Brokers are facing a "nightmare" over a change to accounting rules that could blow a huge hole in their profits.

Accountants warned that the amendment to FRS5 - the new financial reporting standard -could slash or even entirely eliminate brokers' profits.

And the industry appears to have been caught on the hop: the consultation period ended in May 2003.

Robin Oakes, head of insurance at accountants and business advisers Mazars, said the major reason for the confusion may be that the amendment excluded arrangements "arising from insurance contracts".

Oakes said it interpreted this as excluding insurers but not brokers.

Mike Williams, former chief executive of Biba and now head of Total Broker Solutions network, told Insurance Times: "It's at least as important as the credit risk transfer issue on your front page last week. It's at least as important as the goodwill amortisation issue.

"It could have a very, very serious impact, at least in the short term, on most broking firms."

The change may prevent brokers accounting for turnover that is not earned in the current financial year.

Brokers may have to defer or create a liability for claims handling or accounting costs that may take place years after the placing of a risk.

It will be applied retrospectively for any company whose financial year ends after 23 December 2003.

Oakes said: "We have estimated using historical and forecast market data that the effect of adopting the new accounting policies could be to dramatically reduce or eliminate profits entirely." He said:

  • Deferral of income could have a "huge" impact on brokers placing long tail business
  • Niche brokers could be forced effectively to disclose their rate of brokerage for the first time, leaving brokers and insurers fully transparent
  • Brokers which use profit or income commission to reward staff may have to reconsider their incentive plans.
  • Early feedback suggested some brokers were expecting to lose 10% to 20% of their revenue, varying considerably according to their type of business.

    Impact on profitability was expected to be in multiples of the impact on the top line.

    A Biba spokeswoman said: "We do think there's an issue of concern for brokers, but we don't want to start scaremongering at this stage until we know about the complexities."

    Allan Cook, technical director of the Accounting Standards Board, confirmed the principle on which the change was based.

    He said: "If you have an obligation to the customer, it isn't obvious that you should recognise that revenue. You need to hold something back."

    The consultation period opened in February 2003 but closed in May.