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IAS 37 & IFRIC 6 — IFRS Interpretation - Levies

Date recorded:

Background

In May 2012, the IFRS Interpretations Committee published a draft Interpretation on the accounting for levies charged by public authorities on entities that participate in a specific market. The comment period ended on 5 September 2012.

At the November 2012 Interpretations Committee meeting, the Interpretations Committee was presented with a summary and an analysis of the comments received on the draft Interpretation. The Interpretations Committee tentatively decided that:

  1. it should rediscuss the accounting for levies with minimum thresholds
  2. the final Interpretation should address the accounting for levies that are within the scope of IAS 37 Provisions, Contingent Liabilities and Contingent Assets and levies whose timing and amount is certain
  3. the final Interpretation should not address the accounting for liabilities arising from emissions trading schemes that are within the scope of the IASB’s project on emissions trading schemes
  4. the term ‘levy’ should be defined in the final Interpretation
  5. the final Interpretation should provide guidance on the accounting for the liability to pay a levy in annual and interim financial statements
  6. it should confirm the guidance provided in the consensus of the draft Interpretation regarding the accounting for the liability to pay a levy
  7. further impact analysis of the final Interpretation on the accounting for levies is not needed
  8. the final Interpretation should not require additional disclosures specific to levies
  9. it should not propose to introduce specific requirements regarding levies in IAS 34 Interim Financial Reporting
  10. it should ask the IASB to consider the issues regarding the accounting for levies when developing the definition and recognition criteria for a liability in its project on the Conceptual Framework.

Definition of a levy

The Staff firstly provided their proposed definition of a levy in the Interpretation being transfers of resources imposed by governments on entities in accordance with laws and/or regulations other than:

  • levies that are within the scope of other Standards (such as income taxes within the scope of IAS 12 Income Taxes)
  • fines or other penalties imposed for breaches of the laws and/or regulations.

The Staff then proposed that in the Basis for Conclusion it would be specified that the Interpretation does not address the accounting for:

  • Income taxes within  the scope of IAS 12
  • Payments made by an entity in accordance with an agreement concluded between a government and that entity for the acquisition of an asset or the rendering of services (levies are imposed by governments and therefore exclude agreements)
  • Fines and penalties as a consequence of the breach of laws and/or regulations.

The Staff asked whether the Interpretations Committee agreed with their definition of the term “levy”.

All Committee members tentatively agreed to the Staff definition.

Accounting for the debit side of a liability to pay a levy

The Staff noted that the draft Interpretation only includes non-exchange transactions.  As a result entities paying levies that were considered to be exchange transactions would not be within the scope of the Interpretation.  The Staff were of the view that liabilities to pay a levy should all be accounted for consistently irrespective of whether those levies were analysed as exchange transactions or not.

The Staff noted that the inclusion of all levies would only affect the debit side of the transaction and that the Interpretation should focus on the accounting for the liability to pay the levy in accordance with the requirements of IAS 37.  They thought that the Interpretation should not address whether the debit side of the liability was an asset or expense but should refer to other standards to decide this treatment.

The Staff proposed an amended scope (that they thought would give greater consistency in accounting for levies) and as a result of the proposed changes an entity would be required to apply:

  1. the Interpretation to the accounting for the liability to pay a levy (irrespective of whether the levy is an exchange transaction or not); and
  2. other Standards to the accounting for the debit side of the liability.

The Staff asked the Interpretations Committee whether:

  1. They agreed that the final Interpretation should address the accounting for the liability to pay a levy irrespective of whether those levies were analysed as exchange transactions or not; and
  2. They agreed that the final Interpretation should refer to other standards with regard to the accounting for the debit side of the liability.

One of the Committee members agreed with the first question (a) that the Staff were asking.  This member agreed also with the second question (b) that the Staff were asking but questioned whether the debit side should also be dealt with in order that the issue of P&L “expense” recognition is also addressed. Another Committee member agreed with looking to other standards for the treatment of the debit but noted an inconsistency with a discussion later in the paper where for interim accounting entries the Staff were proposing booking entries to accruals and deferrals which would hence prescribe where the debit should go.  This member questioned, therefore, whether the Interpretation would be providing guidance on the debit side of the entry or not even though the Staff were proposing that it would not by referring to other standards for treatment.

A discussion was held among other Committee members regarding whether all exchange transactions should be included as the Staff were proposing or whether to keep the scope exclusion as it is currently written in the draft Interpretation.  Specifically the discussion was around normal commercial exchange transactions with a government and whether these should be included.  Some Committee members were of the view that they should not be.

