KAS 6 REVENUE EXPLANATORY NOTES EXPLANATORY NOTES TO KOSOVO

INFORMATION PENSIONS TAXATION ANNUAL ALLOWANCE HM REVENUE
INFORMATION PENSIONS TAXATION LIFETIME ALLOWANCE HM REVENUE
OVERVIEW HOME REVENUES & COSTS BALANCE SHEET

(200607) VOLUME 21 INLAND REVENUE BOARD OF REVIEW DECISIONS
(200708) VOLUME 22 INLAND REVENUE BOARD OF REVIEW DECISIONS
(201011) VOLUME 25 INLAND REVENUE BOARD OF REVIEW DECISIONS

Revenue sources are primarily the sale of goods, rendering of services, and use by others of enterprise assets


KAS 6 REVENUE

EXPLANATORY NOTES


Explanatory Notes to Kosovo Accounting Standards are intended to provide additional understanding of the Standards and technical guidance as to their use and application. In case of any divergence between Explanatory Notes and Standards, the Standards prevail.


1. Revenue is defined in KAS 6 as the gross inflow of economic benefits during the period arising in the course of the ordinary activities of an enterprise when those inflows result in increases in equity. Revenue does not include equity increases relating to contributions from equity participants.
2. KAS 6 does not cover revenues arising from:


3. The term “revenue” is often used interchangeably with the term “income”. Income encompasses both revenue as well as gains that arise from transactions outside of an enterprise’s usual activities. For example, an enterprise’s main business activities involve the purchase and resale of pencils. Revenue from the sale of pencils was 30,000€ and the enterprise realized a gain of 4,000€ from the sale of several of its office computers that it intended to replace with newer models. The enterprise’s income was 34,000€.


Measurement of revenue

4. Revenue should be measured at the fair value of the consideration received or receivable. Fair value is the amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm’s length transaction. The amount of revenue arising on a transaction is usually determined by the terms of the contract between the enterprise and the purchaser or user of enterprise assets. It is measured at the fair value of the consideration received, or receivable, after subtracting any trade discounts and rebates allowed by the enterprise.

Exchanges of goods and services

5. The accounting treatment for exchanges of goods and services, rather than purchases and sales, depends on whether or not the goods and services exchanged are of a similar nature.

Exchanges of similar goods and services

6. Exchanges of goods and services that are of a similar nature are not accounted for as revenue generating transactions because the earning process is not considered to be complete. For example, in certain commodity industries, such as the oil industry, suppliers with inventories held in geographically dispersed locations typically exchange inventories to meet local demands on a timely basis.

Illustration of exchange of similar goods

Company A and Company B are suppliers of crude oil with a fair value of 20€ per barrel. Company A holds inventories of crude oil in Omega and Company B in Zeta. Company A needs to delivery 2,000 barrels of crude oil in Zeta and Company B agrees to supply it to Company A, in exchange for obtaining ownership of the same quantity in Omega. As a result, each company only needs to change its subsidiary accounting records to identify where the inventories are located. Otherwise, the quantities and values of the crude oil inventories remain the same.


Exchanges of dissimilar goods and services

7. Exchanges of goods and services that are not of a similar nature, however, are accounted for as revenue generating transactions. This is because the earnings process is considered to be complete and the exchange is therefore treated as a revenue generating transaction. Revenue is measured at the fair value of the goods or services received or receivable. In the event that this value cannot be measured reliably, revenue is measured at the fair value of the goods or services given up. The underlying assumption that these two fair values would approximate each other, except where some inequity exists – such as one party taking advantage of the other.


Illustration of exchange of dissimilar goods

1.Items exchanged had the same fair value

Company A has some copying machines that it no longer needs and Company B agrees to take them in exchange for a surplus delivery truck. The copying machines have a cost of 2,000€, a book value of 800€, and a fair value of 900€. The delivery truck has a cost of 3,500€, a book value of 1,000€, and a fair value of 900€.


