IFRS 15 Pre-Contract Establishment Date activities – Important to know

Pre-Contract Establishment Date activities

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Partially Satisfied Performance Obligations Before the Identification of a Contract

Entities sometimes begin activities on a specific anticipated contract with their customer before (1) the parties have agreed to all of the contract terms or (2) the contract meets the criteria in step 1 (see Step 1 Identify the contract) of IFRS 15. The IASB staff refer to the date on which the contract meets the step 1 criteria as the “contract establishment date” (CED) and refer to activities performed before the CED as “pre-CED activities.”

TRG Update — Pre-CED Activities

The FASB and IASB staffs noted that stakeholders have identified two issues with respect to pre-CED activities:

  • How to recognize revenue from pre-CED activities.
  • How to account for certain fulfillment costs incurred before the CED.

The TRG discussed these issues in March 2015.

TRG members generally agreed with the staffs’ conclusion that once the criteria in step 1 have been met, entities should recognize revenue for pre-CED activities on a cumulative catch-up basis (i.e., record revenue as of the CED for all satisfied or partially satisfied performance obligations) rather than prospectively because cumulative catch-up is more consistent with the new revenue standard’s core principle.

The two Q&A below demonstrates the application of the TRG’s general agreement.

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Lease calculation – IFRS 16 Structured best approach

Lease calculation

Lease calculation provides a logical model to understand the calculations that have to be made in accounting for IFRS 16 Leases. In addition a lease contract calculation Excel model is provided to do the work. IFRS 16 Structured best approach

The 5-step lease calculations model

Use the 5-step lease calculations model to systematically document your lease calculations.

Step 1. Identification of a lease contract

a) When should this assessment be made?

An entity is required to assess whether a contract is, or contains a lease at the inception of the contract.

There is a difference between the inception date of the contract and the commencement date of the lease as follows:

Inception Date of the Contract

Commencement Date of the Lease

Is the earlier of the date of:

  • A lease agreement; and
  • A commitment by the parties to the principal terms and conditions of the lease.

The date on which a lessor makes an underlying asset available for use by a lessee.

b) When Does a Lease Exist?

A lease exists where the contract grants the right to control the use of an identified asset for a period of time in exchange for consideration.

Control over the use of an identified asset for a period of time is conveyed when, the customer has both of the following throughout the period of use (IFRS 16.B9):

  1. The right to obtain substantially all of the economic benefits from use of the identified asset; and
  2. The right to direct the use of the identified asset. IFRS 16 Structured best approach

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Landlord Lease modifications

Landlord Lease modifications / Rental modifications

Accounting for lease modifications has become a hot topic due to the COVID-19 pandemic, with many tenants seeking rent concessions and other changes to lease agreements.

Unlike IAS 17, IFRS 16 provides detailed guidance on the lessor accounting for lease modifications, with separate guidance for modifications to finance leases and operating leases.

A lease modification is a change in the scope of a lease, or the consideration for a lease, that was not part of its original terms and conditions. Common examples are:

  • decreasing the scope of the lease by removing the right to use one or more underlying assets;
  • decreasing the scope of the lease by shortening the contractual lease term; and
  • changing the consideration in the lease by increasing or decreasing the lease payments.

Changes that result from renegotiations of the original contract are lease modifications.

The exercise of an option included in the original lease contract is not a modification. There is no lease modification when a lessor reassesses the lease term if:

  • the lessee exercises an option not previously included in the lessor’s determination of the lease term;
  • the lessee does not exercise an option previously included in the lessor’s determination of the lease term;
  • an event occurs that contractually obliges the lessee to exercise an option not previously included by the lessor; or
  • an event occurs that contractually prohibits the lessee from exercising an option previously included by the lessor (see Changes in the lease term).

The following diagram summarises the accounting for lease modifications by a lessor/landlord.

Original lease is a finance lease

Change to contractual terms and conditions

Original lease is an operating lease

Increase in scope of lease by adding right of use for one or more underlying assets and at stand-alone price for increase

All other contract modifications.

Classification at inception if modification had been in effect then as:

Operating lease

Finance lease

Separate lease

Not a separate lease

Apply IFRS 9

Modifications to operating leases

Food for thought – When does a lessor account for a lease modification?

Similar to a lessee, a lessor accounts for modifications to operating and finance leases on the effective date of the modification. This is the date when both parties agree to the lease modification. (IFRS 16.79–80, IFRS 16.87)

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Separate lease and non-lease components for real estate under IFRS 16

Separate lease and non-lease components

Many real estate leases contain multiple lease and non-lease components, which landlords need to identify and account for separately.

