GOVERNMENT GRANTS AND DEFERRED INCOME

1. GOVERNMENT GRANTS AND DEFERRED INCOME FRS 120 ACCOUNTING FOR GOVERNMENT GRANTS AND DISCLOSURE OF GOVERNMENT ASSISTANCE

2. Definition of Government Grants [3] • Assistance by the Gov. in the form of transfer of resources to an enterprise in return for past or future compliance with certain conditions relating to the operating activities of the entity • Assistance in term of; • Cash • Support • Subsidies • Compensation • Financial assistance for construction of assets

3. RECOGNITION • [7] Gov. grants, including non-monetary grants at fair value, shall not be recognised until there is reasonable assurance that; • The enterprise will comply with the condition attaching to them; and • The grants will be received • [12] Gov. grants shall be recognised as INCOMEover the periods necessary to match them with the related cost. They shall not be credited directly to shareholders’ interests.

4. 2 approaches in accounting treatment • (1) Capital approach • Any receipt from gov. is credited to shareholders’ interest (directly to reserves) • Grants are seen as a equity financing transaction since no repayment is expected; and • Grants should not be taken to income because they are not earned income • Entry: • Dt. Cash (assets) • Cr. Government grant reserve (equity)

5. 2 approaches in accounting treatment • (2) Income approach (THE ONLY APPROACH TO BE USED WRT GOVT GRANT ACCTG TREAT.) • All gov. grants should be dealt with in income statement over one or more period • Argument is based on statement that grants are receipts from source other than the owners and are not equity transactions • Entry: • Dt. Cash (assets) • Cr. Deferred Income (liability) FRS 120 ONLY PERMIT THE INCOME APPROACH

6. Why grants is not equity transaction? (Read Para 14 & 15) • The enterprise must comply with their condition to earn them therefore cost exist in order to earned the grants • Grants are like income taxes (gov. policy) which should be dealt with in IS • It is a receipt from a source, other than shareholders

7. Classification of grants • Will determine whether the grants will be recognise as income or as equity • Grants related to income (Para 3) • Grants related to assets (Para 3)

8. GRANTS RELATED TO INCOME(Para 3, Para 29 -31) • Normally have related costs and expenses • Such grants are taken to income in the same period as the relevant expenses are incurred. • Other than those related to assets

9. Presentation • Shall be presented as a credit in the IS, either • Separately under a general heading such as ‘Other Income’, or • Shall be deducted in reporting the related expense

10. GRANTS RELATED TO ASSETS • Grants that relates to a depreciable long-term assets • This grants should be allocated to income over the period to match with the related depreciable cost of the asset • Government grants whose primary condition is that an entity qualifying for them should: (i) Purchase (ii) Construct OR (iii) Otherwise acquire long-term assets (Subsidiary cond may be attached restricting type or locatn of the assets or the periods to be acquired or held)

11. Presentation • Shall be presented in the BS, either by: (i) Setting up the grant as DEFERRED INCOME (ii) DEDUCT the GRANT in arriving at CA of the asset ________________________________________________________ (1) Setting up the grant as deferred income; or Initially upon receiving of Govt Grant Dr. Gov. Grant (Cash) xxx Cr. Deferred Income xxx Subsequently Dr. Deferred Income xxx Cr. P&L xxx Dr. Depreciatn Expense (Computed based on Full Cost of Assets) xxx Cr. Accumulated Dep XXX To allocate the grant to P&L on periodic basis

12. Continue…. (2) By deducting the grant in arriving at the carrying amount of the assets (writing off against assets) • The grant is recognized as income over the life of a depreciable asset by way of a reduced depreciation charge Dr. Government Grant xxx Cr. Assets xxx (reduced cost of asset) Dr. Depreciation Expense xxx (Computed based on reduced CA of assets) Cr Assets xxx

13. Illustration • BBF Research Sdn. Bhd. constructed a building for the purpose of conducting scientific research. The building was completed on 1/1/19x6 at cost of RM40m. It received grant of RM12m from Gov. Expected useful life is 40 years. The co. adopts the straight-line method depreciation with no residual value. • How the grant should be accounted for using method of presentation; • By crediting a deferred income, or • By netted off against buliding a/c

14. Answer This is a grant related to asset ~ constructg assets (1) Deferred Income Dr. Govt Grant 12M Cr. Deferred Income 12 M Dr. Deferred Income 0.3M Cr. Other Income (P&L) 0.3M Dr. Depreciation Exp 1M Cr. Acc. Dep. 1M Receival of grant =12M/40yrs =40M/40yrs yus/2005

15. Continue…Answer (2) Deduct grant to arrive to CA of asset Dr Government Grant 12M Cr. Assets 12M Dr Depreciatn Exp 0.7M Cr Acc. Depn 0.7M (40M-12M) -------------- 40yrs yus/2005

16. Repayable of the Gov. Grants Para 32 - 33 • Due to failure to meet the specified conditions of the grant. • Repayable grants should be accounted for as a change in accounting estimate (FRS 108) ~ NO PRIOR YEAR ADJ. • Government may require an entity to make repayments in monetary asset; or surrender non-monetary assets yus/2005

17. Repayment of Grants related to income Para 32 • Should be applied first against any unamortized deferred credit • Any remaining balance, charges to IS

18. (Example) • ABC Bhd. had received a RM300,000 grant in year 2003 to perform some social work over three years. The grant was credited to deferred income and amortised evenly over three years. • in 2005 certain circumstances taking place resulting in ABC not fulfilling the grant cond and an amount of RM200,000 becomes repayable to gov. • How to account for this transaction?

19. Answer Initial treatment Dr Govt Grant (Cash) XXX Cr Other Income (P&L) XXX OR Expenses incurred – Govt grant (deduction against related expense) Repayment of Grant Dr Deferred Income 200K Cr Grant Payable 200K (Payable treats as long term liability) If Grant Repayable in full…to further account Dr Charges to P&L 100K If no balance left or amt repayble > deferred credit set? How to a/c for the repayment? Initial treatment

20. Repayment of Grants related to assets (Para 32) • Shall be recorded IF initially a/c based on : (i) Writing off against asset method~To increase the carrying amount of the asset by the amount repayable (ii) Deferred Income method ~Reduce the deferred income balance by the amount repayable • The that would have been charged to cumulative additional depreciation expense date in the absence of the grant shall be recognised immediately as an expense.

21. example • XYZ Bhd. purchased a machine costing RM500,000 on 1/1/2001. On this date, it received a govern. grant of RM200,000 for the machine purchased. The machine has a useful life of 5 years and depreciated using straight-line with no residual value. The company’s year-end is 31 December. • Explain how the grant should be accounted for under the two method of presentation. • Show the balances of relevant account as at 31 December 2002 • Suppose, in the early 2003, the grant has become repayable in full. How this repayment should be accounted for?

22. Other disclosures • The accounting policy adopted for government grants, including the methods of presentation adopted in the FS • The nature and extent if gov. grants recognised in FS and an indicationof other forms of government assistance from which the entity has directly benefited; and • Unfulfilled conditions and other contingencies attaching to gov. assistance that has been recognised.