INT 22

Paragraph 21 of AASB 121 The Effects of Changes in Foreign Exchange Rates requires an entity to record a foreign currency transaction, on initial recognition in its functional currency, by applying to the foreign currency amount the spot exchange rate between the functional currency and the foreign currency (the exchange rate) at the date of the transaction. Paragraph 22 of AASB 121 states that the date of the transaction is the date on which the transaction first qualifies for recognition in accordance with Australian Accounting Standards.

When an entity pays or receives consideration in advance in a foreign currency, it generally recognises a non-monetary asset or non-monetary liability^[2] before the recognition of the related asset, expense or income. The related asset, expense or income (or part of it) is the amount recognised applying relevant Standards, which results in the derecognition of the non-monetary asset or non-monetary liability arising from the advance consideration.

The IFRS Interpretations Committee (the Interpretations Committee) initially received a question asking how to determine ‘the date of the transaction’ applying paragraphs 21–22 of AASB 121 when recognising revenue. The question specifically addressed circumstances in which an entity recognises a non-monetary liability arising from the receipt of advance consideration before it recognises the related revenue. In discussing the issue, the Interpretations Committee noted that the receipt or payment of advance consideration in a foreign currency is not restricted to revenue transactions. Accordingly, the Interpretations Committee decided to clarify the date of the transaction for the purpose of determining the exchange rate to use on initial recognition of the related asset, expense or income when an entity has received or paid advance consideration in a foreign currency.

This Interpretation applies to a foreign currency transaction (or part of it) when an entity recognises a non-monetary asset or non-monetary liability arising from the payment or receipt of advance consideration before the entity recognises the related asset, expense or income (or part of it).

This Interpretation does not apply when an entity measures the related asset, expense or income on initial recognition:

(a) at fair value; or

(b) at the fair value of the consideration paid or received at a date other than the date of initial recognition of the non-monetary asset or non-monetary liability arising from advance consideration (for example, the measurement of goodwill applying AASB 3 Business Combinations).

An entity is not required to apply this Interpretation to:

(a) income taxes; or

(b) insurance contracts (including reinsurance contracts) that it issues or reinsurance contracts that it holds.

This Interpretation addresses how to determine the date of the transaction for the purpose of determining the exchange rate to use on initial recognition of the related asset, expense or income (or part of it) on the derecognition of a non-monetary asset or non-monetary liability arising from the payment or receipt of advance consideration in a foreign currency.

Applying paragraphs 21–22 of AASB 121, the date of the transaction for the purpose of determining the exchange rate to use on initial recognition of the related asset, expense or income (or part of it) is the date on which an entity initially recognises the non-monetary asset or non-monetary liability arising from the payment or receipt of advance consideration.

If there are multiple payments or receipts in advance, the entity shall determine a date of the transaction for each payment or receipt of advance consideration.

An entity shall apply this Interpretation for annual reporting periods beginning on or after 1 January 2018. Earlier application is permitted. If an entity applies this Interpretation for an earlier period, it shall disclose that fact.

Notwithstanding paragraph A1, a not-for-profit entity shall apply this Interpretation for annual reporting periods beginning on or after 1 January 2019. Earlier application is permitted. If an entity applies this Interpretation for an earlier period, it shall disclose that fact.

On initial application, an entity shall apply this Interpretation either:

(a) retrospectively applying AASB 108 Accounting Policies, Changes in Accounting Estimates and Errors; or

(b) prospectively to all assets, expenses and income in the scope of the Interpretation initially recognised on or after:

(i) the beginning of the reporting period in which the entity first applies the Interpretation; or

(ii) the beginning of a prior reporting period presented as comparative information in the financial statements of the reporting period in which the entity first applies the Interpretation.

An entity that applies paragraph A2(b) shall, on initial application, apply the Interpretation to assets, expenses and income initially recognised on or after the beginning of the reporting period in paragraph A2(b)(i) or (ii) for which the entity has recognised non-monetary assets or non-monetary liabilities arising from advance consideration before that date.

The objective of these examples is to illustrate how an entity determines the date of the transaction when it recognises a non-monetary asset or non-monetary liability arising from advance consideration in a foreign currency before it recognises the related asset, expense or income (or part of it) applying relevant Australian Accounting Standards.

On 1 March 20X1, Entity A entered into a contract with a supplier to purchase a machine for use in its business. Under the terms of the contract, Entity A pays the supplier a fixed purchase price of FC1,000 on 1 April 20X1. On 15 April 20X1, Entity A takes delivery of the machine.

