Chapter 5: Presentation of grants related to assets

Government grants related to assets, including non-monetary grants at fair value, should be presented in the balance sheet either by setting up the grant as deferred income or by deducting the grant in arriving at the asset’s carrying amount.

In both cases, this will result in the grant income being recognised in the same period in which the asset is depreciated. In this way, the grant income is recognised in profit or loss in the same period as the expenditure relating to the asset.

IAS 20 permits two methods of presenting government grants related to assets in the statement of financial position, namely either:

• recognizing the grant as deferred income, which is recognized in profit or loss on a systematic basis over the useful life of the asset; or
• deducting the grant in calculating the carrying amount of the asset, in which case the grant is recognized in profit or loss over the life of a depreciable asset by way of a reduced depreciation expense.

While IAS 20 permits netting off government grants against the carrying amount of related assets, it goes on to note that such transactions can have a significant impact on the cash flows of an entity. For this reason, and also to show the gross investment in assets, the statement of cash flows often discloses as separate items the purchase of assets and the receipt of related grants, regardless of whether the grant is deducted from the asset for presentation purposes in the statement of financial position.

Treatment of a grant related to an asset Entity A is awarded a government grant of C100,000 on 1 January 20X6 towards the construction of a manufacturing plant. The plant’s useful life is estimated at 10 years. The entity took two years to construct the plant. At 1 January 20X9 the entity started to use the plant for manufacturing products. The entity has a December year end. The C100,000 grant relates to the construction of an asset and should be initially recognised as deferred income. The deferred income should be recognised as income on a systematic and rational basis over the asset’s useful life. The entity should recognise a liability on the balance sheet for the years ending 31 December 20X7 and 31 December 20X8. Once the plant starts being used in the manufacturing process, other operating income of C10,000 should be recognised in each year of the asset’s 10-year useful life to compensate for depreciation costs. Under the allowed alternative treatment in IAS 20, Entity A would also be permitted to offset the deferred income of C100,000 against the cost of the plant on 1 January 20X9.

Treatment of an asset grant when the associated asset is written down for impairment The treatment of a grant related to an asset when the associated asset is impaired is considered in the example below. An entity constructed a factory some years ago with the assistance of a government grant. The grant is non-repayable and, following the construction of the factory, cannot be clawed back by the government. There are no further conditions attached to the grant that the entity is required to satisfy. The grant received has been treated as deferred income and is being credited to the income statement over the same period as the factory is being depreciated. Following an adverse change in the line of business the factory serves, the directors have concluded that the factory’s carrying value is no longer recoverable in full and that a write-down for impairment is required. The write-down is more than covered by the unamortised deferred income balance relating to the grant. Government grants related to assets, including non-monetary grants at fair value, should be presented in the balance sheet either by setting up the grant as deferred income or by deducting the grant in arriving at the asset’s carrying amount. Government grants should be recognised as income over the periods in which the entity recognises as expenses the related costs that they are intended to compensate, on a systematic basis. The outcome should be the same in the income statement regardless of whether grants are netted or deferred. If the grant had been offset against the acquisition cost of the factory and the net carrying value then would have been less than the recoverable amount, there would be no need for an impairment write-down. The income statement would be charged with annual depreciation on the net acquisition cost. If the grant has been shown as deferred income and the asset is initially recorded at its gross cost, it is reasonable to achieve the same result by releasing an amount of deferred income to the income statement to compensate for the impairment write-down. If there are further conditions attached to the grant beyond construction of the factory, it may not be appropriate to release an amount of deferred income to compensate for the impairment write down. An entity would need to assess those further conditions to determine the amount, if any, of deferred income to release. The above accounting would also be applied differently in the case of investment tax credits where an entity chooses to apply the guidance in IAS 20 by analogy.

Regarding the presentation of grants related to assets in the cash flow statement, the cash flow classification is presented in a manner most appropriate to the business.

