IFRS U.S. GAAP
Relevant Standard: IAS 11 Relevant standards: ARB 45 and SOP 81-1
Applies to fixed-price and cost-plus construction contracts for single asset or combination of related assets (IAS 11.3). Basic requirements:
percentage-of-completion used if outcome can be estimated reliably. Revenue is recognized as contract activity progresses (IAS 11.22).
profit attributable to work done is
recognized when a profitable outcome can be estimated reliably (IAS 11.22-32)
probable losses are recognized as an
expense immediately, regardless of the stage reached (IAS 11.36).
Completed contract method prohibited.
Guidance not limited to construction-type contracts (SOP 81-1.11-.15)
Basic requirements:
percentage-of-completion is the preferred method (ARB 45.15). Revenue is
recognized as contract activity progresses (ARB 45.4).
profit attributable to work done is
recognized when a profitable outcome can be estimated reliably (SOP 81-1.23-.25).
probable losses are recognized as an
expense immediately, regardless of the stage reached (ARB 45.6).
Completed contract method permitted under ARB 45.15 when reasonable estimates cannot be made. Under this method, probable losses are also expensed immediately.
IAS 11 is restricted to construction contracts only (and services in connection with construction contracts (IAS 11.5)); non- construction services are covered by IAS 18.
Except for services in connection with the construction contracts, long-term service contracts are excluded from the scope of SOP 81-1 and ARB 45.
IAS 11 addresses combining and segmenting contracts. Contracts should be combined when they are negotiated as a single package and are closely interrelated (IAS 11.9). Contracts should be segmented where each part was subject to separate negotiation and costs and revenues can be separately identified (IAS 11.8).
SOP 81-1 permits the combining and segmenting of contracts, provided certain criteria are met (SOP 81-1.35-.42).
IAS 11.22 notes that revenue and costs should be recognized to the stage of completion once the outcome can be measured reliably.
The ability to produce reasonably reliable estimates is essential for the use of the percentage-of-completion method. Where a
IAS 11.23 and IAS 11.24 define when profit can be measured reliably. IAS 11.33 notes that it may be in the early stages of a contract that the outcome cannot be measured reliably (in which case, under IAS 11.32, no profit would be recognized).
precise estimate is not practical, equal amounts of revenue and cost should be recognized until results can be estimated more precisely (SOP 81-1.24-.25).
IAS 11.11(b) says that revenue should be recognized on contract variations and claims to extent that they are probable and capable of being reliably measured.
In respect of claims, IAS 11.14 adds that the customer negotiations must have reached an advanced stage and the probable amount acceptable to the customer must be measurable reliably.
Contract revenue and costs should be adjusted to reflect change orders when their scope and price have been approved by the customer and contractor. Costs of unpriced change orders may be deferred if it is probable that aggregate contract costs, including costs related to the change orders, will be recovered from contract revenues (SOP 81-1.61-.63).
Generally, recognition of additional contract revenue resulting from claims is appropriate only if it is probable that the claim will result in additional revenue and the amount can be reliably estimated, which generally requires specific criteria to be met. To the extent that the criteria are not met, the claim is treated as a contingent asset (SOP 81-1.65-.67).
5
LIABILITIES
5.1 Leases
IFRS U.S. GAAP
Relevant standards: IAS 17, SIC-15, SIC-27. IFRIC 4
Relevant standards: SFAS 13, 28, 29, 66, 98; FIN 19 and 45; FTB 88-1; FSP FAS 13-1; EITF 01-8 and 01-12
Definitions
A finance lease is one that transfers substantially all the risks and rewards of ownership of an asset to the lessee. An operating lease does not (IAS 17.8).
A capital lease is one that transfers substantially all the benefits and risks of ownership of an asset to the lessee, in accordance with specific criteria. All other leases are operating leases (SFAS 13.6- .9).
