Q1. A logistics company enters into a one-year 'take or pay' contract with a customer, under which the customer pays CU120,000 upfront for the right to use up to 1,000 units of warehouse storage capacity over the year, at CU120 per unit, whether or not the customer actually uses the full 1,000 units. By the year end, the customer has only used 850 units of capacity; the logistics company assesses that the customer is very unlikely to ever claim or use the remaining 150 units, since the contract has now expired. How should the logistics company recognise income from this contract by the year end? Incorrect

A) Income should be recognised progressively as the customer actually uses the storage capacity (CU102,000 for the 850 units used, recognised as the storage service is delivered during the year); for the unused 150 units, since the contract has now expired and the logistics company assesses it is very unlikely the customer will ever come back to claim or use them, the logistics company should recognise the remaining CU18,000 of 'breakage' as income at the point it becomes clear the customer's right to that unused capacity will not be exercised -- rather than recognising the full CU120,000 immediately at the point of the upfront payment (which would recognise income before the storage service has actually been provided), or continuing to defer the CU18,000 indefinitely as a liability once it is clear the corresponding obligation will never actually need to be fulfilled
B) The unused CU18,000 should be returned to the customer as a mandatory refund, regardless of what the specific 'take or pay' contract terms actually state about refunds
C) Only CU102,000 (850 units x CU120) should ever be recognised as income, with the remaining CU18,000 (150 units x CU120) permanently remaining as a deferred income liability indefinitely, since the customer technically still holds the contractual right to those units
D) The full CU120,000 should be recognised as income immediately upon receipt of the upfront payment, since the customer paid for the right to use the full 1,000 units regardless of actual usage

Your answer: —  |  Correct answer: A

In a 'take or pay' arrangement, the customer pays upfront for the right to use a specified amount of capacity or service, whether or not they ultimately use all of it. Income is recognised progressively as the logistics company actually satisfies its obligation by providing the storage service the customer draws upon -- here, CU102,000 for the 850 units genuinely used during the year, recognised as that capacity was actually provided and consumed. For capacity paid for but never used (commonly referred to as 'breakage'), the remaining amount should continue to be deferred as a liability for as long as there remains a realistic possibility the customer could still exercise their right to it; however, once the contract has expired and it becomes clear that the customer is very unlikely to ever come back to claim or use the remaining capacity, the underlying reason for continuing to defer that amount as a liability (an ongoing obligation to the customer) no longer exists, and the remaining CU18,000 should then be recognised as income at that point, reflecting that the logistics company has, in substance, been released from any remaining obligation to the customer for capacity that will now never be called upon. Recognising the full amount immediately at the point of upfront payment would inappropriately recognise income before the underlying service had actually been provided or the breakage genuinely confirmed, while continuing to defer the breakage amount indefinitely, even once it is clear it will never need to be fulfilled, would fail to recognise income the entity has, in substance, genuinely earned.

Deferred income - take-or-pay contracts and breakage recognition

Q2. An entity has been sued and expects to pay damages of CU 800,000. Its insurer has confirmed in writing that it will reimburse CU 500,000 and the entity regards this as virtually certain. How is the claim reported? Incorrect

A) A provision of CU 800,000 and a reimbursement asset of CU 500,000, with the whole CU 800,000 charged to profit or loss and the CU 500,000 as other income
B) A provision of CU 500,000 only, because the entity recognises the part of the loss that it is certain to be paid by the insurer
C) A provision of CU 800,000 and a separate reimbursement asset of CU 500,000, with a net charge of CU 300,000 in profit or loss after the recovery
D) A provision of CU 300,000 only, because the insurance recovery is deducted in measuring the provision on the face of the statement of financial position

Your answer: —  |  Correct answer: C

IAS 37.53 permits recognition of the reimbursement only when it is virtually certain, and it is treated as a separate asset, not netted against the provision. The expense in profit or loss may be presented net of the reimbursement (IAS 37.54), so the net charge is 800,000 - 500,000 = CU 300,000. Netting the provision on the statement of financial position, or recognising the reimbursement as an income, is not permitted.

