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NORTHERN INDIA REGIONAL COUNCIL OF THE INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA

NORTHERN INDIA REGIONAL COUNCIL OF THE INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA SATURDAY, SEPTEMBER 7, 2013 ACCOUNTING FOR REAL ESTATE TRANSACTIONS GOPAL JI AGRAWAL B.COM LLB DISA IFRS (ICAI) For any query, discussion or suggestion, please mail at gjafca@gmail.com +91 9811264160.

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NORTHERN INDIA REGIONAL COUNCIL OF THE INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA

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  1. NORTHERN INDIA REGIONAL COUNCIL OF THE INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA SATURDAY, SEPTEMBER 7, 2013 ACCOUNTING FOR REAL ESTATE TRANSACTIONS GOPAL JI AGRAWAL B.COM LLB DISA IFRS (ICAI) For any query, discussion or suggestion, please mail at gjafca@gmail.com +91 9811264160

  2. MATTERS FOR DISCUSSION BY- CA GOPAL JI AGRAWAL

  3. Guidance Note on Accounting for Real Estate Transactions Whether any AS or GN was applicable for real estate transactions before the issuance of this Guidance Note? Whether AS 7 or AS 9 or this GN governs the accounting of real estate transactions? Whether any other AS/GN is also considered for such RET? What is the impact of this GN on the industry? BY- CA GOPAL JI AGRAWAL

  4. TECHNICAL STANDARDS Real Estate Transactions • MANDATORY • Framework for the preparation and presentation of FSs • Disclosure of Accounting Policies[AS-1/IAS1] • Changes in Accounting Policies [AS-5/IAS 8] • Construction Contracts [AS -7/IAS11] • Revenue Recognition [AS-9/IAS18] • Borrowing Costs [AS -1AS 23 ] • Provisions, CL & CA [AS-29/IAS37] • Inventories (though NA) [AS-2/IAS 2] BY- CA GOPAL JI AGRAWAL

  5. TECHNICAL STANDARDS Real Estate Transactions • Recommendatory • Guidance note on Accounting for Real Estate Transactions [IFRIC 15] • Guidance note on turnover in case of contractors BY- CA GOPAL JI AGRAWAL

  6. TECHNICAL STANDARDS Real Estate Transactions • PRIME ISSUES • Is the agreement within the scope of AS 7 or AS 9? • & • 2. When should revenue from the construction of real estate be recognized? BY- CA GOPAL JI AGRAWAL

  7. TECHNICAL STANDARDS Real Estate Transactions WHY PRIME ISSUES ARISE? Date of start of contract activity and completion usually fall in different (two or more) accounting periods? BY- CA GOPAL JI AGRAWAL

  8. TECHNICAL STANDARDS Real Estate Transactions Contractor Vs. Contractee Or Seller Vs. Buyer AS 7 Vs. AS 9 BY- CA GOPAL JI AGRAWAL

  9. TECHNICAL STANDARDS Real Estate Transactions GN states that economic substance of the transaction will determine whether it would fall in AS 7 or AS 9. GN further states that since in real estate transactions, the major terms and conditions are similar to principles in AS 7, hence usually, AS 7 should be applied. BY- CA GOPAL JI AGRAWAL

  10. TECHNICAL STANDARDS Real Estate Transactions • Arguments in favor of AS 7 • Ownership risks and rewards are transferred to buyers as they have identified property and have all legal rights of buyer i.e. transfer etc. • Price is determined usually with cost escalation clauses. • Certainty in collection BY- CA GOPAL JI AGRAWAL

  11. TECHNICAL STANDARDS Real Estate Transactions • Arguments against AS 7 • The buyer has no physical right even of inspection to the property • The identified property not in existence • The buyer has no right of alteration • Contractor remain the same while buyers can come and go • The buyer has no tangible property • Physical damages during construction (seller) • The seller has right to cancel the contract if default is made in payment • Take precaution in buy back and guaranteed % BY- CA GOPAL JI AGRAWAL

  12. TECHNICAL STANDARDS Real Estate Transactions Per IFRIC 15 For a construction contract When the buyer is able to specify the major structural elements of the design of the real estate before construction and/or specify major structural changes once construction is in progress.IAS11 BY- CA GOPAL JI AGRAWAL

  13. TECHNICAL STANDARDS Real Estate Transactions Per IFRIC 15 For an agreement of sale When the buyer has only limited ability to influence the design or to select a design from a range of options specified by entity or to specify minor variations to the basic design. IAS 18 BY- CA GOPAL JI AGRAWAL

