You can receive a free asset from anybody as a gift, with no strings attached. This applies also to free assets received from your suppliers or customers where it is impossible or impracticable to match these free assets with any contracts or conditions.
You will need to develop the accounting policy based on the similar rules in other standards and the Framework.
What are the closest similar rules?
The standard IAS 20 that applies for government grants.
Let’s see a few considerations here:
- First of all – you need to show assets that you control.
- Secondly – as you have no cost, the fair value concept applies here.
- You should not show the receipt of your free asset directly in the equity because it does not come from your shareholder.
IAS 20 strictly prohibits accounting for grants straight in equity, so you should be consistent with these rules when forming the accounting policy in this case.
Now, this is the hardest part – how should you recognize the free asset that you received?
In other words – what is the credit entry?
Here, you must show the credit entry as income in profit or loss.
Not the revenue, because the revenue comes from ordinary course of business.
The journal entry will look something like this:
- Debit PPE – asset: fair value
- Credit Profit or loss – other income: fair value
Why not deferred income with subsequent amortization of a deferred income in profit or loss?
That is the treatment required by IAS 20 for government grants, however:
- In this case, there are no strings attached in a sense that you do not have to hold the free asset and use it.
- You do not have any conditions attached to the receipt of a free asset, right?
- Therefore, I believe that the receipt of your free asset indeed represents an increase in your net assets at the moment when you receive the asset and your financial statements should reflect that increase.
- If you recognize your free asset in deferred income (liability in the balance sheet), then you are not showing the increase in your net assets.
- Also, someone might argue that you are not in line with matching concept because you are not matching the income (receipt of a free asset) with the expenses (its depreciation).
But IFRS tell us to recognize expenses when the relevant service or asset was consumed (thus together with the depreciation).
Also, IFRS tell us that the income “is recognized in the income statement when an increase in future economic benefits related to an increase in an asset or a decrease of a liability has arisen that can be measured reliably” (From the Conceptual Framework).
Thus, it is perfectly OK and in line with the Conceptual Framework to recognize an income from the receipt of a free asset when it is received and not over its useful life with amortization.
Why is it different from the treatment of government grants under IAS 20?
Government gives you grants (free assets or cash) for some purpose.
In most cases, you need to meet certain conditions to get the grant and afterwards.
Therefore, receipt of a free asset from anyone else is different, especially if there are no strings attached. If you receive free asset from an entity other than government and there ARE conditions attached to it, then of course, IAS 20 treatment (via deferred income) is more suitable policy choice in this case.
CONCLUSION
You will need to use fair value to determine the value of the assets given to your organisation – have a look at IFRS 13 for more guidance.
Fair value is a market-based measurement, not an entity-specific measurement. It means that an entity:
- shall look at how the market participants would look at the asset or liability under measurement
- shall not take own approach (e.g. use) into account.
I don’t think it would be proper not to recognise the asset- because there are economic benefits that will accrue to your organisation over a period of time.
Gervase Mwango
(BA Ed, CA-ACCA)
Tax Practitioner Number: PR0093056
+27 72 490 8099
