TAX NEWS - DECEMber 2009

Financial reporting developments

The IASB (the Board) met in London on 16-20 November and held several joint meetings with the US Financial Accounting Standards Board (FASB), collectively the Boards, on several ongoing joint projects. The IFRIC also met on 5 and 6 November.


Leases
Lessee accounting

Initial and subsequent measurement of the lessee's obligation to pay rentals and right-of-use asset

The lessee's obligation to pay rentals would be measured at the present value of the lease payments discounted using the lessee's incremental borrowing rate and subsequent measurement would be at the amortised costs using the effective interest method. At initial measurement, the interest rate implicit in the lease could be used if it is readily determined. No decision has yet been made as to whether the incremental borrowing rate would need to be reassessed as a result of a change in the expected lease. However, subsequent measurement of the obligation at fair value will not be permitted.

The right-of-use asset would initially be measured at cost, where cost is the present value of the lease payments plus any initial direct costs incurred by the lessee. Subsequent measurement of the right-of-use asset would be at amortised cost and described as amortisation. Impairment of the right-of-use asset would be assessed by referring to existing impairment literature under IFRS and US GAAP. Similarly, IFRS preparers would be permitted to revalue their right-of-use asset under the existing literature of IAS 38 Intangible Assets, whilst US GAAP preparers would still be unable to do so.


Leases with option to extend or terminate the lease

As uncertainty about the lease term would be addressed through recognition, all relevant factors will need to be considered when determining the lease term. The following guidance will be provided:

- The recognised lease term would be the longest possible lease term that is more likely than not to occur
- Renewal options based on prevailing market value would be considered when determining the lease term
- Reassessment of the lease term will be required at each reporting date
- Changes to the obligation to pay rentals as a result of the remeasurement of the lease term would be adjusted against the right-of-use asset


Lessor accounting

Initial and subsequent measurement of the lessee's obligation to pay rentals and right-of-use asset

The lessor's receivable would be initially recognised at the present value of the lease payments discounted using the interest rate implicit in the lease plus any initial direct costs incurred by the lessor. Subsequent measurement would be at amortised cost using the effective interest method.

The lessor's performance obligation would be at the present value of the transaction price. Any decreases in the obligation to permit the lessee to use the leased item over the lease term would be recognised via subsequent measurement.


Leases with option to extend or terminate the lease

As a general guideline, the accounting by lessors with such options should be symmetrical with the accounting by the lessees. While the lease term would be reassessed at each reporting date, should there be a change in fact or circumstances that would indicate a change in lease term, any such change to the lease receivable resulting from the reassessment of the lease term would be recorded as an adjustment to the performance obligation.


Revenue recognition
Licensing contracts

The extent of control relinquished to the customer when an entity grants a customer the right-of-use of the intellectual property, determines the amount of performance obligation in a contract and hence revenue to be recognised. Where a customer:
- Obtains control of the entire intellectual property, the contract should be considered a sale by the seller
- Does not obtain control of the entire intellectual property, but has an exclusive licence to the asset, the accounting treatment for the seller is similar to that of a lessor and revenue is recognised as the obligations to the customer are satisfied over time
- Has neither control of, nor exclusive licence to use the asset, the seller satisfies its performance obligations in the contract when it enables the customer to use the licence and benefit from it.


Subsequent measurement of performance obligations

- After contract inception, performance obligations within the scope of the proposed standard would only be re-measured when the contract is onerous. Assessing if a contract is onerous should be at the level of contract segments and would require comparison of the expected costs to satisfy the remaining performance obligations in a segment with the allocated transaction price. The difference would be recognised as a liability if the performance obligation is in excess of the allocated price.

- The measurement of the liability would be updated for the onerous segment at each subsequent financial statement date.


Contract costs

The IASB tentatively decided an entity would account for such costs in accordance with other standards as applicable (e.g. IAS 2 Inventory). Meanwhile, the FASB will further deliberate the effect of withdrawing guidance on direct costs .


IFRIC - items not taken onto the IFRIC's agenda
IFRS 2 Share-based Payment – transactions in which the manner of settlement is contingent on future events

The IFRIC was asked to clarify the classification and measurement of share-based payment transactions in which the manner of settlement is contingent on either a future event that is outside the control of the entity or the counterparty, or a future event that is within the control of the counterparty. The IFRIC noted that IFRS 2 does not provide guidance for such transactions and decided not to add the project to its agenda. The IFRIC recommended that the IASB address the issue as part of a post implementation review of IFRS 2.


IFRS 4 Insurance Contracts and IAS 32 Financial Instruments:
Presentation – scope issue for investments in Real Estate Investment Trusts (REIT)

A REIT is an entity with a special tax designation which is usually required to distribute 90% of its Total Distributable Income (TDI) to investors with the remaining 10% distributed at the discretion of management. The IFRIC received a request to provide guidance on whether the discretion to distribute the remaining 10% is considered a Discretionary Participation Feature (DPF) as defined in IFRS 4. If the definition is met, IFRS 4 permits the ownership units to be presented as a liability rather than its equity and liability components.

The IFRIC noted that providing guidance on this issue would be in the nature of application guidance and not an interpretation, and decided not to add this item to its agenda.


IAS 18 Revenue – receipt of a dividend of equity instruments

The IFRIC received a request for guidance on the recognition as revenue of a dividend in the financial statements of an investor when the dividend is in the form of an investee's own equity instruments. The IFRIC noted that, when all shareholders are issued a dividend of an investee's own equity instruments, the economic interest of the investors does not change. As a result, revenue would not be recognised as it is not probable that economic benefits will flow to the investor.

The IFRIC noted that the objective of IFRS 4 is to specify the financial reporting for insurance contracts. It is also noted that providing guidance on this issue would be in the nature of application guidance rather than an interpretation, and decided not to add this item to its agenda.


IAS 27 Consolidated and Separate Financial Statements
– combined financial statements and redefining the reporting entity

The IFRIC received a request for guidance on whether a reporting entity can present financial statements that include a selection of entities that are under common control. The IFRIC was also asked to comment whether an entity can exclude entities/business from its comparative periods that have been carved-out.

The IFRIC noted that the Board's common control project and Phase D of the Conceptual Framework project will address these issues. Therefore, the Board decided not to add the project to its agenda.


IAS 27 Consolidated and Separate Financial Statements
– presentation of comparatives when applying the 'pooling of interests' method.

The IFRIC received a request for guidance on the presentation of comparatives when applying the 'pooling of interests' method for business combinations of entities under common control. The IFRIC did not add this project to its agenda, as the Board's common control project is expected to address the issue.


IAS 32 Financial Instruments: Presentation – application of the 'fixed for fixed' condition

The IFRIC received requests to provide guidance on the interpretation of the 'fixed-for-fixed' condition when determining if an instrument that is to be settled in shares is classified as a liability or equity. The IFRIC did not add the issue to its agenda, as the Board currently has a project to improve and simplify the financial reporting for financial instruments with characteristics of equity.


IAS 38 Intangible Assets – amortisation method

The IFRIC received requests for guidance on the meaning of 'consumption of economic benefits' when determining the appropriate amortisation method for an intangible asset with a finite useful life. The IFRIC noted that the method of amortisation is a matter of judgment, guidance is already provided in IAS 38, and IAS 1 requires the disclosure of significant judgments. As a result, the IFRIC did not add the issue to its agenda.