Accounting entry – Company A

DT. Delivery truck 900

DT. Accumulated depreciation – copying machines 1,200

CT. Copying machines 2,000

CT. Gain on exchange of copying machines 100


Accounting entry – Company B

DT. Copying machines 900

DT. Accumulated depreciation – delivery truck 2,500

DT. Loss on exchange of delivery truck 100

CT. Delivery truck 3,500


2. Items exchanged included cash or cash equivalents.

Assume the same data as above except that the fair value of the copying machines as 700€ so Company A paid 200€ in cash to Company B at the time of the exchange.


Accounting entry – Company A

DT. Delivery truck 900

DT. Accumulated depreciation – copying machines 1,200

DT. Loss on exchange of copying machines 100

CT. Copying machines 2,000

CT. Cash 200

The loss reflects the difference between the copying machines’ book value of 800€ and their fair value of 700€.


Accounting entry – Company B

DT. Cash 200

DT. Copying machines 700

DT. Accumulated depreciation – delivery truck 2,500

DT. Loss on exchange of delivery truck 100

CT. Delivery truck 3,500

The loss reflects the difference between the delivery truck’s book value of 1,000€ and its fair value of 900€.


Identification of the transaction

8. The criteria for recognition of revenue under three categories: sale of goods, rendering services, or use of the enterprise’s assets by others, should be applied separately to each of these categories. As an example, assume that one transaction includes two separately identifiable activities: one a sale and the other a service. Then the revenue applicable to each activity must be separately measured and accounted for.


Illustration

Company A is a retailer, selling washing machines for 800€ each. The sales price includes a two-year warranty for repairs at no charge to the customer should they be necessary. If the customer prefers not to have the warranty, the sales price is 720€. The revenues would be measured as 720€ from the sale of the washing machine, accounted for at the time of the sale, and 80€ from the warranty, accounted for as deferred revenue and recognized over the two-year period of the warranty.


Recognition of revenue

9. The principal issue in accounting for revenue is determining when revenue should be formally recognized. That is, when it should be included in the financial statements.


10. Revenue is to be recognized when both of the following conditions are met:


11. KAS 6 establishes criteria for recognition of revenue from three categories of transactions:


12. The recognition criteria for both revenues and losses are that::


Revenues - Sales of Goods

13. Determining at what point in the sales process to recognize revenue can be a complex issue. Accordingly, an enterprise must develop a revenue recognition policy for its sales and disclose it, together with other accounting policies, in the notes to the financial statements (refer to the Explanatory Notes to KAS 1, Presentation of Financial Statements).


14. In accordance with KAS 6, revenue from the sale of goods should be recognized when all the following five conditions are met:


a. The enterprise has transferred to the buyer the significant risks and rewards of ownership of the goods.

b. The enterprise retains neither continuing managerial involvement to the degree usually associated with ownership, nor effective control over the goods sold.

c. The amount of revenue can be measured reliably.

d. It is probable that the economic benefits associated with the transaction will flow to the enterprise. In effect, this means that the enterprise expects to receive payment.

e. The costs incurred or to be incurred in respect of the transaction can be reliably measured.

Risk and rewards transfer

15. Determining when the seller has transferred to the buyer the significant risks and rewards of ownership of the goods sold is critical to the recognition of revenue from the sale of goods. Until the time that this is considered to have occurred, the transaction cannot be treated as a sale. Some of the risks of ownership that might be retained, for example, include a liability for unsatisfactory performance not covered by normal warranty provisions or the purchaser’s right to rescind the transaction.


16. In determining whether significant risks and rewards of ownership have been transferred to the buyer, consider (a) whether any acts of performance remain to be completed, and (b) whether the seller retains any continuing effective control of the goods transferred to a degree that is usually associated with ownership.