1 Overview

IFRS 16 requires a landlord to separate the lease and non-lease components of a contract. (IFRS 16.12, IFRS 16.BC135(b))

In practice, real estate contracts may contain:

  • one or more lease components: e.g. the right to use land and/or a building; and
  • one or more non-lease components: e.g. maintenance, cleaning and provision of utilities.

For lessors, identifying components and allocating consideration will determine the split of lease income vs revenue from contracts with customers. These amounts are often presented and have to be disclosed separately. For example, a real estate company will need to distinguish lease income from revenue for other property related services – e.g. common area maintenance (CAM). (IFRS 15.110, IFRS 15.114, IFRS 16.90)

The key steps in accounting for the components of a contract are as follows.

Identify separate lease components (go here)

Identify non-lease components (go here)

Allocate consideration (go here)

Reallocate consideration on lease modification (go here)

2 Typical lease components in real estate contracts

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Landlord Lease term – IFRS 16 Best complete read

Landlord Lease term

New guidance on lease term could impact the period over which operating lease incentives are recognised in profit or loss, particularly for renewable and cancellable leases.

1 Overview of landlord lease term

Determining the lease term is a critical estimate that is significant for the lessor. The lease term may affect the lease classification. For operating leases, it impacts the period over which lease incentives are recognised.

The lease term is the non-cancellable period of the lease, together with:

  • optional renewable periods if the lessee is reasonably certain to extend; and
  • periods after an optional termination date if the lessee is reasonably certain not to terminate early. (IFRS 16.18)

To determine the lease term, a lessor first determines the length of the non-cancellable period of a lease and the period for which the contract is enforceable. It can then determine – between those two limits – the length of the lease term.

The lessor determines the lease term at the commencement date.

The lease term starts when the lessor makes the underlying asset available for use by the lessee. It includes any rent-free periods. (IFRS 16 Definition, IFRS 16.B36)

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IFRS 15 Power purchase agreement

IFRS 15 Power purchase agreement

It is common for customer contracts within the power and utilities industry to contain multiple performance obligations. It is essential that power and utilities entities evaluate their portfolio of customer contracts in order to identify explicit and implicit promises to transfer a distinct good or service to a customer.

A promise to transfer a series of distinct goods that are substantially the same and that have the same pattern of transfer to the customer is a performance obligation known as a ‘series’. Contracts for the sale of electricity, and many contracts for the sale of gas to residential and small commercial and industry clients, would represent such a promise.

Sometimes, two products (such as gas and electricity) are sold together. Where multiple products are sold simultaneously, generally:

  1. Gas and electricity are distinct, because (a) a customer can benefit from either gas or electricity on its own (that is, the customer can sell gas and electricity, on a stand-alone basis, into the marketplace, etc.), and (b) the promise to transfer gas or electricity is separately identifiable from other promises in the contract.
  2. The performance obligation to deliver gas and electricity, in many cases, is satisfied over time, since the customer simultaneously receives and consumes the benefits provided by the entity’s performance as the entity performs. This conclusion might not be applicable for gas or other commodity contracts, where the customer has storage facilities and does not consume the benefits of the commodity immediately as it is delivered.
  3. Each delivery of gas or electricity in the series, that the entity promises to transfer to the customer, meets the criteria to be a performance obligation satisfied over time, and the same method will be used to measure the entity’s progress towards complete satisfaction of the performance obligation to transfer each distinct delivery of gas or electricity in the series to the customer.

Judgement is required to identify performance obligations in power and utilities contracts. In some jurisdictions, distribution and energy might be distinct performance obligations; while, in others, energy and distribution might be a single integrated performance obligation. This will depend on a number of factors, including whether the customer can choose amongst retailers and the relationships between the providers of distribution, the retailer and the end customer.

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Blockchain – Best 2 accounting for IFRS

Blockchain accounting for IFRS

Holdings of cryptocurrencies allow individuals and businesses to transact directly with each other without an intermediary such as a bank or other financial institution. These cryptocurrency transactions rely on a key technology called blockchain technology.

Digital assets or so-called cryptoassets are becoming increasingly common but what are they and how might you record them in your financial statements?

Holding cryptocurrencies – e.g. Bitcoin, Ether etc

What are the characteristics?

  • Cryptocurrencies – e.g. Bitcoin and Ether – typically exhibit some similarities to traditional currencies in that they can be traded for goods or services. They can also be held as a longer-term investment or for trading or speculation. But IFRIC and other commentators do not consider current cryptocurrencies to be cash or currency because:

    • they are a poor store of value, because their value is based on demand and supply and is highly volatile;

    • they are not sufficiently widely accepted as a medium of exchange; and

    • they are not issued by a central bank.

