If you’re within the finance industry, you will have heard of the term IFRS15. And for those who are not familiar with the name, what is IFRS15? The word itself may be perceived as complicated or daunting, but our Accounting experts at GCS Malta are here to break it down for you in our latest article.
What is IFRS15?
IFRS15 establishes the principles that an entity applies when reporting information about the nature, amount, timing and uncertainty of revenue and cash flows from a customer contract. When applying IFRS15, an entity recognises revenue to depict the transfer of promised goods or services to the customer in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.
The IFRS15 applies to all contracts with customers, except for lease contracts, insurance contracts, financial instruments and non-monetary exchanges between entities within the same business line.
The five-step model.
An entity applies the five-step model for revenue recognition and further guides each step. The five steps are:
1.Identify the contract with the customer.
2.Identify the performance obligations in the agreement.
3.Determine the transaction price.
4.Allocate the transaction price to the performance obligations in the contracts.
5.Recognise revenue when (or as) the entity satisfies a performance obligation.
Step 1 – Identify the contracts with a customer.
A contract refers to an agreement between two parties or more. The arrangement creates enforceable rights and obligations agreed upon between the parties involved. The contractual agreement must include the following:
- Parties have approved the contract and are committed to perform
- Each party’s rights to goods/services can be identified
- The payment terms for goods/services can be identified
- The contract has a commercial substance
- It is probable that the entity will collect the consideration
Step 2 – Identify the performance obligations in the contract.
A performance obligation refers to the promise in a contract with a customer to transfer to the customer either a good/service that is distinct or a series of distinct goods/services that are substantially the same, known as a single performance obligation. A performance obligation does not exist if not transfer to the customer is made.
Step 3 – Determine the transaction price.
This step focuses on determining the amount of consideration that the entity expects to receive in return for transferring the goods or services. The transaction price is determined on the price stated in the contract as some basis and on the:
- Variable consideration
- Existence of significant financing component
- Non-cash consideration – at fair value
- The consideration payable to a customer – vouchers, coupons
Step 4 – Allocate the transaction price to the performance obligations.
During this step, the allocation object is to allocate the transaction price to each performance obligation in an equal amount to the consideration of the transferred goods/services. The allocation of the transaction price is based on relative stand-alone selling prices. The price at which the entity would sell the good/service separately to the customer.
Step 5 – Recognise revenue when (or as) the entity satisfies a performance obligation.
The performance obligation is satisfied when a promised good or service is transferred to a customer. A performance obligation can be satisfied over the contract period and not as a single amount or revenue will also be recognised then.
Contract costs.
When it comes to contractual agreements, some costs are mandatory. When obtaining a contract, incremental costs will be incurred, and they need to be capitalised and amortised. Other costs within the scope of IAS2, IAS16 and IAS38 incurred when fulfilling a contract with a connection to the satisfying performance obligation should be treated in line with the appropriate standard, if not within the scope then these costs should be capitalised and amortised if:
- Costs relate directly to the contract
- Costs generate/enhance resources used in satisfying performance obligation
- Costs are expected to be recovered
How to account for IFRS15 adoption.
There are two approaches to account for IFRS15 adoption: the full retrospective approach and the modified retrospective approach. With the full retrospective approach, you need to apply IFRS15 retrospectively in line with IAS8 and restate all prior financial information. On the other hand, the modified retrospective approach, IFRS15 needs to be used from the beginning of the current reporting period with cumulative effect at the date of initial application as a one-off adjustment to the opening equity.
Why GCS Malta?
At GCS Malta, our Accounting specialists can offer educated advice and service based on years of experience. Our Accounting department is kept up to date with the latest changes and regulations in the Accounting industry, giving you the ease of mind that all your Accounting needs are in highly0skilled hands. Contact us today for further information.