Entity A initially recognises a non-monetary asset translating FC1,000 into its functional currency at the spot exchange rate between the functional currency and the foreign currency on 1 April 20X1. Applying paragraph 23(b) of AASB 121 The Effects of Changes in Foreign Exchange Rates, Entity A does not update the translated amount of that non-monetary asset.

On 15 April 20X1, Entity A takes delivery of the machine. Entity A derecognises the non-monetary asset and recognises the machine as property, plant and equipment applying AASB 116 Property, Plant and Equipment. On initial recognition of the machine, Entity A recognises the cost of the machine using the exchange rate at the date of the transaction, which is 1 April 20X1 (the date of initial recognition of the non-monetary asset).

On 1 June 20X2, Entity B entered into a contract with a customer to deliver goods on 1 September 20X2. The total fixed contract price is an amount of FC100, of which FC40 is due and received on 1 August 20X2 and the balance is receivable on 30 September 20X2.

Entity B initially recognises a non-monetary contract liability translating FC40 into its functional currency at the spot exchange rate between the functional currency and the foreign currency on 1 August 20X2. Applying paragraph 23(b) of AASB 121, Entity B does not update the translated amount of that non-monetary liability.

Applying paragraph 31 of AASB 15 Revenue from Contracts with Customers, Entity B recognises revenue on 1 September 20X2, the date on which it transfers the goods to the customer.

Entity B determines that the date of the transaction for the revenue relating to the advance consideration of FC40 is 1 August 20X2. Applying paragraph 22 of AASB 121, Entity B determines that the date of the transaction for the remainder of the revenue is 1 September 20X2.

On 1 September 20X2, Entity B:

(a) derecognises the contract liability of FC40 and recognises revenue using the exchange rate on 1 August 20X2; and

(b) recognises revenue of FC60 and a corresponding receivable using the exchange rate on that date (1 September 20X2).

The receivable of FC60 recognised on 1 September 20X2 is a monetary item. Entity B updates the translated amount of the receivable until the receivable is settled.

On 1 May 20X3, Entity C entered into a contract with a supplier for services. The supplier will provide the services to Entity C evenly over the period from 1 July 20X3 to 31 December 20X3. The contract requires Entity C to pay the supplier FC200 on 15 June 20X3 and FC400 on 31 December 20X3. Entity C has determined that, for this contract, the payment of FC200 on 15 June 20X3 relates to the services to be received in the period 1 July–31 August 20X3, and the payment of FC400 on 31 December 20X3 relates to the services to be received in the period 1 September–31 December 20X3.

Entity C initially recognises a non-monetary asset translating FC200 into its functional currency at the spot exchange rate between the functional currency and the foreign currency on 15 June 20X3.

In the period 1 July–31 August 20X3, Entity C derecognises the non-monetary asset and recognises an expense of FC200 in profit or loss as it receives the services from the supplier. Entity C determines that the date of the transaction for the expense related to the advance consideration of FC200 is 15 June 20X3 (the date of initial recognition of the non-monetary asset).

In the period 1 September–31 December 20X3, Entity C initially recognises the expense in profit or loss as it receives the services from the supplier. In principle, the dates of the transaction are each day in the period 1 September–31 December 20X3. However, if exchange rates do not fluctuate significantly, Entity C may use a rate that approximates the actual rates as permitted by paragraph 22 of AASB 121. If that is the case, Entity C may, for example, translate each month’s expense of FC100 (FC400 ÷ 4) into its functional currency using the average exchange rate for each month for the period 1 September–31 December 20X3.

As Entity C recognises the expense in the period 1 September–31 December 20X3, it recognises a corresponding liability in respect of its obligation to pay the supplier. The liability is a monetary item. Entity C updates the translated amount of the liability until the liability is settled.

On 1 January 20X4, Entity D enters into a contract to sell two products to a customer. Entity D transfers one product on 1 March 20X4 and the second on 1 June 20X4. As required by the contract, the customer pays a fixed purchase price of FC1,000, of which FC200 is due and received in advance on 31 January 20X4 and the balance is due and received on 1 June 20X4.

The following facts are relevant:

(a) applying AASB 15, Entity D allocates FC450 of the transaction price to the first product and FC550 to the second product.