A finance lease is not determined by a “bright lines” test. Instead, IAS 17 lists factors normally indicating a finance lease, including any of the following (IAS 17.10):
transfer of ownership by end of lease term
lessee has option to purchase asset on such favourable terms such that option exercise is reasonably certain at inception
lease is for major part of asset's life, even if no purchase option exists
present value of minimum lease payments at inception amounts to at least
substantially all of the fair value of the leased asset
leased assets are specialised such that only
A capital lease is one that meets one or more of the following criteria (SFAS 13.7):
lease transfers ownership of the property to the lessee by the end of the lease term
lease contains a bargain purchase option
lease term is equal to 75 percent or more of the estimated economic life of the leased property.*
present value at the beginning of the lease term of the minimum lease payments, excluding that portion of the payments representing executory costs to be paid by the lessor, including any profit thereon, equals or exceeds 90 percent of the excess of the fair value of the leased property to the
the lessee can use them without major modification.
lessor at the inception of the lease over any related investment tax credit retained by the lessor and expected to be realized by the lessor.*
For the lessor to classify a lease as a capital lease, the following additional criteria must also be met (SFAS 13.8):
collectibility of the minimum lease payments is reasonably predictable
no important uncertainties surround the amount of unreimbursable costs yet to be incurred by the lessor under the lease * Not applicable if lease inception is within last
25% of property’s estimated economic life. IAS 17 also lists other potential indicators of a
finance lease (individually or in combination) including (IAS 17.11):
lessor's losses borne by lessee if lessee has option to cancel
gains or losses in fair value of residual fall to lessee
lessee has ability to continue lease for secondary term at substantially below- market rent.
There is no direct equivalent in SFAS 13. Periods subject to bargain renewal options are considered to be a part of the original lease term (SFAS 98.22). Guarantees of residual values are included in minimum lease payments. Lessee must recognize under FIN 45; but guarantee is not subject to SFAS 133 (EITF 01-12).
Lease classification
Lease classification and initial accounting are determined at the inception of the lease (IAS 17.13), which is the earlier of the lease agreement date and the date of commitment to the principal provisions of the lease (IAS 17.4).
Lease term begins on the date the lessee takes possession or is given control of the leased property, even if rental payments are not required until the lessee begins operations. Consequently, for accounting purposes, the lease term can begin before the initial fixed noncancelable term stated in the lease agreement (FSP FAS 13-1, fn 1).
Accounting treatment
Operating leases (lessee/lessor):
charge lease rentals or recognize lease revenue on straight-line basis over lease term unless another systematic basis is representative of the time pattern of the user's benefits (IAS 17.33 and .50).
recognise lease incentives as an integral part of the net payment for the use of the asset over the lease term (SIC-15.3-.5).
Operating leases (lessee/lessor):
charge lease rentals or recognize lease revenue on straight-line basis over lease term but if another systematic and rational basis is more representative of the time pattern in which use benefit is derived, the other basis must be used (SFAS 13.15).
incentives are recognized as a reduction of rent expense (lessee) or rental income (lessor) on a straight line basis over the lease term (FTB 88-1.7).
Finance leases (lessee):
initial recognition at fair value of the leased asset or, if lower, present value of
minimum lease payments (as determined at
Capital leases (lessee):
initial recognition at present value of minimum lease payments or, if lower, fair value of leased property (SFAS 13.10)
inception of lease) (IAS 17.20)
rate implicit in lease generally used to calculate present value. If not practicable to determine, incremental borrowing rate may be used (IAS 17.20).
capitalise assets held on finance leases and depreciate on same basis as for owned assets. If no reasonable certainty that lessee will obtain ownership, depreciate over shorter of lease term and useful life (IAS 17.27).
finance costs charged to give constant rate on outstanding obligation (IAS 17.25).
lessee's initial direct costs (costs incurred in connection with specific leasing activities) are added to the asset (IAS 17.24).
incremental borrowing rate generally used to calculate present value. However, if it is practicable to learn rate implicit in lease and that rate is lower than the incremental
borrowing rate, the implicit rate must be used (SFAS 13.7.d).
capitalize assets held on capital leases. If lease contains a bargain purchase option or transfers ownership to lessee, depreciate over useful life. Otherwise, depreciate over lease term (SFAS 13.11).
interest expense charged to produce a constant rate on outstanding obligation (i.e., the “interest” method is used) (SFAS 13.12).
initial direct costs attributable to the lessor paid by the lessee are added to minimum lease payments including costs to enhance the credit of the lessor. Costs for residual value insurance on behalf of the lessor are
considered executory costs and not added to minimum lease payments (FIN 19). In practice initial direct costs of lessee generally are deferred and amortized on a straight line basis over lease term.
