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The IASB discussed developing a framework for conducting post-implementation reviews as required as part of the 'Due Process Handbook for the International Accounting Standards Board'.
The IASB discussed developing a framework for conducting post-implementation reviews as required as part of the Due Process Handbook for the International Accounting Standards Board (the "Handbook"). The Handbook establishes that post-implementation reviews will normally be carried out two years after the new requirements have been implemented.
The Board agreed that as part of developing a framework for post-implementation reviews, the IASB staff will seek views from the IFRS Advisory Council, the IFRS Interpretations Committee and the group of National Standard-Setters. The staff will be conducting this outreach during February and March 2011 and plans to bring a draft framework for discussion by the Board during the April 2011 Board meetings.
The IASB and FASB considered whether an entity should allocate revenue to all product warranties and, if not, to which warranties an entity should allocate revenue.
Considering whether an entity should allocate revenue to all product warranties and, if not, to which warranties an entity should allocate revenue
As part of the IASB and FASB's continued redeliberations on the feedback received on their revenue recognition proposals, the Boards discussed accounting for product warranties. In the Exposure Draft, Revenue from Contracts with Customers, the Boards proposed that entities would assess whether the objective of a warranty was to provide coverage for either quality assurance or an insurance warranty. The quality assurance warranty protects against defaults which existed as part of production and would not give rise to a separate performance obligation but instead would represent a lack of fulfilment of the original performance obligation. An insurance warranty protects against future events and therefore would give rise to a separate performance obligation.
Almost all comment letter respondents stated that in practice it may be difficult to determine when a fault in a product has arisen (i.e., whether it relates to original production or future use). Additionally, some felt that because revenue would be deferred in any case under the proposals distinguishing between the two would not be cost beneficial. Some also commented that revenue deferral does not represent the underlying economics for some warranty arrangements, in particular standard warranties, which those respondents felt cost recognition was more appropriate than revenue deferral.
The Boards discussed the feedback received and acknowledged the concerns expressed over the operational complexity. The Boards tentatively agreed that some warranty arrangements should be a separate warranty obligation rather than a performance obligation. As a separate warranty obligation, there would be no revenue deferred and instead a warranty obligation and warranty expense would be recognised upon transfer. The Boards also discussed which warranty arrangements should meet this criteria as a separate warranty obligation (and conversely which would be considered a separate performance obligation and result in revenue deferral).
The IASB and FASB staff had proposed a step-criteria where if the customer has the opportunity to purchase the product warranty separately then the warranty would have a separate performance obligation (revenue deferral). If the customer does not have an option to separately purchase a product warranty, then judgement would be needed to determine if the warranty provides a service to the customer and would represent a separate performance obligation or whether the warranty represents a separate warranty obligation (cost accrual).
A FASB member questioned whether the separate purchase consideration would only be from the supplier or whether a third party would also be considered. The staffs responded that third parties would be considered under their recommendation but would have to be for the same product and same time period. Multiple IASB and FASB members had concern over the consideration of warranties offered by third parties. One IASB member referenced research he had performed on automobile warranties and that there were countless options all differing by level of coverage and length of term. He referenced the difficulties an entity would have in performing due diligence on the warranty products offered by competitors.
Several IASB and FASB members generally supported the proposals by the staff but requested the staff to supplement the proposed approach with additional application guidance. In particular, they noted examples of warranty arrangements which included service components (e.g., automobile warranties which include oil changes or brake replacements). The staff will take the feedback received during the meeting to further develop the proposals for a vote at a future meeting.
The IASB and FASB discussed defining a lease and how a lease should be distinguished from a service.
As part of the IASB and FASB redeliberations on the proposals in their Exposure Draft, Leases, the Boards plan to discuss the definition of a lease, the lessor accounting model, the lease term, variable lease payments and profit or loss recognition patterns. (A summary of constituent feedback on the Exposure Draft can be found in the Deloitte (United States) publication Heads Up Boards Consider Feedback on Leases ED (PDF 165k)).
How to distinguish between a lease contract and a service contract
During this meeting, the Boards discussed defining a lease and how a lease should be distinguished from a service.
The principles in defining a lease under the right-of-use model in the exposure draft include distinction of contracts which specify:
fulfilment of the contract is dependent upon the supplier (lessor) providing a specified asset or assets, and
conveyance of the right to control the use of specified assets is provided to the purchaser (lessee).
Respondents to the exposure draft had initially indicated that further clarity was needed in application of the above right-of-use model principles in the following environments:
the supplier can substitute the assets used to fulfil a contract, and
the specified asset is a component or portion of a larger asset.
Right to control the use of a specified asset:
the supplier provides additional services relating to the specified asset, and
the purchaser obtains all but an insignificant amount of the output or other utility of a specified asset.
The IASB and FASB staff asked the Boards to consider which factors help determine how the principles of a specified asset and the right to control the use of a specified asset should be applied in determining whether an arrangement contains a lease.