(b) Entity D has determined that, for this contract, the consideration of FC200 received on 31 January 20X4 relates to the first product transferred on 1 March 20X4. On transfer of that product to the customer, Entity D has an unconditional right to FC250 of the remaining consideration.

The spot exchange rates are:

The following journal entries illustrate how Entity D accounts for the foreign currency aspects of the contract:

(a) Entity D receives the advance payment of FC200 on 31 January 20X4, which it translates into its functional currency using the exchange rate at 31 January 20X4.

(b) Applying paragraph 23(b) of AASB 121, Entity D does not update the translated amount of the non-monetary contract liability.

(c) Entity D transfers the first product with a transaction price of FC450 on 1 March 20X4. Entity D derecognises the contract liability and recognises revenue of LC300. Entity D recognises the remaining revenue of FC250 relating to the first product and a corresponding receivable, both of which it translates at the exchange rate at the date that it initially recognises the remaining revenue of FC250, ie 1 March 20X4.

(d) The receivable of FC250 is a monetary item. Entity D updates the translated amount of the receivable until the receivable is settled (1 June 20X4). At 1 June 20X4, the receivable of FC250 is equivalent to LC475. As required by paragraph 28 of AASB 121 Entity D recognises an exchange gain of LC50 in profit or loss.

(e) Entity D transfers the second product with a transaction price of FC550 on 1 June 20X4. Entity D recognises revenue of FC550 using the exchange rate at the date of the transaction, which is the date that Entity D first recognises this part of the transaction in its financial statements, ie 1 June 20X4.

(f) Entity D also receives the remaining consideration of FC800 on 1 June 20X4. FC250 of the consideration received settles the receivable of FC250 arising on the transfer of the first product. Entity D translates the cash at the exchange rate at 1 June 20X4.

This Basis for Conclusions summarises the considerations of the IFRS Interpretations Committee (the Interpretations Committee) in reaching its consensus.

The Interpretations Committee received a question asking how to determine the exchange rate to use in applying IAS 21 The Effects of Changes in Foreign Exchange Rates when recognising revenue. The question addressed a circumstance in which an entity receives advance consideration in a foreign currency. IAS 21 does not specifically address such a circumstance.

The Interpretations Committee noted that the feedback from its outreach on the question indicated that:

(a) the issue affects a number of jurisdictions, and particularly affects the construction industry.

(b) diverse reporting methods are applied. Some entities recognise revenue using the spot exchange rate between the functional currency and the foreign currency at the date of the receipt of the advance consideration and others use the exchange rate at the date that revenue is recognised.

To address the issue, in October 2015 the Interpretations Committee published a draft Interpretation Foreign Currency Transactions and Advance Consideration for public comment. It received 45 comment letters. The Interpretations Committee considered the comments received in developing this Interpretation.

The question received related specifically to revenue transactions. However, in discussing the issue, the Interpretations Committee noted that a similar question arises for other transactions when consideration is denominated in a foreign currency and is paid or received in advance. For example:

(a) purchases and sales of property, plant and equipment;

(b) purchases and sales of intangible assets;

(c) purchases and sales of investment property;

(d) purchases of inventory;

(e) purchases of services;

(f) entering into lease contracts; and

(g) receipt of some government grants.

In addition, the Interpretations Committee noted that IAS 21 applies to all foreign currency transactions, not only to revenue transactions in a foreign currency. Consequently, the Interpretations Committee decided that the Interpretation applies to a foreign currency transaction (or part of it) when an entity recognises a non-monetary asset or non-monetary liability arising from the payment or receipt of advance consideration. Respondents to the draft Interpretation generally supported the scope proposed by the Interpretations Committee.

The Interpretations Committee decided that an entity is not required to apply the Interpretation to income taxes, or to insurance contracts (including reinsurance contracts) that it issues or reinsurance contracts that it holds.

The Interpretations Committee concluded that it is important to avoid unintended consequences for income taxes because of the complexities that arise from the interplay with deferred tax. Similarly, the Interpretations Committee concluded that it is important to avoid unintended consequences for insurance contracts. The International Accounting Standards Board’s project on Insurance Contracts is at an advanced stage and it would be inappropriate to require a change in accounting before the application of the forthcoming insurance contracts Standard.

Advance consideration may be denominated in a foreign currency, but in a form other than cash. For example, an entity may receive equity instruments, or an item of inventory that has a fair value determined in a foreign currency, in exchange for the provision of services.

