Government Grants

Government grants are assistance provided by government by means of a transfer of resources (either monetary or non-monetary) to business or other types of entities. To qualify as a government grant, it is a prerequisite the grant should be provided by the government to an entity in return for past or future compliance with conditions relating to the operating activities of the entity.

Prior to the issuance of SIC 10, Government Assistance—No Specific Relation to Operating Entities, it was unclear whether the provisions of IAS 20 would apply to government assistance aimed at encouraging or supporting business activities in certain regions or industry sectors, since related conditions may not specifically relate to the operating activities of the entity. Examples of such grants are: government grants which involve transfer of resources to enterprises to operate in a particular area (e.g., an economically less developed area) or a particular industry (e.g., one that due to low profitability may not otherwise be attractive to entrepreneurs). SIC 10 clarified that “the general requirement to operate in certain regions or industry sectors in order to qualify for the government assistance constitutes such a condition in accordance with IAS 20.” This confirms that such government assistance does fall within the definition of government grants, and thus the requirements of IAS 20 apply to them as well.

Criteria for Recognition

Government grants are provided in return for past or future compliance with certain defined conditions. Thus, grants should not be recognised until there is reasonable assurance that:

1. The entity will comply with the conditions attaching to the grant(s); and
2. The grant(s) will be received.

Certain concerns affecting the application of IAS 20, relating to recognition and treatment of government grants, are addressed in the following paragraphs.

First, the mere receipt of the grant does not provide any assurance that, in fact, the conditions attaching to the grant have been or will be complied with by the enterprise. Both of these conditions are equally important, and the reporting entity should have reasonable assurance with respect to these two conditions before a grant is to be recognised.

Secondly, the term “reasonable assurance” has not been defined by this standard. However, one of the recognition criteria under the IASB's Framework is the existence of a “sufficient degree of certainty.”

Thirdly, under IAS 20 a forgivable loan from a government is treated as a government grant when there is reasonable assurance that the enterprise will meet the terms of forgiveness set forth in the loan agreement. Thus, upon receiving a forgivable loan from a government and furthermore upon fulfilling the criterion of reasonable assurance with respect to meeting the terms of forgiveness of the loan, an enterprise would normally recognise the receipt of a government grant, rather than a loan.

Some have suggested that the grant should be recognised when the loan is forgiven, not when the forgivable loan is received. Under IAS 20, however, it is quite apparent that delayed recognition is not prescribed, but that “a forgivable loan from the government is treated as a grant when there is reasonable assurance that the enterprise will meet the terms for forgiveness of the loan.” In the authors' opinion, this unambiguously directs that the forgivable loan shall be treated as a grant at the point of time when it is considered likely (based on sufficient appropriate evidence) that the entity will be able to satisfy the terms for forgiveness, as opposed to the point of time when the loan is actually forgiven.

Once a grant has been recognised, IAS 20 clarifies that any related contingency would be accounted for in accordance with IAS 37.

The conforming amendments as a result of IFRS 9 clarified the accounting treatment of low interest loans received from government. IAS 20 states that the loan should be recognised and measured in accordance with the requirements of IFRS 9, Financial Instruments. The difference between the amount received and the initial carrying amount of the loan as determined in accordance with IFRS 9 is to be accounted for in accordance with IAS 20, Government Grants.

Recognition Period

There are two broad approaches to the accounting treatment of government grants that have been discussed by the standard: the “capital approach” and the “income approach.” IAS 20 states that it is fundamental to the income approach that government grants should be recognised in profit or loss on a systematic basis over the periods necessary to match them with the related costs. The standard adds that recognition of government grants in profit or loss on a receipts basis is not in accordance with the accrual accounting assumption and would be acceptable only if no basis existed for allocating a grant to periods other than the one in which it was received.