IAS 37.53-54

Q3. At the end of Year 1, a business accrues $4,500 for electricity consumed but not yet invoiced, recognising an accrued expense (current liability) of $4,500 and a corresponding charge to the Year 1 statement of profit or loss. In Year 2, the actual invoice arrives for $4,700, covering the same consumption period. Explain how this accrual should be dealt with at the start of Year 2, and how the $4,700 invoice is then accounted for. Incorrect

A) The Year 1 accrual of $4,500 is simply left on the statement of financial position indefinitely, and the full $4,700 invoice is charged again as a fresh Year 2 expense, effectively double-counting $4,500 of the cost
B) The $4,700 invoice is treated as relating entirely to Year 2, with no adjustment made for the Year 1 accrual, resulting in Year 1's profit being permanently understated by $4,500 with no correction
C) The opening accrual of $4,500 is reversed at the start of Year 2 (debiting the accrual liability, crediting the expense account, removing both the liability and the corresponding credit from Year 2's accounts); the actual invoice for $4,700 is then recorded in full as a Year 2 expense (debit electricity expense, credit payables) when it is received. The net effect on Year 2's profit or loss is a charge of $200 (the $4,700 actual cost less the $4,500 reversed accrual), correctly reflecting that only $200 of additional cost relates to Year 2 consumption beyond what was already accrued and expensed in Year 1
D) The difference between the accrual and the actual invoice ($200) is recognised as a prior period error requiring restatement of Year 1's financial statements

Your answer: —  |  Correct answer: C

An accrual recognised at a period end is a best estimate of an expense incurred but not yet invoiced; the standard mechanism for accounting for such accruals is to reverse the opening accrual at the start of the following period (removing the liability and the associated prior-period expense recognition) and then record the actual invoice, when received, in full against the current period. This ensures that: (a) Year 1's profit or loss correctly reflects the $4,500 best estimate of electricity cost relating to Year 1's consumption; and (b) Year 2's profit or loss, after reversing the $4,500 accrual and then expensing the full $4,700 invoice, shows a net charge of only $200 -- the additional actual cost over and above what had already been estimated and charged in Year 1. Without the reversal, the business would effectively record $4,500 of Year 1's cost a second time in Year 2, overstating Year 2's expenses and understating Year 2's profit. This reversal mechanism is fundamental to how accruals correctly allocate expenses to the period to which they relate, without needing to restate the prior period (since the original $4,500 was a reasonable estimate at the time, not an error).

Accruals concept - reversal of period-end accruals in the subsequent period

Q4. On 1 January Year 1 an entity issues CU 2,000,000 of three-year convertible bonds at par. Interest of 5% is paid each 31 December and the holder may convert into shares or be repaid at par on 31 December Year 3. Similar non-convertible bonds carry 9%. How is the bond split on issue, and what is the Year 1 finance cost? Incorrect

A) Liability CU 1,797,496 and equity CU 202,504 from discounting at 9%; the Year 1 finance cost is CU 161,775 on the opening liability
B) Liability CU 2,000,000 and no equity component, as the bonds were issued at par; the Year 1 finance cost is CU 100,000, being the coupon
C) Liability CU 1,544,367, the present value of the principal alone, and equity CU 455,633; the Year 1 finance cost is CU 138,993 at 9%
D) Liability CU 1,797,496 and equity CU 202,504 from discounting at 9%; the Year 1 finance cost is CU 100,000, being the cash coupon paid

Your answer: —  |  Correct answer: A

A compound instrument is split at issue into a liability, measured at the fair value of a similar liability with no conversion feature, and an equity component equal to the residual (IAS 32.28-32). The liability is 100,000 x 2.5313 + 2,000,000 / 1.09^3 = CU 253,129 + CU 1,544,367 = CU 1,797,496, so equity is 2,000,000 - 1,797,496 = CU 202,504. The finance cost is the effective interest of 9% on the opening liability, CU 161,775, and the CU 61,775 above the cash coupon increases the liability to CU 1,859,271. Charging only the 5% coupon ignores that the liability must accrete to CU 2,000,000 by redemption, and leaving out the equity component overstates debt.