17. The application of the revenue principle can be broadly categorized according to the timing of revenue recognition in relation to delivery of the goods and services to the customer:


  1. Revenue recognized at delivery (point of sale)

  2. Revenue recognized after delivery.

  3. Revenue recognized before delivery.


Revenue Recognized at Delivery (Point of Sale)

18. In most cases, revenue is recognized when the customer takes possession. In retail sales, this usually coincides with the passing of legal title. This may occur before, at the time, or after the customer pays for the goods. If the customer pays for the goods at the time of the passing of legal title, or afterwards, revenue is recognized at the time of sale. If the customer pays beforehand, that is: in advance, revenue is recognized when the seller has complied with the terms of the sale. This usually requires accounting for the advance payment as deferred revenue.


Deferred revenue

19. In some types of businesses, it is usual for customers to pay for goods and services in advance. For example, companies that sell magazine subscriptions or airlines that sell tickets for future air travel receive cash before the delivery of the product or service. In these cases, the earnings process is not complete until the product is delivered.


20. When a customer pays in advance, the enterprise must record a liability to deliver the goods or services. This liability is called deferred revenue or unearned revenue and is reported among other liabilities on the Balance Sheet. It is not recognized as revenue until the product or service is delivered.


Illustration of Accounting for Deferred Revenue

On 1 September, XXX1 a magazine publisher received payment of 480€ in advance from a customer for a two year magazine subscription. The publisher recorded the transaction as follows:

Debit Cash 480

Credit Deferred revenue 480


The October issue was the first to be delivered to the customer Each month during the subscription period that a magazine is delivered, the publisher will record the following transaction:

Debit Deferred revenue 20

Credit Revenue 20


The income statement for XXX1 will report subscription revenue of 60€ for the three months of magazine deliveries in October, November, and December. The balance of deferred revenue reported on the 31/12/X1 balance sheet is 420€, which is the beginning deferred revenue balance of 480€ reduced by three months of revenue recognition transactions.


The income statement for XXX2 will report subscription revenue of 240€ for 12 months of magazine delivery during the year. The balance of remaining deferred revenue reported on the 31/12/X2 balance sheet will be 180€.


The income statement for XXX3 will report subscription revenue of 180, resulting from the remaining 9 months of magazine delivery during the year, January through September.


Revenue Recognized After Delivery

21. In practice, situations arise where it is both appropriate and necessary to depart from the practice of recognizing revenue at the time of delivery of goods or services. This usually occurs because one of the two revenue recognition criteria is not met at delivery, or both criteria are met before the delivery of the goods or services.


22. Revenue recognition is delayed after the delivery of the good or service until both criteria are met. For example, when a right of return exists, it may be difficult to determine the ultimate amount of revenue that will be collected (realized), whether the earning process is complete.


23. In several industries, such as book publishing and equipment manufacturing, customers are given extensive rights to return goods under certain circumstances and over long periods of time. This practice gives rise to a possible problem, at the time the product is delivered, of determining precisely what amount will ultimately become realizable. If the amount of future returns can be estimated reliably, an enterprise could establish a provision for customer returns and allowances.


24. When, however, the ultimate amount of goods sold or amount that will be collected is highly uncertain, a provision should not be used. Instead, a variation of the point-of-sale method is used. With this variation, sales revenue, costs of goods sold, and, therefore, gross margin are deferred to the period in which the return privilege expires.


Illustration of sales with right of return
The following example illustrates the accounting treatment for sales when the purchaser has extensive right of return and the sales method in not appropriate:


On 30 September, XXX1, a publishing company sells 1,000 copies of a new book to bookstores at a unit price of 50€. The books have a unit cost to the publisher of 30€. Because the new book’s sales success is uncertain, the publisher sells the book with payment required in 30 days, but gives the bookstores until 31 March, XXX2, to exercise their right to return any unsold books for a cash refund. The publishing company does not have a reliable basis for estimating the quantity of returns. On 10 January, XXX2, 100 books are returned undamaged, and the appropriate bookstores are given credit for the returns. No other units are returned.


