have no overall effect, as the three agencies were already included in the consolidated accounts. Part of Communities Scotland became a separate agency, the Scottish Housing Regulator, from 1 April 2008. This agency has been consolidated into the accounts.

1.4 Change of Accounting Policy - Prior Year Adjustments

In 2008-09 the Scottish Government implemented the three standards relating to financial instruments, Financial Reporting Standards ( FRS) 25, 26 and 29 as modified by the Government Financial Reporting Manual ( FReM). (See paragraph 1.9 for further detail). Prior year comparatives have been adjusted to reflect these changes ( Note 28).

1.5 Tangible Fixed Assets

Recognition

Scottish Ministers hold the legal title or enjoy the risks and rewards of all land and buildings shown in the accounts.

Historic Scotland holds a number of non-operational assets that are held primarily for the maintenance of the nation's heritage. Non-operational assets are not valued and are therefore not included in these accounts.

Assets classified as under construction are recognised in the balance sheet to the extent that money has been paid or a liability has been incurred.

Capitalisation

The minimum levels for capitalisation of a tangible fixed asset within the core Scottish Government are land and buildings £10,000 and equipment and vehicles £5,000. Information and Communications Technology ( ICT) systems are capitalised where the pooled value exceeds £1,000. Substantial improvements to leasehold properties are also capitalised.

All NHS assets costing over £5,000 are capitalised and pooled assets individually costing less than £5,000 but with a combined value of £20,000 are capitalised.

Furniture, fixtures and fittings within the core Scottish Government Portfolios are treated as current expenditure and are not capitalised. Exceptionally some smaller bodies have capitalised furniture, fixtures and fittings where the amounts are material to them. The differences in capitalisation policy have no material effect on the financial statements.

Valuation

Land and buildings have been stated at open market value for existing use or depreciated replacement cost for specialised buildings under a rolling 5-year programme of professional valuations and appropriate indices in intervening years. Surplus land and buildings are stated at open market value for their alternative use. From 1 April 2007, other tangible fixed assets are no longer revalued using indices but are reported at depreciated historic cost.

Losses in value reflected in valuations are accounted for in accordance with Financial Reporting Standard 11. The consumption of economic benefits is charged to the Outturn Statement. Decreases in asset value that relate to fluctuations in market prices are first charged to the element of the revaluation reserve relating to the asset and that amount is recognised in the Statement of Recognised Gains and Losses. Further losses, beyond the level of the revaluation reserve relating to that asset, are charged to the Outturn Statement, except where it is anticipated that the reduction in value will reverse in the foreseeable future.

The road network is valued on the basis of current replacement cost, adjusted to reflect the current condition of the road component and the depreciation of structures and communications components of the network. It is recognised that the network is to be maintained in perpetuity and the related cost is charged each year to the Consolidated Finance and Sustainable Growth Portfolio Outturn Statement. Roads or structures detrunked (i.e. where the road or structure is taken out of the trunk road network and responsibility for its maintenance passed to another body) are dealt with as disposals for nil consideration and are reflected in the General Fund.

Within the Scottish Court Service, all owner occupied courthouses are considered to be specialised operational properties and valuations are therefore on the basis of Depreciated Replacement Cost ( DRC). The open market value of these properties is substantially lower. Properties regarded by the Scottish Prison Service as operational were valued on the basis of Existing Use Value or, where this could not be assessed because there was no market for the subject asset, the DRC, subject to the prospect and viability of the occupation and use.

1.6 Depreciation

Freehold land is not depreciated.

Depreciation is provided at rates calculated to write off the valuation of buildings and other tangible fixed assets by equal instalments over their estimated useful lives which are normally in the following ranges:

The road network is depreciated at rates calculated to write off the valuation of structures and communications components by equal instalments over their estimated useful lives, which are normally between 20 and 120 years. Changes in value due to variations in the condition of the road element of the network are reflected in the Consolidated Finance and Sustainable Growth Portfolio Outturn Statement.

Assets under construction are not depreciated.

1.7 Donated assets

Donated tangible fixed assets are capitalised at their valuation on receipt and this value is credited to the Donated Assets Reserve. Subsequent revaluations are also accounted for in this reserve. Each year an amount equal to the depreciation charge on the asset is released from the Donated Asset Reserve to the relevant Consolidated Portfolio Outturn Statement.

1.8 Intangible Assets

Purchased software licences are valued on a historic cost basis. Amortisation is applied at rates calculated to write off the valuation of purchased software licences by equal instalments over the shorter of the term of the licence and their estimated useful life.

