Accounting for change

With new accounting standards set to become effective for accounting periods from January 1, 2019, Wintringham’s Head of Finance, Elizabeth Davis, outlines the implications for the community housing organisations.

Finance teams have three new accounting standards to consider after the Australian Accounting Standards Board (AASB) introduced three new accounting standards that may impact community housing organisations.

The new revenue standard, AASB 15 Revenue from Contracts with Customers, was introduced with the objective of creating a robust framework for revenue recognition and to provide additional information to users of financial reports.

The core principle of AASB 15 is to recognise revenue to depict the transfer of goods or services in an amount that reflects the consideration expected to be received in exchange for those goods or services.

The standard outlines the steps that are required to apply this principle:

  1. identify the contract with the customer
  2. identify the separate performance obligations
  3. determine the transaction price
  4. allocate the transaction price
  5. recognise revenue when a performance obligation is satisfied.

It is recommended that each step be followed to ensure revenue is recognised in accordance with the standard. The key elements of the standard that should be considered are:

  • AASB 15 defines a contract as an agreement between parties that creates enforceable rights and obligations. As such, a contract with a customer does not exist where there is an unenforceable arrangement. It should be noted that a customer may stipulate that the goods or services are provided to a third party beneficiary on its behalf.
  • When considering the performance obligations of a contract, if the terms are not ‘sufficiently specific’ then it is not able to be determined that the performance obligation is satisfied. The standard states that the performance obligation is met when control passes to the customer, which differs from the previous standard where revenue was recognised when the transfer of economic benefits occurred, or the risks and rewards of ownership have been transferred.

Additional guidance in regard to the above key elements is provided in AASB 2016-8 Amendments to Australian Accounting Standards – Australian Implementation Guidance for Not-for-Profit Entities.

AASB 15 specifically deals with revenue when a contract with a customer exists, if this is not the case then AASB 1058 Income for Not-for-Profit Entities may apply. AASB 1058 applies to transactions where the consideration to acquire an asset is significantly less than fair value and the asset is principally to enable a not-for-profit (NFP) entity to further its objectives.

The core principle of AASB 1058 is to recognise the asset acquired at fair value with the standard referring to the requirements of other accounting standards when it comes to recognising the corresponding credit, including:

  • AASB 9 Financial instruments (eg. cash received)
  • AASB 16 Leases
  • AASB 116 Property, Plant and Equipment
  • AASB 138 Intangible Assets.

It is expected that the application of AASB 1058 will result in a more aligned matching of revenue and expenses within the financial year. The standard also requires the recognition of related amounts when the initial asset is recognised and the standard specifies the relevant accounting standards to be followed including:

  • contributions by owners (AASB 1004)
  • revenue or a contract liability arising from a contract with a customer (AASB 15)
  • a lease liability (AASB 16)
  • a financial instrument (AASB 9)
  • a provision (AASB 137)

In addition to these requirements, the standard covers the receipt of volunteer services, however, it is not a mandatory requirement for NFPs to recognise the fair value of volunteer services under the standard.

The new leasing standard, AASB 16 Leases, brings operating leases onto the balance sheet. The profit and loss statements will no longer have a rental expense associated with the lease but will have an interest expense and depreciation. Whilst the impact to the bottom line over the term of the lease remains the same, the timing of the expenses differs. Higher interest costs in the early stages of the lease will result in higher expenses in the profit and loss for those periods. The effect on the balance sheet includes recognising a right of use asset and a lease liability at the beginning of the lease with the asset being depreciated over the life of the lease.

As noted above, AASB 1058 requires assets acquired at less than fair value to be recognised on the balance sheet and with the requirements of AASB 16, the result is that peppercorn leases and other below market value leases need to be accounted as leases under the new standards.

Organisations will need to assign a fair value to the lease and recognise a right of use asset and corresponding lease liability. The difference between the asset and liability should be recognised as income which, for some organisations, may lead to significant levels of income shown in the profit and loss statement.

The standard allows for a retrospective approach with income being credited to opening retained earnings rather than amending comparatives by adjusting prior year income. AASB 1058 provides an example of the application of the retrospective approach in their Illustrative examples. A challenge many organisations will face is assigning a fair value to the right of use asset, as peppercorn leases can be difficult to value.

There are some exceptions that are not required to be accounted for under the new lease standard, including short-term leases (leases with a term of less than 12 months) and low value leases. Whilst the standard does not quantify a threshold for low value leases, the International Accounting Standards Board explains in its Basis for Conclusions that leases with an underlying new asset of $US5,000 or less would qualify as a low value lease.

This paper is written as a guidance only. These changes are potentially significant and organisations should seek advice and refer to the accounting standards for application of the new requirements to their organisation’s particular circumstances.