The publishing company would record these transactions as follows::


(1) On 30 September, XXX1:

Debit Accounts receivable 50,000

Credit Sales revenue (1,000 units 50€) 50,000

To record the sale of 1,000 books with right of return


Debit Cost of goods sold 30,000

Credit Inventory (1,000 units 30€) 30,000

To record the cost of books sold with right of return


Debit Sales Revenue 50,000

Credit Cost of goods sold 30,000

Credit Deferred gross margin (1,000 20) 20,000

To close the sales revenue and cost of goods sold and record deferred gross margin on books sold with right of return


The deferred gross margin account, also known as deferred gross profit, is a credit balance account that appears as a subtraction from the accounts receivable account on the balance sheet and not as a liability.


(2) On 30 October, XXX1, 50,000€ is collected on the account receivable. The following accounting entry is made:

DT. Cash 50,000

CT. Accounts receivable ` 50,000


None of the deferred gross revenue is transferred from the balance sheet to the income statement because the publisher would still be uncertain about the number of books that might be returned. The gross margin will be recognized as it is realized when the return privilege expires.


(3) On 10 January, XXX2, 100 books are returned. As a result, inventory is increased, the balance of the deferred gross margin account is decreased, and the accounts receivable balance would usually be decreased. In this case, however, cash is paid back to the bookstore because the receivable balance that was due 30 October was paid in full.


The accounting transaction is:

Debit Inventory (100 units 30€) 3,000

Debit Deferred gross margin 2,000

Credit Cash (100 units 50€) 5,000


Revenue has not previously been recognized on the returned books, and revenue is still not recognized because additional returns may still occur.


Finally, on 31 March, XXX2, when the right of return privilege expires, the publisher recognizes net sales of 900 books for revenue of 45,000€ and with a cost of goods sold of 27,000€. The remaining balance of 18,000€ in the deferred gross margin account is also reversed in this entry:


Debit Cost of goods sold 9,900 units 30€) 27,000

Debit Deferred gross margin (900 units 20€) 18,000

Credit Sales revenue (900 units 50€) 45,000


The effect of the previous entries was that the publisher did not recognize any sales revenue in XXX1; instead, the net revenue of 45,000€ was deferred until XXX2. This was because the condition of being able to predict the returns was not met. That is why the publisher was unable to match the appropriate expenses against the revenue.


Consignments

25. Another example of appropriately deferring revenue is when the buyer’s obligation to pay the seller is contingent on the resale of the product. In this situation, the transaction is essentially a consignment of the product.


26. A consignment is a marketing arrangement in which the consignor (the owner of the product) transfers physical possession of the product to another party, known as the consignee, who acts only as a sales agent. The consignee does not purchase the goods or otherwise acquire title to them, but assumes responsibility for their care until resale. When the goods are sold, the consignee notifies the consignor, who records the sale, and forwards the amount received, less any specified expenses such as a commission). Consignments are often used for goods that are expensive and/ or appeal to a narrow market, such as works of art or handmade goods. The consignor does not recognized revenue until the consigned goods are sold to a third party.

Revenue Recognized Before Delivery

27. In some instances, the earnings process extends over several accounting periods. Examples include the construction of large ships, bridges, and office buildings. Often the contracts for these projects provide that the builder will bill the buyer at various points in the construction process as agreed-on milestones are reached. Delivery of the final completed project, however, may be in a financial reporting period after the initiation of the construction effort. By that time the builder will have received most of the customer’s payment.


28. If the builder (seller) waits until the construction is completed to recognize revenue, the information on revenue and expense included in the financial statements will be accurate but will not be timely. Faced with such a situation, it is necessary to trade off perfect accuracy in order to provide timely, relevant earnings and cash flow information. This is the problem of accounting for revenues and expenses when a company engages in long-term construction contracts. The Explanatory Notes to KAS 16, Construction Contracts, discuss and illustrate accounting for long-term construction contracts.