Finance leases (lessor):
recognize receivable in balance sheet at net investment in the lease (IAS 17.36), which is the gross investment discounted at the interest rate implicit in the lease (IAS 17.4). Gross investment in the lease is the sum of the minimum lease payments and the unguaranteed residual value (IAS 17.4).
lessor's income under a finance lease is calculated using the pre-tax net investment method via IAS 17.39 which requires finance income to be recognised to reflect a constant periodic rate of return on the lessors' net investment.
initial direct costs (except manufacturer or dealer lessors) included in initial
measurement of finance lease receivable (IAS 17.38).
Capital leases (lessor):
recognize asset for net investment in lease, which is gross investment and unearned income. Gross investment is minimum lease payments, net of executory costs, plus unguaranteed residual value. Unearned income is the difference between the gross investment and the present value of the gross investment using the interest rate implicit in the lease (SFAS 13.17).
lessor's income under a direct financing lease is calculated using a rate that will produce a constant periodic rate of return on the net investment in the lease (i.e., the “interest” method is used). Lease-generated tax flows are not taken into account.
initial direct costs are (1) capitalized for direct financing leases, or (2) expensed as a cost of sale for sales-type leases.
Manufacturer or dealer lessors recognise selling profit or loss in the period, in accordance with the policy followed by the entity for outright sales (IAS 17.42).
The manufacturer’s/dealer’s profit on sales-type leases is the difference between (a) the present value of the minimum lease payments and (b) the leased asset’s cost or carrying amount plus any initial direct costs less the present value of the unguaranteed residual value. Special rules exist for sales-type leases involving real estate (SFAS 13.17).
Unless expect title to pass to lessee at end of lease, land normally treated as an operating lease (IAS 17.14).
Under IAS 17.15 to IAS 17.17, a lease of land and buildings should be split into land and buildings components and considered
separately. If they cannot be split reliably then the entire lease is treated as a finance lease, unless it is clear that both elements are operating leases.
IAS 17.18 notes that where land and buildings are classified as investment property and carried under fair value model under IAS 40 it is not necessary to split the land and buildings. Long term operating leases of land may be accounted for as finance leases if the lessee elects to account for the lease as an investment property (IAS 40.25)
Same as IFRS (SFAS 13.25). For capital leases where the lease transfers ownership of the property to the lessee by the end of the lease term or contains a bargain purchase option, the
lessee’s capitalized amount must be apportioned between land and building based on their relative fair values at lease inception (SFAS 13.26.a).
For leases that do not meet the ownership transfer or bargain purchase option criteria above, the land and buildings are considered separately if the fair value of the land is more than twenty-five percent of the value of the leased property at the inception of the lease (SFAS 13.26.b).
For sale and finance leaseback transactions, gain is deferred and amortized over the lease term (IAS 17.59).
For sale and operating leaseback transactions where sale price is (IAS 17.61):
at fair value, immediate profit/loss recognition.
below fair value, immediate profit/loss recognition, but if loss is compensated by lower rentals, then defer over asset’s expected useful life.
above fair value, defer and amortize excess over asset’s expected useful life.
For sale and leaseback generally, profit or loss is deferred and amortized:
in proportion to the amortization of the leased asset, if a capital lease
in proportion to the related gross rental charged to expense over the lease term, if an operating lease
Above rules are modified if seller-lessee retains less than substantially all of the use of the asset and if fair value at time of transaction is less than net book value; loss for the difference between the two amounts must be immediately recognized (SFAS 13.32-.33).
Special rules exist for sale-leaseback transactions involving real estate (SFAS 66 and 98).
Lease classification may differ for lessor and lessee, such as when third party guarantees residual value (IAS 17.9).
Lease classification may differ for lessor and lessee, depending upon whether criteria in paragraphs 7 and 8 of SFAS 13 are met. IFRIC 4 provides guidance on whether an
arrangement contains a lease (this geared for a scenario where a power company has a facility which is used almost exclusively to provide
EITF 01-8 provides guidance on determining whether an arrangement contains a lease.
power for one entity).