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IND-AS: Revenue Recognition In Real Estate Transactions

Published on Mon, Jun 15,2015 | 21:57, Updated at Mon, Jun 15 at 21:57Source : 

By Dinesh Jangid – Director, Accounting Advisory Services, KPMG in India

Currently, there is no separate accounting standard in India for recognition of revenue from sale of real estate transactions and accordingly, in practice, the accounting and reporting for such transactions has historically been based on certain principles specified in AS 9, Revenue Recognition and AS 7, Construction Contracts, as supplemented by the Guidance Note (2012 GN) on Accounting for Real Estate Transactions, which was issued by the Institute of Chartered Accountants of India in February 2012. The 2012 GN mandates the application of the Percentage of Completion (POC) method in most cases and gives certain ‘bright-lines’ (viz. all critical project approvals are obtained; 25 per cent of the actual construction costs incurred; at least 25 per cent of the saleable project area is secured by contracts; and at least 10 per cent of the revenue is collected on individual contracts) for determining the eligibility of real estate transactions for revenue recognition. The 2012 GN was a huge change for some of the real estate developers when it was applied in 2012.

The developers may see yet another massive change in their revenue recognition practices when they transition to Indian Accounting Standards (Ind AS) that are converged with International Financial Reporting Standards (IFRS). Albeit, as per the convergence roadmap announced by the Ministry of Corporate Affairs (MCA) in February 2015, the Ind AS are only to be applied by listed companies or unlisted companies with more than INR250 crores of net worth in two phases starting from Financial Year (FY) 2016-17.  

The revenue recognition standard under Ind AS (Ind AS - 115) is mostly in line with IFRS 15 on Revenue from Contracts with Customers. IFRS 15 and its equivalent standard under U.S. Generally Accepted Accounting Principles (GAAP) is set to replace the revenue recognition practices across the globe. These standards are likely to be deferred by a year and are expected to be applied across the world by companies following IFRS or U.S. GAAP from 2018 onwards. However, Ind AS 115 has already been notified and is applicable to companies in India converging with Ind AS from FY 2016-17.

One of the most significant changes in Ind AS 115 compared to the current revenue recognition practices of real estate developers in India is that there are no bright lines in Ind AS 115. Ind AS 115 introduces a new principle based approach to determine whether revenue should be recognised over time (similar to POC) or at a point in time (similar to completed contract type accounting). A criterion that is relevant for real estate developers for recognition of revenue over time is that the seller is creating an asset which could not be directed to another customer and in respect of which the customer has an obligation to pay for the entity’s work to date. The second part of this criterion is more difficult to meet and in practice it means that at the time of cancellation of contract by a customer, the developer must have a right to collect costs incurred plus a profit margin. For example, in the event of cancellation by a buyer, if the developer takes back the property and forfeits some part of the deposits paid by the buyer then the above criterion doesn’t seem to be satisfied resulting in revenue recognition at a point in time. Hence, Ind AS 115 will require very careful evaluation of contract terms and small differences in terms could have a significant impact on pattern of revenue recognition.

Even if an entity concludes that revenue should be recognised over time under Ind AS 115, it will still need to consider how to measure progress towards completion. Ind AS 115 does not seem to give a free choice of measuring POC based on input vs. output method and also requires exclusion of any goods or services for which the entity does not transfer control to the customer. Therefore, the POC may be affected by whether or not control of the land on which the property is being constructed is transferred to the buyer (and the timing of that transfer).


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