Recognizing Expenses Related to Revenues- Cost of Goods Sold

29. An enterprise must determine the cost of inventory that is sold during the financial reporting period and report it as an expense in the same period that the revenues from sale of the goods are recognized. This applies the matching principle of accounting. Typically, the cost of goods sold is reported on the income statement directly following revenues from sale of the goods, so that the gross profit margin on sales revenue is shown.


The calculation of cost of goods sold for a merchandising firm is as follows:

(1) Beginning inventory plus net purchases equals goods available for sale;

Net purchases is calculated as:

Purchases XXX

Plus transportation costs XX

Minus:

Purchases discounts XX

Purchases returns and allowances XX (XX)

Net purchases: XXX


(2) Goods available for sale minus ending inventory equals cost of goods sold.

The Explanatory Notes to KAS 2, Inventories, discuss and illustrate the calculation of inventory balances.


Illustration

Cost of Goods Sold for a Merchant


Company A Merchandising

Schedule of Cost of Goods Sold

For the Year Ended 31 December, XXX1


Beginning Inventory 1,000,000

Add: Purchases 200,000

Freight on purchases 10,000

210,000

Less: Purchase discounts (15,000)

Net Purchases 195,000

Cost of goods available for sale 1,195,000

Less: Ending inventory (800,000)

Cost of goods sold 395,000



30. A manufacturer computes cost of goods sold by first adding the cost of goods manufactured to the beginning inventory to arrive at cost of goods available for sale. The ending inventory is then deducted from the cost of goods available for sale to determine the cost of goods sold.


31. The cost of goods manufactured is computed by starting with raw materials on hand at the beginning of the period. Added to this are the raw materials purchases during the period, as well as all other costs of production (such as labor and direct overhead). This gives the total of cost of goods placed in production (the cost of goods manufactured) during the period. This must be adjusted for work in process and for raw materials on hand at the end of the period to arrive at the final calculation of goods manufactured during the period.


Illustration

Cost of Goods Sold for a Manufacturer: Part One


Company A Manufacturer

Schedule of Cost of Goods Manufactured

For the Year Ended 31 December, XXX1


Direct materials inventory, 1/1/X1 300,000

Purchases of materials (including freight

and deducting purchase discounts 100,000

Total direct materials available 400,000

Direct materials inventory 31/12/X1 (140,000)

Direct materials used in production 260,000

Direct labor 500,000

Factory overhead: 205,000

Manufacturing costs incurred in XXX1 965,000

Add: Work in process 1/1/X1 300,000

Less: Work in process 31/21/X1 (420,000)

Cost of goods manufactured (to Part Two) 845,000


ICost of Goods Sold for a Manufacturer: Part Two


Company A Manufacturer

Schedule of Cost of Goods Sold

For the Year Ended 31 December, XXX1


Finished good inventory, 1/1/X1 500,000

Add: Cost of goods manufactured (from Part One) 845,000 Cost of goods available for sale 1,345,000

Less: Finished goods inventory 31/12/X1 320,000

Cost of goods sold 1,025,000



Revenues from rendering services

32. There is considerable similarity between the revenue recognition procedures for service transactions and those for tangible goods transactions. That is, revenue should be recognized by reference to the stage of the transaction at the balance sheet date. The outcome from service transactions can be estimated reliably when all of the following four conditions are satisfied:



Most service revenue is one of two types: specific performance or stage of completion.


Specific performance
33. When a contract for services requires that a certain act be performed, revenue is recognized when the act has occurred. Therefore, the specific performance method is used to account for service revenues that are earned by performing a single act. For example:


Even though an enterprise has incurred time and cost in planning, materials, and other expenses, it is not appropriate for the company to recognize revenue until the specific activity that was contracted for has been completed.