IAS 32.28-32

Q5. Oakleigh Engineering Ltd receives an invoice for $47,000 from a supplier just before the year end, but disputes the amount, believing the correct charge under the contract terms is $38,000. The dispute remains unresolved at the year end, and management's best estimate, supported by contemporaneous contract documentation, is that $38,000 will ultimately be agreed. How should Oakleigh recognise the year-end liability? Incorrect

A) Recognise no liability at all until the dispute is formally resolved, disclosing only a contingent liability
B) Accrue $42,500, the simple average of the invoiced amount and management's estimate, to reflect the uncertainty
C) Accrue $38,000, being management's best estimate of the amount ultimately expected to be payable, pending resolution of the dispute
D) Accrue the full invoiced amount of $47,000, since this is the amount formally billed by the supplier

Your answer: B  |  Correct answer: C

A liability for goods or services already received is recognised at the best estimate of the amount required to settle the obligation, which for a disputed invoice is not automatically the invoiced amount, but management's best estimate of the amount ultimately expected to be payable, provided that estimate is reasonably supported (here, by contemporaneous contract documentation). This differs from an ordinary uncontested accrual, where the invoiced or contractually clear amount is typically the best estimate. Option D mechanically defers to the supplier's invoiced figure despite documented evidence supporting a lower amount. Option B applies an arbitrary averaging approach not grounded in the best estimate of the actual expected outcome. Option A understates the position: because it is probable that some liability exists and it can be reliably estimated, it must be recognised as an accrual rather than merely disclosed as a contingent liability.

IAS 37 Provisions, Contingent Liabilities and Contingent Assets, paragraphs 36-37 (best estimate principle applied to a liability of uncertain amount)

Q6. On 1 November a company issues CU 2,000,000 of 6% bonds at a discount, with the coupon payable annually each 1 November and an effective interest rate of 7.5%. The bonds' amortised cost at 1 November is CU 1,920,000. At the 31 December year end, what is the accrued coupon interest liability, and how is the remaining finance cost treated? Incorrect

A) Accrued interest of CU 20,000 is shown as a liability and is also the total finance cost, because discount amortisation is recognised only when the bonds are redeemed at maturity
B) Accrued interest of CU 24,000 is shown as a liability and the bonds remain at CU 1,920,000, because the whole effective interest charge is payable to the bondholders at the next coupon date
C) Accrued interest of CU 20,000 is recognised and the CU 4,000 difference is recorded as a deferred charge within current assets, to be released when the bonds are redeemed at maturity
D) A coupon liability of CU 20,000 (2/12 of CU 120,000) is accrued; total finance cost is CU 24,000 (CU 1,920,000 x 7.5% x 2/12), and the CU 4,000 difference increases the bonds' carrying amount

Your answer: B  |  Correct answer: D

A financial liability at amortised cost bears finance cost at the effective interest rate: CU 1,920,000 x 7.5% x 2/12 = CU 24,000. The cash coupon that has accrued but is unpaid is a liability: CU 2,000,000 x 6% x 2/12 = CU 20,000. The difference (CU 4,000) is the unwinding of the discount and is added to the carrying amount of the bonds. Accruing the full charge as a payable overstates the amount owed to bondholders, deferring discount amortisation to redemption misstates finance cost, and a deferred charge asset is not permitted.

