Are you really in compliance with IFRS® Standards in 2020?

Should training costs incurred to fulfill a contract with a customer be recognized as an asset or an expense when incurred?

Based on the fact pattern in the request, the IFRS IC concluded that costs to train an entity's employees are in the scope of IAS 38, which precludes capitalization because the entity has insufficient control over the expected future economic benefits arising from the training. Therefore, training costs cannot be capitalized under IFRS 15 and must be expensed when incurred, even if they are explicitly rechargeable under the contract with the customer.

We believe the same conclusion would generally be reached under US GAAP.

How should an entity recognize player transfer payments received? Specifically, should the entity recognize the transfer payment received as revenue applying IFRS 15 or, instead, recognize the gain or loss arising from the derecognition of the intangible asset in profit or loss applying IAS 38?

The IFRS IC discussed a scenario in which a football club transfers a player to another club and receives a transfer payment. The football club had previously recognized the costs to acquire the player's registration right as an intangible asset. The IFRS IC observed that because the football club classified the registration right as an intangible asset, it should apply the derecognition requirements in IAS 38, and not recognize revenue related to the transfer payment received. Further, the cash receipt from the transfer payment is presented as cash flows from investing activities.

We believe a similar conclusion (not revenue) would be reached under US GAAP.

In a contract for the use of a ship, certain relevant decisions about how and for what purpose the ship can be used during the period of use are predetermined in the contract. However, the customer retains relevant decision-making rights about where and when the ship sails, and those decisions affect the economic benefits to be derived from the ship’s use. The supplier operates and maintains the ship throughout the five-year term. Does the contract contain a lease under IFRS 16?

Based on the fact pattern in the request, the IFRS IC concluded that the customer has the right to direct the use of the ship throughout the lease term. This is because, while some decisions about how and for what purpose the ship will be used are predetermined, other relevant ‘how and for what purpose’ decisions are not predetermined – i.e. are available to be made during the period of use – and the customer controls those decisions. Consequently, the contract contains a lease, assuming the other parts of the lease definition are met.

We believe the same conclusion would be reached under US GAAP.

In a sale-leaseback transaction with variable lease payments, how should the seller-lessee measure the right-of-use asset arising from the leaseback and determine the amount of any gain or loss to be recognized at the date of the transaction?

Based on the fact pattern in the request, the IFRS IC noted that a seller-lessee should measure the right-of-use asset at the proportion of the previous carrying amount of the asset that relates to the right-of-use retained. In doing so, the seller-lessee compares the right-of-use retained with the rights comprising the entire asset. The right-of-use asset should not be initially measured at zero because that would not reflect the retained portion of the previous carrying amount.

The seller-lessee should also recognize a liability. The characterization of that liability (i.e. as a lease liability or another type of liability, such as a financing liability) and its measurement throughout the lease term are the subject of an ongoing IASB project. An exposure draft of proposed amendments to IFRS 16 was released in November 2020 and is open for public comment until March 29, 2021.

The accounting for sale-leaseback transactions under US GAAP is fundamentally different from IFRS Standards. In addition to differences in how to measure the sale-date gain or loss, the IFRS IC agenda decision and likely IFRS 16 amendments on measuring the lease liability in a sale-leaseback transaction will give rise to additional GAAP differences because seller-lessees applying US GAAP do not include variable lease payments (other than those that depend on an index or a rate, such as CPI or fair market rent) in measuring the lease liability or the right-of-use asset at lease commencement or at any point in the lease term thereafter.

Do the sale-leaseback requirements in IFRS 16 apply to a transaction in which an entity sells its equity interest in a subsidiary holding one asset and leases that asset back?

Based on the fact pattern in the request, the IFRS IC noted that the entity should recognize only the amount of any gain that relates to the rights transferred to the third party buyer, reflecting the sale-leaseback requirements in IFRS 16.