Illustration of Specific Performance Revenue Recognition

On 20 December XXX1, A painting firm received an advance payment of 500€ from a customer. The total contract cost for the painting work is 1,500€ and the contract requires that the remaining amount due will be paid after the work is completed. The painting firm records the following transaction on 15 December XXX1 when the advance payment is received. The “advances received” account is a liability account that records deferred revenue:

:

Debit Cash 500

Credit Advances received 500


When the work is completed the painting firm has earned revenue from its services because it has performed all that it was required to do. If the work is completed on 25 January, XXX2, revenue from the contract will be reported in the income statement for XXX2. The painting firm billed the customer for the remaining amount due in January XXX2 and recorded the transaction as follows:


Debit Accounts receivable 1,000

Debit Advances received 500

Credit Revenue 1,500


34. Expenses must be matched with revenue in the same period or periods as revenue is recognized. If materials are purchased in a prior period, the firm will record them as inventory and later match the cost of materials against the revenue in the same reporting period. For example, if the painting firm spent 400€ on all materials for the contract in December XXX1, the following transaction would be recorded and included in the financial statements for XXX1.


Debit Inventory 400

Credit Cash 400


In January of XXX2, the same period in which the revenue is recorded, the painting firm will recognize the materials cost with the following transaction:


Debit Materials expense 400

Credit Inventory 400


Stage of completion

35. When a contract requires that services be performed over a period of time, revenue is recognized: (a) as the costs to provide the service are incurred and (b) in proportion to the total contracted revenues.


36. The stage of completion, or proportional performance method, is used to recognize service revenue earned by more than one act of performance, and only if performance of the service extends beyond one accounting period. Under this method, such revenue should be recognized based on the proportional performance of each act.


37. For example, if an audit firm is under contract to complete audit work between December of XXX1 and March of XXX2, the audit firm will recognize revenue as its employees spend time working on the audit. If ten percent of total estimated work on the audit is completed during December, the audit firm will recognize ten percent of total revenue on the contracted audit and include it in the firm’s financial statements for XXX1.


Illustration

A legal firm contracted to provide legal services for an enterprise. The contract specified a lump-sum payment of 60,000€ on 15 November, XXX1. Assume that the legal firm can reliably estimate future direct costs associated with the contract. Anticipated profit on the contract is 25,000€ (revenue of 60,000€ minus expected cost of 35,000€). The following schedule shows the costs anticipated by the firm in order to provide services under the contract:


Research potential lawsuit, 15/12/X1 5,0000

Prepare and file documents, 1/3/X2 15,000 Serve as counsel during legal proceedings, 15/10/X2 15,000

Total anticipated costs to the legal firm: 35,000


On 15 November, XXX1 the legal firm will record the lump-sum advance for services as follows:

Debit Cash 60,000

Credit Advances received 60,000

The advances received account is a liability account that reflects the amount of unearned revenue on the contract.


On 15 December, XXX1 the legal firm calculates the proportion of total services that have been completed and recognizes revenue proportionately. The following transaction is entered to recognize earned revenue for research that has been completed:

Debit Advances received 8,572

Credit Service revenue 8,572*

*Total estimated direct costs:

5,000 + 15,000 + 15,000 = 35,000

Service revenue recognized:

(5,000 / 35,000) x 60,000 = 8,572 (rounded)


On 15 March, XXX2 the legal firm calculates the proportion of services that have been completed in XXX2 and recognizes revenue proportionately. The following transaction is made to recognize earned revenue for preparation and filing of documents:

Debit Advances received 25,714

Credit Service revenue 25,714*

*Service revenue recognized:

(15,000 /35,000) x 60,000 = 25,714.


On 15 October, XXX2, a transaction is recorded to recognize earned revenue for serving as counsel:

Debit Advances received 25,714

Credit Service revenue 25,714*

*Service revenue recognized:

(15,000 /35,000) x 60,000 = 25,714.


Each time that revenue is recognized, the direct costs associated with the revenue are expensed.