  • With cryptocurrencies also failing to meet the definition of a financial asset, the question is, what type of asset are they?

How might they impact your financial statements?

  • Because of their high volatility in value, many believe that cryptocurrencies are akin to derivatives and should be measured at fair value through profit or loss (FVTPL). However, IFRIC’s tentative conclusions on accounting for cryptocurrencies do not support this approach.

  • IFRIC proposes that cryptocurrencies are generally intangible assets under IAS 38 Intangible Assets – i.e. non-monetary items with no physical substance that convey economic benefits to the holder.

  • Measurement would be at cost – or potentially at fair value with movements through other comprehensive income (OCI) if, and only if, there is an active market.

  • If the cryptocurrency is held for sale in the normal course of business – e.g. if you are a broker-trader (see below) – then IAS 38 does not apply and, instead, IFRIC proposes that the cryptocurrency would be accounted for as inventory under IAS 2 Inventory.

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Example accounting policies

Example accounting policies

Get the requirements for properly disclosing the accounting policies to provide the users of your financial statements with useful financial data, in the common language prescribed in the world’s most widely used standards for financial reporting, the IFRS Standards. First there is a section providing guidance on what the requirements are, followed by a comprehensive example, easy to tailor to the specific needs of your company.Example accounting policies

Example accounting policies guidance

Whether to disclose an accounting policy

1. In deciding whether a particular accounting policy should be disclosed, management considers whether disclosure would assist users in understanding how transactions, other events and conditions are reflected in the reported financial performance and financial position. Disclosure of particular accounting policies is especially useful to users where those policies are selected from alternatives allowed in IFRS. [IAS 1.119]

2. Some IFRSs specifically require disclosure of particular accounting policies, including choices made by management between different policies they allow. For example, IAS 16 Property, Plant and Equipment requires disclosure of the measurement bases used for classes of property, plant and equipment and IFRS 3 Business Combinations requires disclosure of the measurement basis used for non-controlling interest acquired during the period.

3. In this guidance, policies are disclosed that are specific to the entity and relevant for an understanding of individual line items in the financial statements, together with the notes for those line items. Other, more general policies are disclosed in the note 25 in the example below. Where permitted by local requirements, entities could consider moving these non-entity-specific policies into an Appendix.

Change in accounting policy – new and revised accounting standards

4. Where an entity has changed any of its accounting policies, either as a result of a new or revised accounting standard or voluntarily, it must explain the change in its notes. Additional disclosures are required where a policy is changed retrospectively, see note 26 for further information. [IAS 8.28]

5. New or revised accounting standards and interpretations only need to be disclosed if they resulted in a change in accounting policy which had an impact in the current year or could impact on future periods. There is no need to disclose pronouncements that did not have any impact on the entity’s accounting policies and amounts recognised in the financial statements. [IAS 8.28]

6. For the purpose of this edition, it is assumed that RePort Co. PLC did not have to make any changes to its accounting policies, as it is not affected by the interest rate benchmark reforms, and the other amendments summarised in Appendix D are only clarifications that did not require any changes. However, this assumption will not necessarily apply to all entities. Where there has been a change in policy, this will need to be explained, see note 26 for further information.

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5 steps in IFRS 15 – best quick read

5 steps in IFRS 15

Under IFRS 15 Revenue from contracts with customers, entities apply the 5 steps in IFRS 15 to determine when to recognize revenue, and at what amount. The model specifies that revenue is recognized when or as an entity transfers control of goods or services to a customer at the amount to which the entity expects to be entitled. Depending on whether certain criteria are met, revenue is recognized:

  • over time, in a manner that best reflects the entity’s performance; or
  • at a point in time, when control of the goods or services is transferred to the customer.

IFRS 15 provides application guidance on numerous related topics, including warranties and licenses. It also provides guidance on when to capitalize the costs of obtaining a contract and some costs of fulfilling a contract (specifically those that are not addressed in other relevant authoritative guidance – e.g. for inventory).

5 steps in IFRS 15 – What is IFRS 15?

Step 1: Identify the contract with a customer

A contract with a customer is in the scope of IFRS 15 when the contract is legally enforceable and certain criteria are met. If the criteria are not met, then the contract does not exist for purposes of applying the general model of IFRS 15, and any consideration received from the customer is generally recognized as a deposit (liability). Contracts entered into at or near the same time with the same customer (or a related party of the customer) are combined and treated as a single contract when certain criteria are met.

A contract with a customer is in the scope of IFRS 15 when it is legally enforceable and meets all of the following criteria. [IFRS 15.9]

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