Simplifying income recognition for Local Government

On the 28th September 2016 the AASB issued new income recognition requirements for not-for-profit (NFP) entities:

  • AASB 10XX Income of Not-for-profit Entities; and

  • AASB 2016-X Amendments to Australian Accounting Standards – Australian Implementation Guidance for Not-for-Profit Entities.

AASB 2016-X will provide Local Governments with guidance on how best to apply AASB 15 Revenue from Contracts with Customers.  These draft standards are now available for comment as a ‘fatal flaw’ draft until 21 October 2016. The AASB plans to release the final Standards in December 2016 effective for reporting periods beginning on or after 1 January 2019 (with early application permitted).  The effective date for AASB 15 has also been deferred by one year from annual reporting periods beginning on or after 1 January 2018 to 1 January 2019.
Some sections of AASB 1004 remain, these are:
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Key features of AASB 10XX Income of Not-for-profit Entities

We recommend Local Governments consider how the following areas are likely to impact them:

  1. Assets received below fair value;

  2. Transfers received to acquire or construct non-financial assets;

  3. Grants received;

  4. Prepaid rates;

  5. Leases entered into at below market rates; and

  6. Volunteer services

1. Assets received below fair value

Much of the existing focus in accounting standards relates to assets received by the entity at zero or nominal value.  AASB 10XX will require assets[1] which are acquired (including peppercorn leases) at significantly below that asset’s fair value to be measured initially at fair value.  The accounting treatment of the difference between the transaction price and the fair value of the asset will depend on the nature of the transaction.  It may be a contribution by owners, a liability or income (Local Governments will need to refer AASB 10XX).
Example:
For instance, a car with a fair value of $30,000 which is sold to a Local Government for $10,000 (from a local car dealer so the Local Government can assist disabled people access the library) with no other conditions attached will be recorded as follows on the date of acquisition:

Dr Car

$30,000

 

 

Cr Cash

 

$10,000

 

Cr Income

 

$20,000

 2. Transfers received to acquire or construct non-financial assets

Local Governments often receive a grant to either buy or construct a non-financial asset (such as a building) for their own future use.  Where this grant requires the Local Government to refund any unspent funds then it is recorded as a liability until spent.
Example:
Threefold valley council (TVC) were granted $1m to construct an art gallery to be used and owned by them (the gallery must be used to showcase local artists for the next 15 years or the funds returned).  The grant was received in June 2015 and any unspent funds must be returned to the state government.  TVC have a 30 June year end and spent 600k on the gallery during FY 2016 and 400k to complete the gallery during FY 2017.

FY 2015

Dr Cash

$1,000,000

 

 

Cr Liability

 

$1,000,000

 FY 2016

Dr Building

$600,000

 

Dr Liability

$600,000

 

 

Cr Cash

 

$600,000

 

Cr Income

 

$600,000

 FY 2017

Dr Building

$400,000

 

Dr Liability

$400,000

 

 

Cr Cash

 

$400,000

 

Cr Income

 

$400,000

 3. Grants received

The new standard clarifies the treatment of grants and other contributions received by Local Governments (other than for non-financial assets discussed at 2. above) on the basis of whether those grants have specific and enforceable obligations attached. 
Example:
Threefold valley council (TVC) were granted $500,000 in May 2015 to fund a new education programme for underprivileged children in their region during the FY 2016 year.  As part of the grant TVC must assist at least 50 children during the year to gain employment.  If TVC fail to spend the money during that period or provide the requisite services, they must return the funds.
Since the agreement is enforceable and the services to be provided are specific in nature then this transaction is dealt with under AASB 15 (revenue from a contract with the grantor).

FY 2015

Dr Cash

$500,000

 

 

Cr Contract liability

 

$500,000

 FY 2016

Dr Contract liability

$500,000

 

Dr Expenses

$500,000

 

 

Cr Cash

 

$500,000

 

Cr Revenue

 

$500,000

 If the grant only specifies the time period for the monies to be spent, then the income would be recognised when the Local Government controlled it (usually upon receipt of the cash).

4. Prepaid rates

Example:
Threefold valley council (TVC) levies annual rates in advance of the year commencing.  I.e. during May/June for the period 1 July-30 June.  Rate payers are entitled to a refund if the rateable period hasn’t yet commenced.  After 1 July no refunds are available.
Rates received in advance are a financial liability and not recorded as revenue until the rateable period commences.

5. Leases entered into at below market rates

Under existing standards leases entered into at below market rates or peppercorn leases are often capitalised at the present value of the payments required under the lease.  Where peppercorn leases are say $1 per annum this results in an insignificant impact to the financial statements.  Under AASB 10XX the right-of-use asset will be measured at the fair value of the asset.  The lease liability will be measured in accordance with AASB 117 or AASB 16 (likely to be lower than the right-of-use asset given the below market lease payments). The difference is likely to be income in most cases.
Example:
A grant of a lease at below market rates (P.V. of minimum leases payments $10,000) of a building for its useful life would require the finance lease asset to be recognised at the fair value of the building ($100,000), with corresponding income in the year the lease was granted (unless there are performance conditions attached). 

Dr Building

$100,000

 

 

Cr Cash

 

$10,000

 

Cr Income

 

$90,000

 

6. Volunteer services

AASB 10XX has two different approaches with regard to volunteer services depending on the type of the NFP.   
Local governments, government departments, general government sectors and whole of governments must recognise volunteer services where:

  • they would have been purchased if they had not been donated; and

  • the fair value of those services can be measured reliably.

A Local Government may elect to recognise volunteer services if their fair value can be measured reliably and is encouraged by the standard to disclose information about their reliance on volunteer services whether they are recognised or unrecognised.
Example:
A council provides a service whereby it drives elderly people to shopping centres to assist their independence.  Volunteers drive the bus on average 10 hours per week, 50 weeks a year (equivalent bus driver salary $30/hr) the council must:

Dr Employee Exp

$15,000

 

 

Cr Income

 

$15,000

 

Accounting policy changes

We recommend entities consider the accounting policy changes that will be required under the new standards.  New policies are likely to be required for each of the items listed above.  Please contact us for more information.
 
 

 


[1] This doesn’t apply to assets acquired in a distress sale or in normal trade discount situations.  That is, it only applies to asset acquisitions where the discount is principally to enable a Local Government to further its objectives.