Identification: When asked to consider whether specific identification of an individual asset (e.g., asset serial number) was required to satisfy the criterion outlined above, the Boards generally agreed that specific asset identification was not a requirement. The Boards did note that asset specificity would generally be expected to consider the functionality, homogeneity and value of the asset to the lessee in any asset substitution environment. The Boards also questioned whether any contractually specified asset is required to take the form of a specific tangible asset, in contrast to an intangible asset, in which no uniform conclusion was reached.
Substantive: When asked to consider the substantive terms of an arrangement in the form of customer indifference to use of a pool of assets in satisfaction of lessee requirements, certain members of the Boards noted consideration to the lessee's dependency on specific assets; noting that a termed 'equivalent' asset of consistent functionality, homogeneity and value to the lessee would not result in classification as a service contract when viewed in isolation
Componentisation: When asked to consider distinction of specified assets when use of a 'specified' asset is componentised for use by multiple parties (e.g., fibre-optic data cable), the Boards were unable to develop a consensus view on whether such componentisation would result in an inability to control physical access to a specified asset.
Right to direct the operation: When asked to consider the right to direct the operation, the Boards considered whether the ability to direct the operation required direct performance by the lessee to the contract at all levels of functionality, or whether contract specificity as to the lessee's ability to direct the functionality of the lessor served in fulfilling this requirement. No consensus view was reached on this topic
Right to control physical access: When asked to consider the right to control physical access, the Boards considered whether restriction of physical access required total unrestricted use of the assets, such that componentised asset use would serve to restrict recognition of a contract as a lease. No consensus view was reached on this topic.
In addition to the above, the Boards considered whether contracts which contain an embedded asset and service elements should be bifurcated and accounted for separately, and if so, how such components should be evaluated when considering value and importance of such elements to functionality; however, a conclusion was not reached on this topic during the respective Boards' meeting.
No tentative decisions were reached during this session. The staff intended to use the information obtained in these discussions in developing formal proposals to bring to the Boards during a future meeting.
The IASB (1) received an updated timetable for issue of the standard (2) discussed the distinction between defined benefit plans and defined contribution plans (3) considered the accounting for risk sharing features in a defined benefit plan.
The meeting began with the staff providing the Board with a time table until the final Standard would be issued at the end of March 2011. After the completion of today's discussion, the remaining topics for deliberation at the regularly scheduled February 2011 Board meeting would be transition, effective date and any carryover issues identified. The staff also provided the Board with an agenda paper which summarised the Board's tentative decisions to date.
Distinction between defined benefit plans and defined contribution plans
Some comment letter respondents expressed concern over the inclusion in the examples of defined benefit plans in paragraph 26 of IAS 19 of the criterion that a plan benefit formula that is not linked solely to the amount of contributions. They noted that as a result, certain plans have been classified as defined benefit plans which otherwise have characteristics of defined contribution plans. Specifically mentioned were certain defined contribution plans that have a benefit formula which determines the benefits to be paid out if the plan assets are sufficient, but for which the employer has no obligation to provide additional contributions if the plan assets are not sufficient (i.e., the benefit payments are the lower of benefit formula or the plan assets available).
The staff recommended the Board clarify that the existence of a benefit formula itself would result in classification as a defined benefit plan by including guidance that for defined benefit plans, a benefit formula would create an obligation that requires the employer to pay additional contributions as a result of current or past service. One Board member questioned the inclusion of the word "additional" with regards to contributions and whether it was necessary. The staff clarified that a defined contribution plan may require the employer to contribute an amount to the plan, this criterion is to focus on whether an additional contribution related to the benefit formula would be required. The Board tentatively agreed to clarify that for a plan to be classified as a defined benefit plan, a benefit formula needs to give rise to a legal or constructive obligation that may require the employer to pay additional contributions as a result of current or past service.
Accounting for risk sharing features in a defined benefit plan
Term of the benefit promise vs. assumptions
Determining whether an input of a defined benefit obligation is part of the benefit formula or an actuarial assumption is often difficult and the determination impacts the recognition and presentation of changes to that input. For example, amending benefits promised to employees results in past service costs, recognised when the change occurs and presented with current service costs. However, changes in actuarial assumptions are actuarial gains or losses and recognised when there is a change in the best estimate of the assumption and presented with remeasurements.
The Board considered whether to provide additional guidance on whether an input into the calculation of the defined benefit obligation is a part of the benefits promised or part of the actuarial assumptions. The Board tentatively agreed not to provide further clarification as the determination involves judgment based on the specific facts and circumstances.
Some comment letter respondents expressed concern on how the proposals in the exposure draft ED/2010/3 Defined Benefit Plans would be applied for employee contributions and the allocation to periods of service. Employee contributions share the same difficulties as determining whether an input is a term of the plan or an actuarial assumption.
The Board tentatively agreed to clarify that the benefit to be attributed under either the benefit plan formula or on a straight-line basis (in accordance with paragraph 67 of IAS 19) would be net of the effect of employee contributions and attributed in a similar manner. The Board believes that doing so would address the concerns of those who feel that the benefit obligation includes cost of future increases in salaries but not the benefit of future contributions related to salary increases.
The staff acknowledged that there currently exists diversity in practice about how benefits are attributed to periods of service but did not propose any further clarification.