The majority of Committee members tentatively agreed that both exchange and non-exchange transactions should be included within the Interpretation.  The Staff noted that the basis of conclusion would include that payments made by an entity in accordance with an agreement with the government for the acquisition of an asset or the rendering of services will be excluded from the scope of the Interpretation.

The majority of Committee members tentatively accepted both of the Staff’s recommendations.

Accounting for levies with minimum thresholds (Annual Financial Statements)

The Staff noted that at the January Interpretation Committee meeting, the Interpretations Committee was required to decide:

  1. whether the threshold issue is a recognition issue or a measurement issue
  2. whether the accounting should be the same for all types of thresholds (such as thresholds based on revenues, assets or liabilities)
  3. whether the rationale developed in the examples in IAS 34 Interim Financial Reporting (paragraphs B7 and B12) are specific to interim financial statements or whether the same rationale should also be applied in annual financial statements.

The Staff noted that the draft Interpretation does not address the accounting for levies that are due only if a minimum revenue threshold is achieved.  The Interpretations Committee previously could not reach a decision on whether the obligating event is

  1. The generation of revenues only after the threshold has passed, or
  2. The generation of revenues as the entity makes progress towards the revenue threshold.

The Staff noted that proponents of alternative (a) think that passing an activity threshold affects the recognition of the liability, i.e. the liability should be recognised only after the

threshold is met.  They also noted that proponents of alternative (b) think that the threshold only affects the measurement of the liability (but not its timing of recognition), i.e. the liability should be recognised progressively as the entity generates revenues if the threshold is expected to be met.

The Staff noted that the IASB supported alternative (b) when consulted by the Interpretations Committee.

The Staff noted that they were of the view that there were two different types of levies with minimum thresholds:

  1. (TYPE A)levies that are triggered if a minimum activity threshold is met in the current period (such as a minimum amount of revenues, sales, outputs produced or any other data reflecting the entity’s activity in the current period); and
  2. (TYPE B) levies that are triggered if an entity operates on a specified date as identified by the legislation, provided that a minimum threshold is met.

Levies that are triggered if a minimum activity threshold is met in the current period

The Staff presented their view to the Committee that for levies that are triggered if a minimum activity threshold is met in the current period the Interpretation should specify that the obligating event is the activity undertaken after the threshold is met.  The Staff therefore thought that in these cases, the existence of the threshold affects the timing of recognition of the liability (and is not a measurement issue).

Levies that are triggered if an entity operates on a specified date as identified by the legislation, provided that a minimum threshold is met

The Staff noted that in these cases, the thresholds do not affect the obligating event because they are not based on the activity that triggers the levy.  The Staff noted that the obligating event is operating on a specified date and that the threshold does not affect recognition but only measurement of the liability.

The Staff noted that they thought that the final Interpretation should specify that the

existence of a minimum threshold that is not based on the activity that triggers the payment of the levy (as identified by the legislation) affects the measurement of the liability (but not the timing of its recognition).

The Staff asked the Interpretations Committee whether:

  1. They agreed that, for levies that are triggered if a minimum activity threshold is met in the current period, the obligating event is the activity undertaken after the threshold is met; and
  2. They agreed that, for levies that are triggered if the entity operates on a specified date as identified by the legislation, the existence of a minimum threshold affects the measurement of the liability (but not the timing of recognition).

One Committee member did not really see the distinction between the two types of levies with minimum thresholds – he noted that these were just levies with different obligating events.  He noted that he thought that in both instances the issues were one of recognition –views shared by other Committee members rather than measurement.

One Committee member disagreed with the Staff analysis and noted that he was of the view that where there is a minimum threshold that an entity needs to reach, every sale achieved before the threshold is a recognition event and the issue is then therefore measurement.  This view was shared by another Committee member.

Another Committee member supported the Staff proposal and questioned how this could not be the “correct” answer based upon the basis of conclusion in the Draft Interpretation around when the obligating event is.  This view was also shared by other Committee members.  She noted that in her view the obligating event in Type A levies is the point at which the minimum threshold is met – i.e. the last event (when the threshold is met).  This view was also shared by another Committee member.  Another Committee member supported the Staff proposal (and these views) and noted that the principle was that you have to look at the last event to recognise the liability regardless of whether there is a minimum threshold or not.

The Chair brought the discussion to a close.  He noted that there were two views being shared:

  • There is only one event (i.e. the last event) that triggers the obligation – in line with the Draft Interpretation (Staff recommendation)
  • There are situations where there are two (or more) events and hence the liability should be recognised (i.e. the obligation arises) with every unit of sales to build up to the minimum threshold and then it is a measurement issue as to whether the threshold is met.