38. When services are provided over a specified period of time for a fixed fee, such as providing maintenance services on equipment, service revenue should be recognized by the straight-line method over the fixed period. For example, if a copier servicing firm receives 600€ in advance from a customer as payment for twelve months of copier maintenance, the following transaction is recorded when the payment is received:


Debit Cash 600

Credit Advances received 600


Each month the copier maintenance firm will record the following transaction to reflect the amount of revenue it has earned during that month from the maintenance contract:


Debit Advances received 50

Credit Revenue 50


Expense Recognition

39. Expenses are decreases in economic resources, either by way of outflows or reductions of assets or the recognition of liabilities, that result from the ordinary revenue-earning activities of an enterprise. While the revenue of the accounting period is measured and recognized in conformity with the revenue principle, the matching principle is applied to measure and recognize the expenses of that period. This is the second step in the process of income recognition.


40. The matching principle requires that, for any reporting period, revenues should be determined in accordance with the revenue principle; then the expenses incurred in generating the revenue of the period should be recognized for that period. The essence of the matching principle is that as revenues are earned, certain assets are consumed (such as supplies) or sold (such as inventory) and services are used (such as those resulting in salary expense). The cost of those assets and services used up should be recognized and reported as expense of the period during which the related revenue is recognized.


41. Expenses may be categorized as follows:

  1. Direct expenses are expenses such as cost of goods sold that are matched with revenues. These expenses are recognized in the same reporting period as their related revenues from the same transactions or other events.

  2. Period expenses are expenses, such as selling and administrative salaries, that are recognized during the period in which they are incurred.

  3. Allocated expenses are expense, such as depreciation and insurance, that are allocated by systematic and rational procedures to the periods during which the related assets are expected to provide benefits.


42. Expenses directly related to the sales of products during the period usually include the following:


43. Under the matching principle, expenses that are directly related to the sales of products should be recognized as expenses during the reporting period in which the related sales revenue is recognized. For accounting purposes, certain expenses are difficult to classify in terms of their relationship with sales revenue. For example, advertising and research expenditures are made to enhance the marketability of a company’s products. However, it is difficult to establish a direct link between those expenditures and specific revenues. Therefore, they should be expensed as incurred.


44. Expenses directly related to the sales of services can be classified as follows:


Initial direct costs

45. Initial direct costs are costs directly associated with negotiating and consummating service transactions. These costs include commissions, legal fees, salespersons’ compensation other than commissions, and non-sales employees’ compensation that is applicable to negotiating and finalizing service transactions.


Additional direct costs

46. Additional direct costs are costs that have an effect on service sales, but the relationship cannot be calculated. Examples include the cost of general repair parts and general office staff services included as part of a service contract.


Specific performance contract costs

47. For specific performance contracts, all direct costs should be recognized as expense during the period in which the related service revenue is recognized in order to obtain an appropriate matching of revenues and expenses. Thus, initial direct costs and any additional direct costs that are incurred prior to the recognition of revenue from performance of the service should be deferred as prepayments and expensed only when the related service revenue is recognized.


48. For example, an entertainment firm has the following expenditures as part of preparations for a contracted performance:


These expenditures should not be expensed when paid. Instead, they should be recorded as inventory that will be expensed in the period that the performance is completed. This matches costs for the performance against revenues in the same financial reporting period.


Proportional performance method costs

49. For service revenue recognized under the proportional performance method, initial direct costs should be expensed only as the related service revenue is recognized. However, additional direct costs should be expensed as incurred.


Period and allocated expenses

50. Expenses not directly related to the sales of products or services include both period expenses and allocated expenses. Examples of these expenses include certain types of advertising expense, compensation that is applicable to the time spent in negotiating product or service transactions that are not consummated, general administrative expenses, depreciation expense, and amortization expense. Because no objective basis exists for relating the expense to specific product or service sales revenue, these costs should be expensed as they are incurred. Similarly, allocated expenses such as depreciation must be assigned to periods on a systematic and rational basis.