IAS 21 applies to both cash and non-cash foreign currency transactions. Accordingly, the Interpretations Committee determined that the Interpretation applies to both cash and non-cash transactions when an entity recognises a non-monetary asset or non-monetary liability arising from advance consideration in a foreign currency.

Paragraph 23(c) of IAS 21 requires an entity to translate non-monetary items measured at fair value in a foreign currency using the exchange rate at the date when the fair value was measured. Consequently, the Interpretations Committee decided that the Interpretation does not apply to foreign currency transactions for which the related asset, expense or income is initially measured at fair value.

The Interpretations Committee also decided the Interpretation does not apply to foreign currency transactions for which the related asset, expense or income is initially measured at the fair value of the consideration paid or received at a date other than the date of the transaction specified in this Interpretation. This is because the date of measurement of the fair value used to measure the asset, expense or income on initial recognition would determine the date of the transaction.

The payment or receipt of advance consideration generally gives rise to the recognition of a non-monetary asset or non-monetary liability. However, an advance payment or receipt could give rise to a monetary asset or liability instead of a non-monetary asset or liability.

When the asset or liability is a monetary item, paragraphs 28–29 of IAS 21 require an entity to recognise an exchange difference in profit or loss for any change in the exchange rate between the transaction date and the date of settlement of that asset or liability. Consequently, the question about which exchange rate to use on initial recognition of the related asset, expense or income arises only when the advance consideration gives rise to the recognition of a non-monetary asset or non-monetary liability. Accordingly, the Interpretations Committee decided that this Interpretation applies only in circumstances in which an entity recognises a non-monetary asset or non-monetary liability arising from advance consideration.

Some respondents to the draft Interpretation requested guidance in determining whether the payment or receipt of advance consideration gives rise to a monetary or non-monetary asset or liability. These respondents said that, for some transactions, this assessment can be difficult.

In considering the request, the Interpretations Committee noted that the Interpretation is not adding a new requirement to determine whether an item is monetary or non-monetary—this requirement already exists in IAS 21. The Interpretation simply clarifies which exchange rate to use for particular transactions. The Interpretations Committee decided that it was outside the scope of this Interpretation to provide application guidance on the definition of monetary and non-monetary items.

Nonetheless, the Interpretations Committee acknowledged that an entity may need to apply judgement in determining whether an item is monetary or non-monetary. It also noted references in Standards and The Conceptual Framework for Financial Reporting (the Conceptual Framework) that may be helpful in determining whether an item is monetary or non-monetary. These references include:

(a) paragraph 16 of IAS 21;

(b) paragraph AG11 of IAS 32 Financial Instruments: Presentation; and

(c) paragraph 4.17 of The Conceptual Framework.

Paragraph 22 of IAS 21 defines the date of the transaction for the purpose of determining the exchange rate to use on initial recognition of a foreign currency transaction as ‘the date on which the transaction first qualifies for recognition in accordance with IFRSs’.

The Interpretations Committee observed that there could be two ways of identifying ‘the transaction’ for the purpose of determining the exchange rate to use on initial recognition:

(a) the ‘one-transaction’ approach—the receipt or payment of consideration and the transfer of the goods or services are all considered to be part of the same transaction. Thus, the date of the transaction is determined by the date on which the first element of the transaction qualifies for recognition applying the relevant Standards.

(b) the ‘multi-transaction’ approach—the receipt or payment of consideration and the transfer of the goods or services are considered to be separate transactions, each of which has its own ‘date of the transaction’ when it first qualifies for recognition applying the relevant Standards.

The one-transaction approach is consistent with the notion that purchases and sales represent exchange transactions, and the payment and transfer of goods or services are inherently interdependent. Accordingly, if the first element of the transaction to be recognised is a non-monetary asset or non-monetary liability, that would determine the date of the transaction for the purpose of recognising the related asset, expense or income (or part of it).

The multi-transaction approach treats the transfer of goods or services and the receipt or payment of consideration as two separate transactions. This approach would result in a date of the transaction that is the same as the date of recognition of the related asset, expense or income (or part of it), regardless of the timing of the payment or receipt of consideration.

The Interpretations Committee decided that the one-transaction approach is a more appropriate interpretation of IAS 21 when the payment or receipt of advance consideration gives rise to a non-monetary asset or non-monetary liability. This is because:

(a) it reflects that an entity is typically no longer exposed to foreign exchange risk in respect of the transaction to the extent that it has received or paid advance consideration. After receipt of advance consideration in a foreign currency, the entity can decide whether to hold the foreign currency consideration and be exposed to foreign exchange risk. After payment of advance consideration in a foreign currency, the entity is no longer exposed to foreign exchange risk in respect of that amount.