EU greenhouse gas emissions allowances are intended for use on an ongoing basis and are held as intangible assets at their fair value.

1.9 Financial Instruments

The Scottish Government measures and presents financial instruments in accordance with FRS 25, FRS 26 and FRS 29 as modified by the Government Financial Reporting Manual ( FReM). FRS 26 requires the classification of financial instruments into separate categories for which the accounting treatment is different. The Scottish Government has classified its financial instruments as follows:

Financial Assets:

• Cash and cash equivalents, trade debtors, short term loans, accrued income relating to EU funding, amounts receivable and shares and loans to private sector bodies will be reported in the 'Loans and Receivables' category.
• Shares held in and loans advanced to public sector bodies will be reported in a separate category.

Financial Liabilities:

• Borrowings, trade payables, accruals, creditors, bank overdrafts and financial guarantee contracts are classified as 'Other Liabilities'.

Financial instruments are initially measured at fair value with the exception of 'Shares held in and loans advanced to public sector bodies' which are held at historic cost. The fair value of financial assets and liabilities is determined as follows:

• The fair value of cash and cash equivalents and current non-interest bearing monetary financial assets and financial liabilities approximate their carrying value.
• The fair value of other non current monetary financial assets and financial liabilities is based on market prices where a market exists, or has been determined by discounting expected cash flows by the current interest rate for financial assets and liabilities with similar risk profiles.

Financial instruments subsequent measurement depends on their classification:

• Fair value through the profit and loss are held at fair value with any changes going through the outturn statement.
• Loans and receivables and other liabilities are held at amortised cost and not revalued unless they are included in a fair value hedge accounting relationship. Any impairment losses go through the outturn statement.
• Shares held in and loans advanced to public sector bodies are held at historic cost less impairment with any impairment losses going through the outturn statement.

1.9.1 Investments

Investments include shares in nationalised industries and limited companies, loans issued to public bodies not consolidated in departmental accounts, loans made under the terms of the student loans scheme, and repayment and deferred loans relating to housing associations. Such investments are generally reported as non-current assets. If an investment is held on a short-term basis, or a loan is granted for an original term of less than one year, it will be treated as a current asset.

1.9.1.1 Student Loans

Student loans are classified as 'Loans and Receivables', and are initially valued at fair value. They are subsequently recorded in the accounts at amortised cost.

As there is currently no active market for student loans, the Scottish Government values the loans by using a valuation technique. This technique involves the gross value of the loans being reduced by an amount based on:

• Interest subsidy: This is the difference between the interest paid by students ( RPI) and the cost of capital on loans (currently 2.2%). The interest subsidy is estimated to meet the cost of the interest over the life of the loan and is offset by the annual interest capitalised. The calculation of the interest subsidy includes the application of an inflation adjustment on the loan balances to reflect the full extent of the subsidy.
• Write off impairment: This is estimated to meet the future cost of loans that are not likely to be recovered due to the death of the student, their income not reaching the income threshold, or not being able to trace the student. Each year, the future cost of bad debt is estimated based on a percentage of new loans issued during the financial year. This is offset by the actual debts written off by the Student Loan Company.

The estimates underpinning these adjustments are based on a model which holds data on the demographic and behavioural characteristics of students in order to predict their borrowing behaviour and estimate the likely repayments of student loans. Given the long term nature of both adjustments, the time value of money is significant, and they are discounted using the current HM Treasury discount rate of 2.2% in real terms.

There are significant uncertainties in assessing the actual likely costs and the impairment will be affected by the assumptions used. These are formally reviewed by the Scottish Government each year and the amounts impaired reflect the Scottish Government's current best estimate.

Further details of the movements in the loan valuation can be found in Note 28, while disclosures relating to risk, required by FRS 29, can be found in Note 23.

1.9.2 Embedded Derivatives

Derivatives embedded in other financial instruments or other host contracts are treated as separate derivatives when their risks and characteristics are not closely related to those of host contracts and the host contracts are not measured at fair value with changes in fair value recognised in profit and loss.

1.9.3 Financial Guarantee Contracts

Financial guarantee contract liabilities are measured initially at their fair value and subsequently at the higher of:

• The amount of the obligation under the contract, as determined in accordance with FRS 12 Provisions, Contingent Liabilities and Contingent Assets; and
• The amount initially recognised less, where appropriate, cumulative amortisation recognised in accordance with FRS 5, Application Note G Revenue Recognition.