IFRS 9 - financial liability at amortised cost, accrued coupon interest and discount unwinding

Q7. A UK company makes an advance payment in US dollars to an overseas supplier for services to be delivered in four months, and separately recognises an accrual in US dollars for services already received from a different overseas supplier but not yet invoiced, still outstanding at the year end. At the reporting date, how should each balance be treated for foreign currency translation purposes? Incorrect

A) Both balances are monetary items and are both retranslated at the closing rate at the reporting date, since any balance denominated in a foreign currency is automatically classified as monetary under IAS 21
B) The prepayment is a non-monetary asset and is NOT retranslated at the reporting date; it remains at the historical rate ruling when the payment was originally made. The accrual is a monetary liability and, because it remains outstanding at the reporting date, it IS retranslated at the closing spot rate, with any exchange difference recognised in profit or loss
C) The prepayment is retranslated at the closing rate because it represents a future cash inflow of services, while the accrual is not retranslated because its amount was fixed and reliably estimated at initial recognition
D) Both balances are non-monetary items and neither is retranslated at the reporting date, since both relate to services rather than to cash or a contractual right to receive a fixed amount of cash

Your answer: C  |  Correct answer: B

IAS 21 distinguishes monetary items (a right to receive, or an obligation to deliver, a fixed or determinable number of units of currency) from non-monetary items. A prepayment for future goods or services is non-monetary, since it represents a right to receive goods or services rather than cash, so it is not retranslated at subsequent reporting dates; it remains at the historical exchange rate applicable when the prepayment was made (subject to any impairment testing). An accrued liability for services already received is a monetary item, an obligation to pay a determinable amount of foreign currency cash, and because it remains outstanding at the year end, it is retranslated at the closing rate, with the resulting exchange difference recognised in profit or loss.

IAS 21 The Effects of Changes in Foreign Exchange Rates, paragraphs 8 and 23

Q8. A supplier's contract with a large customer contains a most-favoured-customer clause: if the supplier sells the same goods to any OTHER customer at a lower price at any point during the contract year, it must retroactively rebate the large customer the difference on all of that customer's own purchases during the same year. By the year end, the supplier has become aware, through its own internal sales records, that it did in fact sell the same goods to a different customer at a lower price earlier in the year, making it probable that a rebate is now owed, in an amount that can be reliably estimated from those sales records. From the BUYER's own perspective (the large customer entitled to the rebate), how should this be recognised? Incorrect

A) The buyer treats the potential rebate as a contingent asset disclosed only, regardless of how reliably it can be estimated
B) The buyer recognises nothing until the supplier actually issues a formal credit note confirming the rebate
C) The buyer recognises the estimated rebate as other income unrelated to its own cost of purchases
D) The buyer accrues a rebate receivable (recognised as a reduction of its own cost of purchases for the year) for the best estimate of the amount now probable and reliably estimable under the most-favoured-customer clause, based on its own analysis and any information available to it about the supplier's other pricing, since a present contractual right to the rebate already exists once the triggering lower-price sale to another customer has occurred and can be reliably evidenced

Your answer: —  |  Correct answer: D

A most-favoured-customer (price-protection) clause gives the buyer a present contractual right to a rebate once the supplier is confirmed to have sold the same goods to another customer at a lower price during the relevant period, the specific triggering event under the clause. Where, by the year end, it is probable that such a triggering sale has occurred and the resulting rebate amount can be reliably estimated, the buyer accrues a receivable for that best estimate, recognised as a reduction of its own cost of purchases for the year (since it reduces the net price effectively paid for the goods), rather than waiting for the supplier to formally confirm and issue a credit note, or treating the right as merely a disclosed contingent asset despite the reliable estimate already available.

Accruals - buyer's rebate receivable under a most-favoured-customer clause, reduction of cost of purchases

Q9. A business holds a licence to manufacture and sell a branded product, under which it owes the licensor a royalty of 4% of net sales revenue for each unit sold, payable quarterly based on statements the licensor issues after reviewing the business's own sales reports. At the year end, the business's own internal sales records show CU850,000 of qualifying net sales revenue have been generated since the last royalty statement was issued by the licensor, but the licensor's own formal royalty statement and invoice for this period has not yet been received or issued. Should an accrual be recognised for royalties payable at the year end, based on the business's own internal sales records? Incorrect