  14. TECHNICAL STANDARDS Real Estate Transactions AS 7 Construction contracts [2002] Applicable for construction contracts of any assets Real estate transactions not dealt with separately Only PCM is recognized. (CCM permitted earlier) Applicable for contractors only (earlier version covered construction in own a/c) Before 2006, EAC had opined that AS-9 should be followed in real estate transaction. BY- CA GOPAL JI AGRAWAL

  15. NEED FOR REVISION OFGUIDANCE NOTE [2006] What was the need for revision of the earlier Guidance Note [2006] What aspects have been brought in by the new GN? When this GN would be applicable? BY- CA GOPAL JI AGRAWAL

  16. NEED FOR REVISION OFGUIDANCE NOTE [2006] • No guidance in respect of: • Whether land costs should be included in computing in stage of completion in PCM • Whether borrowing costs should be included in computing stage of completion in PCM • No threshold limit for stage of completion • Not dealt with the TDRs BY- CA GOPAL JI AGRAWAL

  17. BROADER GUIDELINES IN GUIDANCE NOTE [2012] Scope specified in detail – land, building, TDRs Definitions of project and project costs AS-9 permitted if economic substance is similar to sale of goods while old GN states if conditions of AS 9 satisfy, apply AS 7. Additional conditions for threshold limits, minimum sale and collection specified. -Rules Items to be considered for threshold costs Additional detailed disclosures required. BY- CA GOPAL JI AGRAWAL

  18. Guidance note on Accounting for Real Estate Transactions [2012] • Real Estate Transactions Applicability • Land, buildings and rights in relation thereto. • Real estate developers, builders, contractors, sellers i.e. only contractors • Not Applicable for transactions covered in AS-7 • Any asset like plant & machinery, ships, roads, dams, bridge, tunnel, software etc. BY- CA GOPAL JI AGRAWAL

  19. Guidance note on Accounting for Real Estate Transactions [2012] Not Applicable for real estate transactions covered in AS 10 Accounting for fixed assets AS 12 Accounting for government grants AS 19 Leases AS 26 Intangible assets BY- CA GOPAL JI AGRAWAL

  20. Guidance note on Accounting for Real Estate Transactions [2012] Applicable for 1. All projects in real estate commenced on or after April 1, 2012 & 2. All projects commenced before April 1, 2012 where revenue is not recognized till 31st March 2012. EARLIER APPLICATION PERMITTED BY- CA GOPAL JI AGRAWAL

  21. Guidance note on Accounting for Real Estate Transactions [2012] Project (Determination is significant) Project is smallest group of units/plots/saleable space linked with common set of amenities available and functional to make it ready for intended effective use. A SINGLE TOWER/TOWNSHIP CAN BE PROJECT BY- CA GOPAL JI AGRAWAL

  22. Guidance note on Accounting for Real Estate Transactions [2012] • Project Costs – Direct/attributable/allocable • 1. Cost of land and development rights • 2. Borrowing costs (AS-16) • 3. Construction and development costs • Land conversion, sanction & approvals • Material & labour • Depreciation/hire charges, freight of P&M • Design and technical assistance • Costs of rectification, guarantee, warranty • Claims from third parties • Insurance BY- CA GOPAL JI AGRAWAL

  23. Guidance note on Accounting for Real Estate Transactions [2012] Project Costs – NOT INCLUDIBLE General administration costs Selling costs Research and development costs Depreciation of idle plant & machinery Cost of unconsumed material delivered at site Payment made to sub-contractor in advance BY- CA GOPAL JI AGRAWAL

  24. Guidance note on Accounting for Real Estate Transactions [2012] RECOGNITION OF REVENUE AS 9- Paragraphs 10, 11 and 12 must be satisfied: The seller has transferred to the buyer all significant risks and rewards of ownership and seller retains no effective control to a degree usually associated with ownership. No significant uncertainty exists regarding the amount of consideration from real estate It is not unreasonable to expect ultimate collection BY- CA GOPAL JI AGRAWAL

  25. Guidance note on Accounting for Real Estate Transactions [2012] • Application of PCM- economic substance is similar to AS-7 Construction contracts associated with following conditions: • Project > 12 months, falling in 2 periods • Most construction contract features exist like land development, structural engineering, design • Despite several buyers but delivery is interdependent and interrelated having common amenities • Construction and development activity form significant proportion of project activity BY- CA GOPAL JI AGRAWAL