Presentation of grants related to assets – example At the beginning of 20X1, an entity invests CU1,000,000 in an item of equipment, which has an anticipated useful life of five years. Depreciation is recognized on a straight-line basis. In the year of acquisition, the entity receives a government grant of CU250,000 towards purchase of the equipment, which is conditional on specified employment targets being achieved within the next three years (i.e., to the end of 20X3). Under the alternative methods permitted under IAS 20, the presentation is as follows. Method A: Grant shown as deferred income CU  20X1: Credit to deferred income – grant received 250,000 Less: recognized in profit or loss (CU250,000 / 5 years)    (50,000) Deferred income balance at year end   200,000 Cost of equipment 1,000,000 Depreciation expense (CU1,000,000 / 5 years)  (200,000) Carrying amount of equipment at year end   800,000 Years 20X2 to 20X5: Deferred income recognized in profit or loss 50,000 Depreciation expense  (200,000) Net expense in profit or loss (CU750,000 / 5 years)  (150,000) Note that the condition requiring specified employment targets to be met within three years is not relevant for determining the period over which deferred income is recognized in profit or loss. The condition requires disclosure, however, as a contingency. Method B: Grant deducted from cost of asset CU  20X1: Cost of equipment 1,000,000 Less: grant received  (250,000) Net cost of equipment 750,000 Depreciation expense (CU750,000 / 5 years)  (150,000) Carrying amount of equipment at year end   600,000 Years 20X2 to 20X5: Depreciation expense   150,000 It is evident from this example that, while the net impact of the two methods on the reported result for each year is in these circumstances identical, the presentation in each case is very different. Method A clearly separates the asset from the deferred income, and also shows the crediting of the grant separately as income, while recognizing the depreciation expense in full. Method B nets off the grant against the asset, while showing only the depreciation expense, reduced by the amount of the grant that would otherwise have been recognized separately in profit or loss.

Impairment testing of assets with related government grants In accordance with IAS 36, an asset is impaired if its recoverable amount is less than its carrying amount. When, in accordance with IAS 20, an entity adopts an accounting policy of deducting government grants related to an asset from the carrying amount of that asset, the application of IAS 36 requires no further considerations. However, if an entity adopts an accounting policy of recognizing the grant as deferred income, when testing for impairment it is appropriate to deduct the unamortized balance of deferred income from the carrying amount of the asset before comparing it with the recoverable amount of the asset, in order to achieve a consistent outcome. For example, assume the following: the carrying amount of the asset (i.e., its cost less accumulated depreciation and without consideration of the government grant) is CU200; the unamortized balance of the government grant related to this asset and recognized as deferred income is CU40; and the recoverable amount of the asset is CU140. A ‘net’ impairment loss of CU20 should be recognized, which is the difference between the ‘net’ carrying amount of the asset of CU160 (CU200 less CU40) and the recoverable amount of CU140. In recognizing the net impairment loss of CU20 and allocating it against the carrying amount of the asset and related deferred income balance, one of the two alternative acceptable approaches described below should be applied consistently. Both approaches result in the same net asset position and the same net income amount, but the gross presentation is different. Approach 1 The net impairment loss of CU20 is considered to relate to the carrying amount of the asset which is over and above the related deferred income balance, i.e., it relates only to the carrying amount of the asset not funded by the government grant which in this example is CU160 (CU200 – CU40). Therefore, the impairment loss of CU20 recognized reduces the carrying amount of the asset from CU200 to CU180. No adjustment is made to the related deferred income balance of CU40. Approach 2 An impairment loss is similar in nature to accelerated depreciation of the asset. As it therefore reflects the consumption of the asset, the recognition of an impairment loss also affects the recognition of the government grant in the profit or loss in accordance with IAS 20:12 and 17. Under this approach, any impairment loss recognized on an asset gives rise to a proportionate release of the government grant deferred income. In this example, this would result in the following. Carrying amount of asset after deducting grant deferred income (CU200 –CU40) CU160 Excess of carrying amount over recoverable amount of asset (CU160 – CU140) CU20 Excess as a proportion of carrying amount of asset (CU20 / CU160) 12.5% The amounts recognized in the profit or loss would be as follows. CU Impairment loss on carrying amount of asset before deduction of grant deferred income (CU200 x 12.5%) 25 Release of deferred income in respect of impairment loss (CU40 x 12.5%) (5) Net loss recognized in profit or loss 20 If, in a subsequent period, it is determined that a previously recognized impairment loss should be reversed in accordance with IAS 36, the carrying amount of the asset is increased to reflect its recoverable amount subject to the requirements of IAS 36. Consistent with the approaches discussed above, the amount of the reversal is determined by comparing the recoverable amount of the asset to its ‘net’ carrying amount (i.e., the carrying amount of the asset net of any remaining government grant deferred income), which is the same under both approaches. If the entity has adopted Approach 1, the reversal of the impairment loss is recognized as an increase to the carrying amount of the asset. If the entity has adopted Approach 2, it is also acceptable to allocate the reversal of the impairment loss entirely to the carrying amount of the asset such that the reversal of impairment does not result in an adjustment to the government grant deferred income balance (i.e., there is no reversal of the release of the deferred income previously recognized as a result of the impairment loss). However, given the lack of guidance in IAS 20 and IAS 36, it is also acceptable to ‘gross up’ any impairment reversal consistently with the method used in applying Approach 2 when the impairment loss was recognized. Note that the same net asset position and the same net income amount will be recognized as a result of the reversal of the impairment loss, but the gross presentation will be different.