Proposals to clarify some aspects of income and revenue recognition by NFPs

Despite the new income and revenue recognition standards (AASB 1058 Income of Not-for-Profit Entities and AASB 15 Revenue from Contracts with Customers) being applicable to not-for-profit entities (NFPs) for the past three years, many preparers are still grappling with applying their principles to real life scenarios. This has resulted in diversity in practice by NFPs when accounting for:

Cash scholarships recognised through an endowment fund
Upfront non-refundable fees recognised under AASB 15.

After considering stakeholder feedback, the Australian Accounting Standards Board (AASB) is proposing to resolve these issues by amending or adding Illustrative Examples to AASB 1058 and AASB 15 as described further below. No changes to the actual standards are proposed. These proposals are contained in ED 318 Illustrative Examples for Income of Not-for-Profit Entities and Right-of-Use assets arising under Concessionary Leases.

Cash scholarships recognised through an endowment fund

Some stakeholders were concerned that the accounting treatment and analysis in AASB 1058, Illustrative Example 3A was potentially unclear because it does not adequately explain whether a financial liability is recognised for funding received by a NFP that is subsequently directed to other recipients.

Proposed amendments to Example 3A

The AASB is therefore proposing to amend Illustrative Example 3A (to be referred to as Example 3A.1) to clarify that a financial liability is recognised for the following fact pattern:

An alumnus transferred $2 million cash to University A as an endowment. Under the terms of the endowment:

the $2 million cash can be invested at the university’s discretion;
the principal is required to be applied towards cash scholarships by the end of the next 10 years as directed and approved by the alumnus (including the number of the scholarships awarded in any given year) for the student to use at their discretion;
all income generated from investing the principal can be used by the university to further its objectives at the university’s discretion;
if the university breaches the terms of the endowment, the university is required to return the remaining amount of the principal to the alumnus; and
any remaining amount of the principal at the end of the 10-year period will be returned to the alumnus.

Extracted from proposed Illustrative Example 3A in AASB 1058

The analysis for this example will be further expanded to clarify that:

The university continues to recognise a financial asset for the $2 million cash received because there is no ‘pass through’ arrangement as per AASB 9, paragraph 3.2.5, and the university has retained substantially all the risks and rewards of the asset (cash) because it may invest the funds as it considers appropriate
The endowment gives rise to a financial instrument, and specifically a financial liability because:
- The endowment constitutes a contractual obligation to deliver cash to another entity (being the obligation to apply the principal to cash scholarships under the direction of the alumnus)
- The university does not have an unconditional right to avoid delivering cash to settle the contractual obligation (i.e. it must repay any unspent amounts of principal to the alumnus at the end of the 10-year period).

Contrasting Example 3A.2

The AASB is also proposing to add a contrasting Illustrative Example 3A.2 with the same fact pattern as described above, except that under the terms of the endowment, the university is required to invest the endowment and receive the income generated by the endowment to support the university in furthering its objectives. That is, there is no requirement for the university to apply the principal towards cash scholarships at the direction of the alumnus.

In this scenario, there is no financial liability within the scope of AASB 9 and the $2 million endowment is recognised as income immediately in profit or loss as follows:

Dr Cash $2 million
Cr Income $2 million

Upfront non-refundable fees recognised under AASB 15

Stakeholders also indicated that there is diversity in accounting for upfront non-refundable fees (such as joining fees at clubs and enrolment fees at schools) recognised under AASB 15 where the non-refundable fees do not relate to the transfer of a promised good or service:

Some NFPs are deferring revenue by recognising a contract liability for the non-refundable upfront fees, and then recognising revenue over time as the good or services are provided to customers
Others however are continuing to recognise revenue upfront on receipt of the non-refundable fees.

The AASB is therefore proposing to add Illustrative Example 7A which will accompany AASB 15 to demonstrate when upfront non-refundable fees would be deferred. The following fact pattern is proposed for new Illustrative Example 7A:

An organisation offers enrolment to prospective clients for the services it provides. Upon accepting an offer of enrolment, the prospective client must pay an upfront fee (sometimes referred to as an ‘acceptance fee’, ‘entry fee’ or ‘enrolment fee’). The enrolment form sets out the following terms and conditions relevant to the fee:

upon payment of the fee, future service is guaranteed for the client to commence in the agreed-upon year and for the period of the contract, being 2 years;
the fee is non-refundable and non-transferable; and
the fee is not offset against any future fees that are charged on an ongoing basis for continued access to the services.

Extracted from proposed new Illustrative Example 7A in AASB 15

Proposed Illustrative Example 7A includes an analysis to determine whether the agreement falls within the scope of AASB 15. If within the scope of AASB 15, the proposed example then considers whether the non-refundable upfront fees are a separate performance obligation. In this regard, it directs us to the following guidance:

Accounting for non-refundable fees in AASB 15, paragraphs B48-B51
Identifying performance obligations in AASB 15, paragraphs 22-30 and F20-F27.

In performing this analysis, the entity notes that performance obligations do not include activities that an entity must undertake to fulfil a contract (e.g. setting up a customer on the system, printing membership cards and similar) unless those activities transfer a good or service to the customer (AASB 15, paragraph 25). The non-refundable fee might cover internal administrative activities that enable the entity to provide future services to the customer. However, these activities do not transfer a promised good or service to the customer separate from the provision of future services and are therefore not a separate performance obligation (AASB 15, paragraph B49). If this is the case, the entity concludes that the non-refundable upfront fee – to the extent it relates to the internal administrative services – does not represent a payment for a separate performance obligation but is in substance an advance payment for future services.

In other circumstances, some or all of the upfront fee may relate to a separate performance obligation or obligations, whether satisfied at or near contract inception or otherwise.

Extracted from proposed new Illustrative Example 7A in AASB 15

It clarifies that where the upfront fee does not result in the transfer of a good or service to the customer that is a separate performance obligation, but is rather an advance payment for future services, the upfront fee is recognised as revenue as future services are provided.

If the upfront non-refundable fees are compensation for costs to setup a contract (e.g. performing an administrative task) and those setup tasks are not a separate performance obligation, they are disregarded when determining progress towards completion (AASB 15, paragraph B51).

Effective date

If approved, the AASB is proposing that these amendments be effective for annual periods beginning on or after 1 July 2022, with early adoption permitted (i.e. for 30 June 2022 year-ends).

Comments due

Comments on these proposals close on 11 March 2022.