Revenues from interest, dividends and royalties

51. Revenue from interest and dividends, as well as royalties, should be measured at the fair value of the consideration received or receivable.


Interest revenue

52. Interest revenue should be recognized as it is earned over the time period that another party has use of the enterprise’s asset. The method used to accrue interest should, if possible, take into account the effective yield on the asset. To simplify calculations, a straight-line method may be used if it is not practicable to determine the effective yield on the asset and it is expected that the reported financial results would not be materially different between the two methods. In Kosovo it is anticipated that most interest accruals will be calculated and accrued using the straight-line method.


The Explanatory Notes to KAS 14, Financial Instruments, discuss and illustrate accounting for interest revenue.


Revenues from dividends

53. Dividends should be recognized when the shareholder’s right to receive payment is established. Normally this occurs when the issuing company declares dividends.


Illustration of accounting for dividends

Company A has an equity investment in Company B. On 15 January 15, Company B declares dividends, payable on 15 February. Company A’s share of the dividends is 3,800€. On 15 January, Company A makes the following accounting entry: to recognize the dividend revenue from Company B:


Debit Dividends receivable 3,800

Credit Dividend revenue 3,800


On 15 February, Company A makes the following accounting entry to record the receipt of the dividends from Company B:


Debit Cash 3,800

Credit Dividends receivable 3,800


Revenues from royalties

54. Royalties should be recognized on an accrual basis in accordance with the relevant agreement.


Illustration of accounting for royalties

Two companies, A and B, entered into a royalty agreement whereby Company B agreed to pay Company A a patent royalty of five percent of its sales on a product called Gamma.


During February, Company B notified Company A that its sales of Gamma totaled 22,000€. Company A will recognize 1,100€ (22,000€ x .05) of royalty revenue earned for the month of February. Company A will make the following accounting entry to record royalty revenue:


Debit Royalty revenue receivable 1,100

Credit Royalty revenue 1,100


Company A will make the following accounting entry to record receipt of the royalty from Company B:


Debit Cash 1,100

Credit Royalty revenue receivable 1,100


Gains and Losses

55. Gains or losses resulting from the disposal of assets or other transactions that meet the definition of a gain or loss are generally recognized as soon as they are realized or become realizable. Thus, gains and losses from disposal of operational assets and sale of investments are recognized at the time the specific entry is made to record the completed transactions. For example, an entry to record the disposal of a fixed asset for cash would reflect a debit to cash, a credit to the fixed asset account for its recorded cost, and a debit to loss (or credit to gain) on disposal.


56. Estimated losses, but not gains, are recognized prior to their ultimate realization. For example, unrealized losses on write-downs of short-term investments to market value below cost are recognized if they both likely and can reasonably be estimated. Pending litigation is another example of estimated losses that must be recognized if certain criteria are met before the final outcome is known. The Explanatory Notes to KAS 14, Financial Instruments, discuss and illustrate accounting for the write-down of investment balances. The Explanatory Notes to KAS 17, Provisions, Contingent Liabilities and Contingent Assets, discuss and illustrate accounting for contingencies such as possible litigation losses.


57. In contrast, gains are rarely if ever recognized prior to the completion of a transaction that establishes the existence and amount of the gain. Accounting for gains and losses reflects a conservative approach. This often causes losses to be recognized prior to their actual incurrence, but prevents the recognition of gains prior to a completed transaction or event. In some cases, potential gains may be disclosed in notes to the financial statements, provided the notes are written carefully to avoid misleading implications as to the likelihood of realization. The Explanatory Notes to KAS 17, Provisions, Contingent Liabilities and Contingent Assets discuss accounting for potential gain contingencies.



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(201213) VOLUME 27 INLAND REVENUE BOARD OF REVIEW DECISIONS
(201314) VOLUME 28 INLAND REVENUE BOARD OF REVIEW DECISIONS
(201617) VOLUME 31 INLAND REVENUE BOARD OF REVIEW DECISIONS


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