The Government may limit the powers of the Skills Funding Agency (SFA) over colleges after auditors ruled that they should be considered "subsidiaries" of the departmental body rather than independent organisations.
The National Audit Office (NAO) embarrassed the SFA by refusing to sign off its accounts as a "true and fair account" because it had not included the financial details of England's 258 FE colleges.
Auditors decided that because the legislation which established the funding agency gave its chief executive Geoff Russell powers to change college board members, give direction about how colleges carry out their duties, and to require the agency's consent before borrowing, they were considered subsidiaries of the agency.
Its decision was also influenced by the Office for National Statistics reclassifying colleges from private-sector charitable bodies to part of the public sector, prompting the auditors' review of its policies in October last year.
The NAO said that consolidating the agency's and college accounts would be difficult, given that they operate on a different financial year and would require consistency among 18 auditors across the sector.
It said that the Department for Business, Innovation and Skills was trying to remove some of the agency's powers over colleges, which may mean it was no longer considered in control of them and could maintain independent accounts.
But colleges are concerned that the refusal to sign off accounts could open them and the funding body to criticism from the Commons public accounts committee, which they believe would be unjustified.
They also question why the change was made so abruptly, claiming that the accounting standards they are now applying have been in place for years.
A spokeswoman for the funding agency said: "The agency believes that the qualification is a technical accounting matter, which does not reflect on the underlying financial controls within the organisation."
The rule changes that would have required it to incorporate college accounts were only made mid-year, the spokeswoman said, making it impractical and expensive to change the method of accounting for 201011.
The auditors found no other issues regarding the agency's accounts.
A spokesman for the Association of Colleges said: "AoC has contacted the National Audit Office to ascertain why they have just woken up to this particular issue and to say that we are concerned that this shouldn't reflect adversely on the SFA and their college clients in terms of misinformed MPs on the public accounts committee."