(b) the obligation to perform (reflected in the recognition of a non-monetary liability) and the subsequent fulfilment of that obligation (which gives rise to income) are interdependent and are part of the same transaction.

(c) the right to receive assets, goods or services (reflected in the recognition of a non-monetary asset) and the receipt of those assets, goods or services are inherently interdependent.

(d) it is consistent with the treatment of non-monetary assets and non-monetary liabilities applying paragraph 23(b) of IAS 21, because an entity does not subsequently update the translated amounts of such items.

In addition, considering paragraph 22 of IAS 21, the Interpretations Committee concluded that, for a transaction to qualify for recognition in accordance with the Standards, an entity must record the transaction in its financial statements with a value. The Interpretations Committee observed that paragraph 4.46 of the Conceptual Framework notes that ‘in practice, obligations under contracts that are equally proportionately unperformed (for example, liabilities for inventory ordered but not yet received) are generally not recognised as liabilities in the financial statements’. Consequently, the Interpretations Committee concluded the date on which an entity first recognises the transaction in its financial statements with a value determines the date of the transaction. If an entity recognises a non-monetary asset or non-monetary liability arising from advance consideration, the date of initial recognition of that asset or liability is the date of the transaction. The date of initial recognition of the non-monetary asset or non-monetary liability is generally the date on which the entity pays or receives the advance consideration.

If only part of the consideration is received or paid in advance, then an entity has initially recognised only part of the transaction as a non-monetary asset or non-monetary liability. In that case, applying this Interpretation, an entity determines the date of the transaction for only that part of the related asset, expense or income for which consideration has been received or paid in advance. If there are subsequent advance payments or receipts, the date(s) of the transaction for the remaining part(s) of the related asset, expense or income will be the date(s) on which the entity recognises those subsequent advance receipts or payments. Correspondingly, if part of the consideration is paid in arrears, the date(s) of the transaction for the remaining part(s) of the related asset, expense or income will be the date(s) on which the entity initially recognises that (those) part(s) of the asset, expense or income in its financial statements applying applicable Standards.

The Interpretations Committee observed that this treatment reflects that an entity typically has no foreign exchange risk in respect of foreign currency amounts already paid or received, but is still exposed to foreign exchange risk in respect of any unpaid consideration.

The Interpretations Committee was asked to clarify how the Interpretation applies to an embedded derivative that requires separation at contract inception. The Interpretations Committee decided it was not necessary to clarify this matter in the Interpretation. The Interpretation Committee noted that paragraph 24 of IAS 21 requires an entity to determine the carrying amount of an item in conjunction with other relevant Standards. Consequently, an entity first evaluates transactions for embedded derivatives that require separation at contract inception before applying the requirements in IAS 21 or this Interpretation.

The Interpretations Committee further noted that, if an entity separately accounts for an embedded derivative, the requirements of the Interpretation apply to a remaining host contract denominated in a foreign currency when consideration has been paid or received in advance as they do to other such foreign currency transactions.

Some respondents to the draft Interpretation suggested including an example to illustrate how the Interpretation applies to transactions with a significant financing component. The Interpretations Committee decided not to include an example because it concluded that any such example would interpret other Standards.

The Interpretations Committee considered the interaction of the Interpretation with the presentation of exchange differences on the settlement or retranslation of monetary items that, applying paragraphs 28–29 of IAS 21, an entity recognises in profit or loss in the period in which they arise.

The Interpretations Committee decided that presentation of exchange differences in profit or loss is outside the scope of the issue being addressed in the Interpretation. This is because the Interpretation addresses only how to determine the ‘date of the transaction’ for the purpose of determining the exchange rate to use on initial recognition of the related asset, expense or income on the derecognition of a non-monetary asset or non-monetary liability arising from advance consideration in a foreign currency.

The Interpretations Committee observed that retrospective application of the Interpretation may be burdensome, in particular for foreign currency transactions involving purchases of assets. Consequently, the Interpretations Committee decided that, on initial application, entities should have the option not to retrospectively adjust assets, expenses and income (or parts of them) that had been recognised before the beginning of the reporting period in which the Interpretation is first applied or the beginning of a prior reporting period presented as comparative information in the period in which the Interpretation is first applied.