1.10 Stocks

Items that cannot or will not be used are written down to their net realisable value. Taking into account the high turnover of NHS stocks, the use of average purchase price is deemed to represent the lower of cost and net realisable value. Work in progress is valued at the cost of the direct materials plus the conversion costs incurred to bring the goods up to their present degree of completion.

1.11 Private Finance Initiatives ( PFI)/Public Private Partnerships ( PPP)

PFI/ PPP transactions are accounted for in accordance with HM Treasury's Technical Note No 1 (Revised) ' How to account for PFI transactions', which sets out additional guidance on how the Accounting Standards Board's Application Note, Amendment to FRS5 - Private Finance Initiative and Similar Contracts, is to be followed in the public sector. All set up costs in relation to PPP schemes are written off as incurred. The annual commitment in respect of such contracts is included within Note 18 ' PFI/ PPP Contracts' while any reversionary interests in fixed assets within such schemes are included under the relevant fixed asset heading dependant on the nature of the underlying asset.

1.12 Income

Operating income is income that relates directly to the operating activities of the Scottish Government, its Executive Agencies, the Crown Office and Procurator Fiscal Service and NHS Bodies. It includes fees and charges for services provided, on a full cost basis, to external customers, public repayment work and income from investments. It includes both income applied without limit and income applied with limit as outlined by the Scottish Budget documents. For income categorised as being applied with limit, any excess income over that approved is surrendered to the Scottish Consolidated Fund. Operating income is stated net of VAT.

1.13 Administration and Programme Expenditure

The Summary Consolidated Portfolio Outturn Statement is analysed between administration and programme expenditure:

• Administration expenditure reflects the costs of running the Core Portfolios as defined under the administration cost control regime, together with associated operating income. This does not include the costs of running other bodies within the consolidation boundary: such costs are included within the appropriate category of programme expenditure in the relevant Portfolio Outturn Statements. The relevant staff numbers and staff costs information is collected together in a note to the accounts ( Note 2).
• Income is analysed in the notes between that which, under the regime, is allowed to be offset against gross administrative costs in determining the outturn against the administration cost limit, and that operating income which is not.
• Programme expenditure reflects non-administration costs, including payments of grants and other disbursements, including the administration costs of those bodies within the consolidation boundary. Programme expenditure also takes account of income applied. A note to the accounts provides an analysis of total programme income between income applied and income not applied ( Note 4).

1.14 Grants

Grants payable or paid are recorded as expenditure in the period that the underlying event or activity giving entitlement to the grant occurs. Where necessary obligations in respect of grant schemes are recognised as liabilities.

1.15 European Union Funds

Funds received from the European Union ( EU), whatever the source, are treated as income and shown in the relevant Consolidated Portfolio Outturn Statement. Expenditure in respect of grants or subsidy claims is recorded in the period that the underlying event or activity giving entitlement to the grant or subsidy claim occurs. Any related debtor or creditor balances are reflected in the Consolidated Balance Sheet.

1.16 Cost of Capital Charge

A charge, reflecting the cost of capital utilised by the Scottish Government and consolidated entities, is included in outturn expenditure. The charge for each item in the balance sheet is calculated on the basis of the average net book value of that item over the year. For 2008-09 the charge is calculated at the Government's standard rate of 3.5% (2007-08: 3.5%) in real terms on all assets less liabilities, except for:

• Student Loan balances where the applicable rate is 2.2%;
• Equity investments in a public sector body outside the departmental boundary, where the amount of the charge represents the appropriate rate, as determined by HM Treasury, applied to the underlying net assets of the body in question;
• Investments comprising only loans, which are interest bearing, where the cost of capital has been charged at a rate equivalent to the appropriate National Loans Fund rate; and
• Donated assets, cash balances with the Office of HM Paymaster General and amounts to be paid to and from the Scottish Consolidated Fund where the charge will be at a nil rate.

In 2008-09 capital charges, with the exception of cost of capital incurred in relation to the roads network and Scottish Water, score against Departmental Expenditure Limits and are reflected in Consolidated Portfolio Outturn Statements accordingly.

1.1 Foreign Exchange

Transactions which are denominated in a foreign currency are translated into sterling at the exchange rate ruling on the date of each transaction, except where rates do not fluctuate significantly, in which case an average rate for a period is used.