The IFRS IC noted that the transaction results in the entity losing control of the subsidiary and transferring control of the asset (through its equity interest in the subsidiary), and leasing the asset back. Therefore, both the loss of control requirements in IFRS 10 and the sale-leaseback requirements in IFRS 16 apply to the transaction.

The IFRS IC recommended that the Board consider amending loss of control requirements in IFRS 10 to add a cross reference to sale-leaseback requirements in IFRS 16.

The accounting for sale-leaseback transactions under US GAAP is fundamentally different from IFRS Standards. Under US GAAP, this question would likely not arise because seller-lessees recognize the entire gain on the sale of the asset subject to the sale-leaseback, not solely the portion of the gain that relates to the residual asset rights transferred to the buyer-lessor.

How should an entity account for deferred tax when the recovery of the carrying amount of an asset gives rise to multiple tax consequences?

In the scenario discussed by the IFRS IC, an entity acquires a license as part of a business combination. Under the income tax law, no deduction is available on use of the license for the purposes of the corporate tax, but the full amount paid is deductible when it expires for the purposes of the capital gains tax. The tax loss under the capital gains tax cannot offset taxable gains under the corporate tax.

The IFRS IC noted that the recovery of the asset’s carrying amount gives rise to two distinct tax consequences – it results in taxable economic benefits from use and a capital gains deduction on expiry that cannot be offset in determining taxable profit. Therefore, an entity reflects separately these two distinct tax consequences and identifies two separate temporary differences. The entity applies the recognition and measurement requirements of IAS 12 to each identified temporary difference.

Based on the Agenda Decision, we believe the recognition, measurement and presentation of deferred tax related to an asset  expected to be recovered in multiple ways depends on whether these expected ways of recovery are subject to different sections of the income tax law (e.g. corporate tax versus capital gains tax) and whether taxable gains and tax losses determined under those different sections of the income tax law may be offset.

The following are example scenarios.

• Tax consequences are subject to different sections of the income tax law and cannot be offset. In this scenario, we believe an entity should identify separate temporary differences by comparing the tax deduction for the purposes of corporate tax and the tax deduction for the purposes of capital gains tax. The entity should then apply the recognition, measurement and presentation requirements of IAS 12 to these separate temporary differences.
• Tax consequences are subject to different sections of the income tax law, but can be offset. In this scenario, we believe an entity should identify separate temporary differences and apply the recognition and measurement requirements of IAS 12 (including the recoverability assessment) to those separate temporary differences. However, if the offsetting criteria in IAS 12 are met, the entity should present a single deferred tax asset or liability.
• Tax consequences are subject to the same section of the income tax law. In this scenario, we believe an entity should identify a single temporary difference. However, if different tax rates apply to the usage and sale of the asset, the entity should identify a part of the temporary difference expected to reverse through use and another part expected to reverse through sale, and apply the respective tax rates to each part in measuring the deferred tax. A similar approach applies to measuring deferred taxes on investments in associates with multiple tax consequences.

Which rate should an entity apply, in its consolidated financial statements, in measuring deferred tax related to its investment in a subsidiary if profits are taxable only when distributed – i.e. zero rate applies to undistributed profits?

The IFRS IC noted that in the scenario addressed in the request the recognition exception for tax effects of a taxable temporary difference is not met because an entity expects the subsidiary to distribute its profits in the foreseeable future. Therefore, an entity recognizes the deferred tax liability and measures it by applying the general measurement principles in IAS 12 – i.e. reflecting the tax consequences of profit distribution.

We believe the same conclusion would be reached under US GAAP in this fact pattern because the subsidiary is expected to distribute it profits and therefore the outside basis differences will reverse. Under US GAAP, unlike IFRS Standards, a deferred tax liability for outside basis differences is recognized in respect of domestic subsidiaries that are greater than 50% owned, unless the tax law permits a tax-free recovery of the investment and the parent entity expects that it will ultimately use that means of recovery. Under IFRS Standards, because an entity controls an investment in a subsidiary or branch and the timing of profit distribution, there is generally no need to consider the reversal of a taxable temporary difference, until distribution becomes expected, like in this fact pattern.