  26. Guidance note on Accounting for Real Estate Transactions [2012] Application of PCM- when the outcome of Project can be estimated reliably with ALL below: Total project revenue can be estimated reliably Probable that economic benefits will in flow Estimated total project costs and stage of project completion at reporting date can be measured reliably. Projects costs attributable to project can be clearly identified and measured reliably so that actual costs incurred can be compared with prior estimates. BY- CA GOPAL JI AGRAWAL

  27. Guidance note on Accounting for Real Estate Transactions [2012] • FURTHER CONDITIONS: • 1. All necessary critical approvals obtained • Environment and other clearance • Approval of plans and designs • Title to land and other rights to development • Change in land use • 2. Reasonable level of development • Expenditure on construction and development (excluding cost of land and BC) is not less than 25% of the total estimated construction and development costs. BY- CA GOPAL JI AGRAWAL

  28. Guidance note on Accounting for Real Estate Transactions [2012] FURTHER CONDITIONS: 3. At least 25% of the saleable project area is secured by contracts or agreements with the buyers. 4. At least 10% of the total revenue as per agreements of sale are realized at the reporting date in respect of each of the contract BY- CA GOPAL JI AGRAWAL

  29. Guidance note on Accounting for Real Estate Transactions [2012] Determination of stage of completion: Project costs incurred but other methods are not prohibited like survey of work done, technical estimation BUT Revenue can not exceed as computed by project costs incurred method It reflects the economic activity/performance during the period BY- CA GOPAL JI AGRAWAL

  30. Guidance note on Accounting for Real Estate Transactions [2012] • ESTIMATED LOSS OF THE PROJECT • When it is probable that total project costs will exceed total project revenue, the expected loss is charged as an expense irrespective of • Commencement of project work • Stage of completion of the project activity • Change in estimate of project costs is change in estimate only. • Other significant items ACs , furniture should be componentized and a/for separately. BY- CA GOPAL JI AGRAWAL

  31. Guidance note on Accounting for Real Estate Transactions [2012] Disclosures: Project revenue recognized Method used to determine project revenue Method used to determine state of completion Disclosures for project in progress: Total costs incurred and profit/loss recognized Amount of advance received Amount of WIP and value of inventories Excess of revenue over actual bills raised (unbilled) BY- CA GOPAL JI AGRAWAL

  32. Guidance note on Accounting for Real Estate Transactions [2012] Whether the Revised Guidance Note necessitates the change in Accounting Policy? What additional disclosures are required? Whether the Industries in the real estate segments are following AS 7 or AS 9? Whether the GN would increase or decrease accounting income? BY- CA GOPAL JI AGRAWAL

  33. REVENUE RECOGNITIONHDIL [2012 & 2013] The Company follows completed project method of accounting (“Project Completion Method of Accounting”). Allocable expenses incurred during the year are debited to work-in-progress account. BY- CA GOPAL JI AGRAWAL

  34. REVENUE RECOGNITIONL & T Ltd. [2012] A. Cost plus contract: Cost + proportionate margin B. Fixed price contracts: 1. To the extent of cost incurred till outcome of the contract cannot be ascertained reliably. 2. Others- PCM based on costs incurred. Remarks: No percentage specified. Silent about the land/BC costs. BY- CA GOPAL JI AGRAWAL

  35. REVENUE RECOGNITIONL & T Ltd. [2013] • Contracts classified • A. Property Development activity and further classified in • AS -9 • AS -7 • Excluded land/BC costs in PCM • B. Revenue from construction activities • Cost plus and fixed price (as per last year) –w/o % • PBT is higher by 2.39 crore due to change in policy. BY- CA GOPAL JI AGRAWAL

  36. REVENUE RECOGNITIONOMAXE [2012] • Activities dividend into • Real Estate: PCM with 30% including cost of land • B. Contract : PCM but no disclosure as to % as certified by client not with regard to costs incurred. BY- CA GOPAL JI AGRAWAL

  37. REVENUE RECOGNITIONOMAXE [2013] • Activities dividend into • Real Estate: PCM with 30% including cost of land & further as per GN 2012 • B. Contract : PCM but no disclosure as to % as certified by client not with regard to costs incurred. BY- CA GOPAL JI AGRAWAL

  38. REVENUE RECOGNITIONPDL [2012] • Activities dividend into • Real Estate: PCM with 30% including cost of land • B. Contract : PCM but no disclosure as to % BY- CA GOPAL JI AGRAWAL

  39. An humble appeal I will acknowledge your critical comments and suggestions for making our Coming Deliberations more effective and copious GopalJiAgrawal B.COM LLB DISA IFRS (ICAI) For any query, discussion or suggestion, please mail atgjafca@gmail.com

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