The standard established rules for recognition of grants under different conditions. These are explained through numerical examples below:

1. Grants in recognition of specific costs are recognised as income over the same period as the relevant expense.
2. Grants related to depreciable assets are usually recognised as income over the periods and in the proportions in which depreciation on those assets is charged.
3. Grants related to non-depreciable assets may also require the fulfilment of certain obligations and would then be recognised as income over periods which bear the cost of meeting the obligations.
4. Grants are sometimes received as part of a package of financial or fiscal aids to which a number of conditions are attached.

   When different conditions attach to different components of the grant, the terms of the grant would have to be evaluated to determine how the various elements of the grant would be earned by the enterprise. Based on that assessment, the total grant amount would then be apportioned.

5. A government grant that becomes receivable as compensation for expenses or losses already incurred or for the purpose of giving immediate financial support to the enterprise with no future related costs should be recognised as income of the period in which it becomes receivable.

   Sometimes grants are awarded for the purposes of giving immediate financial support to an enterprise, for example to revive a commercially insolvent business (referred to as “sick unit” in some less-developed countries). Such grants are not given as incentives to invest funds in specified areas or for a specified purpose from which the benefits will be derived over a period in the future. Instead, such grants are awarded to compensate an enterprise for losses incurred in the past. Thus, they should be recognised as income in the period in which the enterprise becomes eligible to receive such grants.

Non-Monetary Grants

A government grant may not always be given in cash or cash equivalents. Sometimes a government grant may take the form of a transfer of a non-monetary asset, such as grant of a plot of land or a building in a remote area. In these circumstances the standard prescribes the following optional accounting treatments:

1. To account for both the grant and the asset at the fair value of the non-monetary asset; or
2. To record both the asset and the grant at a “nominal amount.”

Presentation of Grants Related to Assets

Presentation of Grants Related to Income

The standard allows a choice between two presentations:

• 1. Option 1: Grant presented as a credit in the statement of profit or loss and comprehensive income, either separately or under a general heading other income.
• 2. Option 2: Grant deducted in reporting the related expense.

The standard does not show any bias towards any one option. It acknowledges the reasoning given in support of each approach by its supporters. The standard considers both methods as acceptable. However, it does recommend disclosure of the grant and of its effects on income or expense for a proper understanding of the financial statements.

Disclosures

The following disclosures are prescribed:

1. The accounting policy adopted for government grants, including the methods of presentation adopted in the financial statements;
2. The nature and extent of government grants recognised in the financial statements and an indication of other forms of government assistance from which the enterprise has directly benefited; and
3. Unfulfilled conditions and other contingencies attaching to government assistance that has been recognised.

Repayment of Government Grants

When a government grant becomes repayable—for example, due to non-fulfilment of a condition attaching to it—it should be treated as a change in estimate, under IAS 8, Accounting Policies, Changes in Accounting Estimates and Errors, and accounted for prospectively (as opposed to retrospectively).

Repayment of a grant related to income should:

1. First be applied against any unamortised deferred income (credit) set up in respect of the grant; and
2. To the extent the repayment exceeds any such deferred income (credit), or in case no deferred credit exists, the repayment should be recognised immediately as an expense.

Repayment of a grant related to an asset should be:

1. Recorded by increasing the carrying amount of the asset or reducing the deferred income balance by the amount repayable; and
2. The cumulative additional depreciation that would have been recognised to date as an expense in the absence of the grant should be recognised immediately as an expense.

When a grant related to an asset becomes repayable, it would become incumbent upon the enterprise to assess whether any impairment in value of the asset (to which the repayable grant relates) has resulted. For example, a bridge is being constructed through funding from a government grant and during the construction period, because of non-fulfilment of the terms of the grant, the grant became repayable. Since the grant was provided to assist in the construction, it is possible that the enterprise may not be in a position to arrange funds to complete the project. In such a circumstance, the carrying value of the asset may be impaired and with an impairment test being required in accordance with IAS 36.