How should an entity present exchange differences arising from translating a hyperinflationary foreign operation?

The IFRS IC discussed how to present the restatement¹ and translation² effects and noted that an entity may apply one of the following approaches.

• Approach 1. Present the restatement and translation effects in other comprehensive income (OCI), if the entity considers that the combination of those two effects meets the definition of an exchange difference in IAS 21.
• Approach 2. Present the translation effect in OCI, if the entity considers that only the translation effect meets the definition of an exchange difference in IAS 21. In this case, the entity presents the restatement effect directly in equity.

How should an entity with a hyperinflationary foreign operation present the cumulative amount of exchange differences that arose from the translation of the foreign operation before it became hyperinflationary?

The IFRS IC discussed cumulative pre-hyperinflation exchange differences accumulated in the foreign currency translation reserve before a foreign operation becomes hyperinflationary, and whether these exchange differences should be reclassified within equity or retained in that separate component of equity when the foreign operation becomes hyperinflationary –  and therefore whether such exchange differences should be recycled to profit or loss upon disposal of that foreign operation.

The IFRS IC determined that the entity should continue to present the foreign currency translation reserve as a separate component of equity until disposal, or partial disposal, of the foreign operation.

We believe a similar conclusion (presentation of the foreign currency translation reserve as a separate component until full / partial disposal) would be reached under US GAAP.

Should an entity restate the comparative amounts in the period a foreign operation becomes hyperinflationary?

The IFRS IC noted little diversity in applying IAS 21 on this question – i.e. entities generally do not restate comparative amounts in their interim or annual financial statements when a foreign operation’s functional currency first becomes hyperinflationary. Consequently, the IFRS IC decided not to add the matter to its standard-setting agenda.

We believe that comparative amounts would not be restated under US GAAP.

How does an entity present its obligations to which reverse factoring arrangements relate (i.e. how does it present its obligations to pay for goods or services received when the related invoices are part of a reverse factoring arrangement) and what are the disclosure requirements?

The IFRS IC tentatively concluded that liabilities that are part of a reverse factoring arrangement should be presented separately on the balance sheet when the size, nature or function of those liabilities make separate presentation relevant to an understanding of the entity’s financial position. Factors to consider include whether additional security is provided through the arrangement, and whether the terms of these liabilities are sufficiently different from the terms of trade payables that are not part of the arrangement.

Additionally, the IFRS IC noted that derecognition of a liability relating to a reverse factoring arrangement should be assessed under the derecognition requirements of IFRS 9.

The IFRS IC tentatively concluded that assessing the nature of the liabilities that are part of the arrangement may help determine the nature of related cash flows as arising from operating or financing activities. Also, the entity presents on its statement of cash flows only those cash inflows and outflows that involve the entity. For example, a financing transaction that does that does not involve cash flows for the entity would be disclosed elsewhere in the financial statements.

Practice is currently mixed on this issue, with many entities grossing up the cash flows to present: an operating cash outflow to settle the trade payable, a financing cash inflow for the proceeds from the borrowing and a financing cash outflow when the borrowing is repaid.

In addition, IFRS 7 disclosure requirements apply to those arrangements – e.g. liquidity risk disclosures.

There is no explicit guidance in US GAAP that addresses structured payable arrangements. However, the SEC staff believes that in certain circumstances the substance of the arrangement may be that the entity has obtained financing to pay its suppliers. In this case, the liability is presented as a borrowing rather than a trade payable. In these circumstances, we believe the cash flows should be presented gross. The FASB recently added a project to develop disclosure requirements that enhance transparency about the use of supplier finance programs involving trade payables. The SEC staff has also encouraged companies to disclose information about these programs.