1.2 Pensions

The Scottish Government as an employer

Present and past employees are covered by the provisions of the Principal Civil Service Pension Scheme ( PCSPS) which is a defined benefit scheme and is unfunded and non-contributory. Portfolios, agencies and other bodies covered by the PCSPS recognise the expected cost of providing pensions for their employees on a systematic and rational basis over the period during which they benefit from their services by payment to the PCSPS of amounts calculated on an accruing basis. (Relevant disclosures are reported in Note 2). Liability for the payment of future benefits is a charge to the PCSPS. Separate scheme statements for the PCSPS as a whole are published.

The Scottish Government as a scheme administrator

The expenditure of the Rural Affairs and Environment ( RAE) Portfolio and of the Justice Portfolio includes grant in aid to bodies sponsored by the Scottish Government, covering their pension-related expenditure in respect of pension schemes operated by relevant bodies for the eligible employees. These are unfunded defined benefit schemes (in the case of RAE Portfolio the scheme is analogous to the PCSPS; the scheme of the Scottish Legal Aid Board sponsored by the Justice Portfolio is analogous to the NHS Pensions Scheme Scotland) with the pension obligations for each financial year being met out of grant in aid resources provided by the Portfolio. These arrangements are reported and explained in the annual accounts of the relevant bodies.

NHS Bodies

The NHS Bodies in Scotland participate in the National Health Service Superannuation Scheme for Scotland which is a notional defined benefit scheme where contributions are credited to the Exchequer and the balance in the account is deemed to be invested in a portfolio of Government securities. The pension cost is assessed every five years by the Government Actuary. The most recent actuarial valuation took place in the year to 31 March 2004 and details can be found in the separate statement of the Scottish Public Pensions Agency.

1.3 Leases

Where substantially all risks and rewards of ownership of a leased asset are borne by the entity, the asset is recorded as a tangible fixed asset and a debt recorded to the lessor, with the interest element of the finance lease payment charged to the Outturn Statement. Rentals from operating leases are charged to the Consolidated Portfolio Outturn Statements on a straight line basis over the term of the lease.

1.4 Provisions

Provisions are made for legal or constructive obligations which are of uncertain timing or amount at the balance sheet date on the basis of the best estimate of the expenditure required to settle the obligation.

Student Loans

The provision is established to reflect the debt sale subsidy.

Early Departure Costs

The Scottish Government and its consolidated bodies are required to meet the additional cost of benefits beyond the normal PCSPS benefits in respect of employees who retire early. The Scottish Government and its consolidated bodies provide in full for this cost when the early retirement programme has been announced and is binding on the portfolio/consolidated entity. The liability shown in the balance sheet has been discounted using a 2.2% discount rate in line with HM Treasury guidance.

Prisoner Compensation

The Scottish Prison Service has provided for potential prisoner compensation claims.

NHS

NHS bodies provide for all claims notified to the NHS Central Legal Office according to the value of the claim and the probability of settlement. Claims assessed as 'Category 3' are deemed most likely and provided for in full, those in 'Category 2' as 50% of the claim and those in 'category 1' as nil. The balance of the value of claims not provided for is disclosed as a contingent liability. This procedure is intended to estimate the amount considered to be the liability in respect of any claims outstanding and which will be recoverable from the centrally administered fund by the Clinical Negligence and Other Risks Indemnity Scheme in the event of payment by an individual health body. The corresponding recovery in respect of amounts provided for is recorded as a debtor and that in respect of amounts disclosed as contingent liabilities is disclosed as a contingent asset.

1.21 Contingent Liabilities

Contingent liabilities include those required to be disclosed under FRS 12 and other liabilities arising from indemnities and guarantees which are included for parliamentary reporting and accountability. Portfolios must seek the prior approval of Parliament, via the Finance Committee, before entering into any specific guarantee, indemnity or letter or statement of comfort unless it arises in the normal course of business or the sum of the risk is £1m or less.

1.22 Value Added Tax ( VAT)

Most of the activities of the Scottish Government and its consolidated bodies are outside the scope of VAT, and in general output tax does not apply and input tax on purchases is not recoverable. Irrecoverable VAT is charged to the relevant expenditure category or included in the capitalised purchase cost of fixed assets. Where output tax is charged or input VAT is recoverable, the amounts are stated net of VAT.

1.23 European Union Grant Reserve

Grants received from the European Union for capital assets are credited to the European Union Grant Reserve, which is released to the outturn statement over the expected useful lives of the relevant assets.