The Board also tentatively agreed to amend the proposal in the exposure draft in paragraph 64A to only refer to the effect of employee contributions on the defined benefit obligation, without referring to the presentation of the effect in the statement of other comprehensive income.
Some respondents expressed concern with the proposal to consider conditional indexation of benefits in the liability when the indexation is conditional on the assets in the plan. Some felt that the effect of a future increases in the assets is taken into account in the measurement of the liability but not in the measurement of plan assets. Additionally, some felt the requirements were too narrow and the effect of conditional indexation is only taken into account if the terms of the plan allow an entity to adjust the benefits promised.
The Board tentatively agreed to clarify that the assumptions used to estimate conditional indexation or changes in benefits should be 1) reflected in the measurement of the obligation regardless of whether the indexation or changes in benefits are automatic or are subject to a decision by the employer, by the employee, or by a third party such as trustees or administrators, and 2) be mutually compatible with the other assumptions used to determine the defined benefit obligation. Two Board members disagreed with the decision.
Limits on contributions
Some respondents noted that a plan may cap the amount of contributions an employer can be required to pay, either because of a funding arrangement between the employer and the plan or local laws and regulations. They asked the Board to clarify if such a limit should be taken into account in the measurement of the deferred benefit obligation. The Board tentatively agreed to clarify that limits on the legal and constructive obligation to pay additional contributions should be included in the calculation of the defined benefit obligation.
The IASB and FASB discussed the topic of costs of obtaining a contract in the context of revenue recognition and frequently compared these issues with how they are being handled in the leasing and insurance projects.
Accounting for costs of obtaining a contract
The Exposure Draft, Revenue from Contracts with Customers proposes that all costs incurred in obtaining a contract be expensed as incurred as the asset resulting from the costs of obtaining a contract is primarily the contract asset.
Some comment letter respondents disagreed with this proposal because they felt:
the proposed guidance is inconsistent with other accounting literature and other exposure drafts
cost guidance should not be included in a revenue recognition standard
some costs of obtaining a contract result in future benefits that represent an asset.
The Boards discussed the topic of costs of obtaining a contract in the context of revenue recognition and frequently compared these issues with how they are being handled in the leasing and insurance projects. The Boards first tentatively agreed that the revenue recognition project should not comprehensively address all cost guidance during redeliberations, but rather only the guidance that would be affected by withdrawing existing revenue recognition guidance.
The discussion then centered on whether to reverse the proposal in the exposure draft to expense all costs as incurred and recognise certain costs as assets. The staff agreed with the comment letter responses that stated in certain instances, costs from obtaining a contract result in the creation of an asset that should be recognised. Additionally, the staff acknowledged that the proposals for recognition of costs are inconsistent with other exposure drafts such as lease accounting, insurance contracts and the FASB's proposals on financial instruments. However, the staff also believes that each project has its own objectives.
The staff provided the Boards with two alternatives for addressing constituent concerns on the treatment of costs of obtaining contracts:
Alternative 1 would recognise an asset for the incremental costs (i.e., costs directly attributable to obtaining a contract and would not have been incurred if the contract had not been obtained) that are expected to be recovered.
Alternative 2 would recognise all costs of obtaining a contract as expenses except for those guaranteed to be recovered which would be recognised as assets.
Both Boards were generally supportive of Alternative 1, although one Board member from each Board supported Alternative 2. Additionally, several Board members were not enthused with their support for Alternative 1, some preferring direct expense of costs instead.
The discussion around Alternative 1 focused on what would be considered incremental costs of a contract. Specifically mentioned were questions on costs incurred at a "portfolio" level such as salary expense and whether successful execution of contract was required to recognise the associated costs as an asset. The staff clarified the proposal in Alternative 1 would only apply to successful efforts.
The Boards tentatively agreed to require an asset to be recognised for the incremental costs of obtaining a contract that are expected to be recovered. The Boards also requested the staff develop additional guidance and/or examples on what constitutes incremental costs as there were differing interpretations among the Board members based on the language in the proposal.
The IASB and FASB discussed the accounting for acquisition costs for insurance contracts.
The Boards discussed the accounting for acquisition costs for insurance contracts. The debate was difficult to follow and not helped by the staff, who attempted to 'clarify' a critical element of their recommendation but succeeded only in confusing Board members. Board members were evidently uncomfortable about developing a reporting model for acquisition costs in an insurance contract that was fundamentally different to that developed for revenue contracts.
The Boards tentatively decided that for contracts issued, some acquisition costs should be included in the initial measurement of insurance contracts as contractual cash flows and all other acquisition costs should be expensed as incurred and this determination should be performed at the portfolio level.
The Boards then discussed whether acquisition costs included in the cash flows of insurance contracts should be limited to those that are direct (e.g., salaries) and incremental (e.g., bonuses and commissions) at the portfolio level, or 'direct and direct and incremental'. The staff thought that this construction was necessary to prevent abuse because of US-based experience that involved innovative approaches to what 'direct and incremental' means. The Boards also discussed whether there should be a further limitation to successful contracts only. (Several Board Members appeared confused about the distinction being drawn, since a portfolio could only consist of issued (successful) contracts.) Board members were split on this issue and given that not all Board members were present, this issue will be brought back at a future meeting.
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