Impairment of Assets and Government Grants

IAS 36 requires an entity to assess at the end of the reporting period if there are any indications that an asset may be impaired. Chapter 13 provides further guidance on impairment of assets. When an entity has adopted Option 1—Government grants shown as deferred income, and it has impaired the asset related to the grant, the treatment of the deferred grant should be considered.

Assuming all of the grant's conditions have been met, the deferred grant income should be released to match the impairment recognised as an expense. If there are conditions attached to the grant, the entity must carefully consider if the requirements prevent an acceleration of the grant's release. Irrespective of the accounting policy chosen, the entity should reconsider whether the impairment of the asset increases the probability of any potential repayment of the grant, and a provision recognized under IAS 37.

Government Assistance

Under the provisions of IAS 20, government grants exclude government assistance. Government assistance is defined as action taken by government designed to provide an economic benefit specific to an entity or range of entities qualifying under certain criteria. IAS 20 deals with both accounting and disclosure of government grants and disclosure of government assistance. Government assistance comprises government grants and other forms of government assistance (i.e., those not involving transfer of resources).

Excluded from the government assistance are certain forms of government benefits that cannot reasonably have a value placed on them, such as free technical or other professional advice. Also excluded from government assistance are government benefits that cannot be distinguished from the normal trading transactions of the enterprise. The reason for the second exclusion, although the benefit cannot be disputed, is that any attempt to segregate it would necessarily be arbitrary.

Service Concession Arrangements

Service concession arrangements are those whereby a government or other body grants contracts for the supply of public services (e.g., roads, energy distribution, prisons or hospitals) to private operators. The Interpretation draws a distinction between two types of service concession arrangements. In one, the operator receives a financial asset, specifically an unconditional contractual right to receive cash or another financial asset from the government in return for constructing or upgrading the public sector asset.

In the other, the operator receives an intangible asset—a right to charge for use of the public sector asset that it constructs or upgrades. The right to charge users is not an unconditional right to receive cash, because the amounts that might be received are contingent on the extent to which the public uses the service.

IFRIC 12 allows for the possibility that both types of arrangement may exist within a single contract: to the extent that the government has given an unconditional guarantee of payment for the construction of the public sector asset, the operator has a financial asset; to the extent that the operator has to rely on the public using the service to obtain payment, the operator has an intangible asset. The accounting to be applied is governed by the extent to which one or both types of assets are received.

Accounting under the Financial Asset Model

The operator recognises a financial asset to the extent that it has an unconditional contractual right to receive cash or another financial asset from, or at the direction of, the grantor for the construction services. The operator has an unconditional right to receive cash if the grantor contractually guarantees to pay the operator:

1. Specified or determinable amounts; or
2. The shortfall, if any, between amounts received from users of the public service and specified or determinable amounts, even if payment is contingent on the operator ensuring that the infrastructure meets specified quality or efficiency requirements.

Under the provisions of IFRIC 12, the operator measures the financial asset at fair value.

Accounting under the Intangible Asset Model

The operator recognises an intangible asset to the extent that it receives a right (a licence) to charge users of the public service. A right to charge users of the public service is not an unconditional right to receive cash because the amounts are contingent on the extent that the public uses the service.

Under the provisions of IFRIC 12, the operator measures the intangible asset at fair value.

Operating Revenue

The operator of a service concession arrangement recognises and measures revenue in accordance with IFRS 15 for the services it performs. No special revenue recognition principles are to be applied. Thus, the financial asset model would require the use of percentage of completion revenue recognition in most instances, while the intangible asset model would suggest that revenue be recognised as services are performed.

Accounting by the Government (Grantor)

IFRIC 12 does not deal with the accounting to be applied by the government unit that grants service concession arrangements. That is because IFRS are not designed to apply to not-for-profit activities in the private sector or the public sector. International Public Sector Accounting Standards (IPSAS) 32, Service Concession Arrangements: Grantor, was released by the International Public Sector Accounting Standards Board.