The majority of Committee members tentatively agreed with the Staff recommendation.

Interim Financial Statements

Previous discussions of the Interpretations Committee discussed whether a levy cost that is associated with an activity performed in more than one interim period should be allocated to the other interim periods through the use of accruals or deferrals.  The Interpretations Committee had also previously observed that IAS 34 explicitly states that the same recognition principles should be applied in annual and interim financial statements.  The Interpretations Committee previously concluded that, in interim financial statements, the levy expense should not be:

  1. accrued if there is no present obligation to pay the levy at the end of the interim reporting period; or
  2. deferred if a present obligation to pay the levy exists at the end of the interim period.

The Staff noted that there were two principles for interim financial statements accounting:

  1. The ‘integral’ principle: under this principle, an interim period is considered as an integral component of the annual reporting period. Annual operating costs that benefit more than one interim period may be allocated to the other interim periods through the use of accruals or deferrals. US GAAP generally applies the ‘integral’ principle
  2. The ‘discrete’ principle: under this principle, an interim period is considered as a discrete stand-alone accounting period. It follows that the same recognition principles should be applied in the annual and the interim financial statements. The core principle in IAS 34 is to apply the ‘discrete’ principle for recognising assets, liabilities, income and expenses.

The Staff did not think that there should be specific requirements introduced into IAS 34 for levies.  They noted that there should be clear principles that apply to accounting for costs that are irregularly incurred within an annual financial reporting period.  However the Staff did propose that there should be an exception to the “discrete” principle in IAS 34 for annual recurring costs that are recognised as expenses in full within an interim financial period as a result of an annual present obligation (such as annual recurring levy costs that are recognised in full within an interim financial period).

The Staff presented three alternatives to the Interpretations Committee:

  1. Alternative A: confirm a strict reading of IAS 34 for levies that are within the scope of IAS 37. In that case, the same recognition principles should be applied in the interim financial statements as are applied in the annual financial statements. As a result, the levy expense should not be accrued or deferred in the interim financial statements. The Staff noted that if the Interpretations Committee were to apply Alternative A, the Interpretations Committee should recommend to the IASB that it should amend paragraph B7 in IAS 34 on contingent lease payments
  2. Alternative B: recommend to the IASB that it should introduce an exception to the ‘discrete’ principle in IAS 34 for all annual recurring costs incurred as a result of an annual present obligation. If this alternative was selected, the Staff recommended amending IAS 34 so that those annual recurring costs that are recognised as expenses in an interim financial period should be allocated to the other interim financial periods through the use of accruals and deferrals so that each corresponding interim period is charged for an appropriate portion of the annual cost. The rationale developed in paragraphs B7 and B12 of IAS 34 would be the basis of this new proposed amendment. The Staff noted that this would also achieve greater convergence with US GAAP and would correspond to the current practice of most entities. The Staff thought that this could be achieved through a narrow scope amendment to IAS 34
  3. Alternative C: acknowledge that the requirements of IAS 34 are not clear on the accounting for annual recurring costs in the interim financial statements and recommend to the IASB that it should address the issue.

The Staff recommended alternative B to the Committee.

One of the Committee members did not agree with alternative B although she did agree that IAS 34 should be reviewed by the Board as, at present, it does not seem to fully follow the discrete principle and is a mixture of the discrete and integral principles.  She mentioned that one should apply the principles of recognition in accordance when the obligating event occurs.  So if the obligating event has not occurred by the end of the interim period, then no recognition should occur at interim.  This Committee member supported applying consistent recognition principles at interim and at year end.  This view was shared by a number of other Committee members who were supportive of the Board looking at IAS 34.  One other Committee member was concerned that the Staff were creating different definitions of assets and liabilities for interim and annual financial reporting periods.  Hence, like some other Committee members, he favoured consistency (between annual and interim) and the discrete principle for interim financial statements.

Another Committee member was concerned as to how “Annual present obligation” would be defined, interpreted and applied in practice.  A few other Committee members also shared this view and that creating the notion of an annual present obligation would create issues.  One member also noted that if defining an annual present obligation would this then be applied more broadly than just in relation to levies.

There were only two Committee members that supported that Staff recommendation but the majority of the Committee members did not show support for the Staff proposal.

The Chair asked the Committee members to vote on the Staff recommendations.  The majority of Committee members did not support the Staff recommendation.  The majority of Committee members tentatively agreed with alternative A.  The Chair also noted that as a number of Committee members had expressed a desire for the Board to look at IAS 34 more broadly he would report this back to the Board as part of the next Committee update.

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