A) No, an accrual cannot be recognised until the licensor has issued their own formal royalty statement and invoice, since only the licensor's own figures can be relied upon to determine the royalty amount owed
B) An accrual should be recognised, but calculated at 2% rather than 4%, applying a standard conservatism discount to any accrual not yet confirmed by external, third-party documentation
C) The royalty obligation should be treated as a contingent liability disclosed in the notes only, since the exact amount cannot be confirmed until the licensor's own statement is received
D) Yes, an accrual of CU34,000 (CU850,000 x 4%) should be recognised, based on the business's own internal sales records, which provide a reliable basis for estimating the royalty obligation that has already arisen from sales genuinely made during the period; the fact that the licensor has not yet issued their own formal statement or invoice does not mean no liability yet exists -- the obligation to pay royalties arises as qualifying sales are made, not upon receipt of the licensor's invoice, and the business's own internal records, being the same records the royalty calculation is ultimately based on, provide a sufficiently reliable basis for the accrual, exactly as an accrual for any other unbilled amount is estimated from the best available information at the reporting date

Your answer: —  |  Correct answer: D

The royalty obligation to the licensor arises as a direct consequence of the business actually making qualifying sales during the period -- it is a genuine present obligation arising from past events (the sales already made) that exists regardless of whether the licensor has yet issued a formal statement or invoice confirming the amount. Since the business's own internal sales records are the very records upon which the royalty calculation is ultimately based (the licensor's own statement, once issued, would simply apply the same 4% rate to the same underlying sales figures, likely with only minor differences arising from timing or reconciliation), these internal records provide a sufficiently reliable basis for estimating and accruing the royalty liability at the year end, consistent with the general principle that an accrual is recognised for a probable, reliably estimable obligation for goods or services already received or, in this case, revenue already generated giving rise to an obligation, even where the counterparty's own formal invoice or statement has not yet been received. Waiting for the licensor's own formal statement before recognising any liability would understate the business's genuine obligations at the year end and would be inconsistent with the accruals concept, which requires expenses (and related liabilities) to be recognised in the period to which they relate, based on the best available reliable estimate, not merely when formal third-party documentation happens to arrive.

Accruals - royalty payable accrued from internal sales records ahead of the counterparty's formal invoice

Q10. A company has not yet received an invoice from its external auditor for the current year's audit at the time the financial statements are prepared. Based on the prior year's audit fee of $18,000 and an agreed 4% fee increase communicated by the audit firm, management accrues $18,720. Is this an appropriate accrual estimation approach? Incorrect

A) Yes, but only if the exact fee increase percentage has been formally invoiced before the accrual is recognised
B) No, the accrual must instead be based on the audit firm's total annual revenue across all clients
C) No, an accrual cannot be recognised for a service (the audit) that has not yet been fully completed at the year end
D) Yes, this is an appropriate accrual estimate: it is based on the most recent reliable actual cost (prior year fee) adjusted for a specifically communicated and known fee change (the 4% increase), representing the best available estimate of the liability for audit services relating to the current year

Your answer: —  |  Correct answer: D

Audit fees relating to the current year's audit are accrued even though the invoice has not been received, since the obligation for the service relates to the period under audit. Using the most recent actual comparable cost, adjusted for a specifically known and communicated change (the 4% increase), is a reasonable and common technique for producing a reliable estimate of the accrual, consistent with the matching concept.

Conceptual Framework - accruals/matching concept and estimation of liabilities

Q11. A broadcaster prepaid a substantial fee to acquire exclusive broadcast rights to a foreign drama series for a three-year term, capitalised as a prepaid intangible asset amortised over the rights period. Midway through year two, the broadcast regulator imposes an outright content ban on that category of foreign programming, with immediate effect and no prospect of the ban being lifted before the rights term would otherwise expire. How should the remaining carrying amount of the broadcast rights prepayment be treated? Incorrect

A) Written off immediately and in full to profit or loss in the period the ban takes effect, since the regulatory ban means the entity can no longer derive any future economic benefit from the remaining unamortised rights - the asset no longer meets the definition of an asset (no longer probable that future economic benefits will flow to the entity) and is derecognised as an impairment/write-off
B) Reclassified as a contingent asset and disclosed in the notes only, pending a possible future reversal of the ban
C) Amortisation is simply accelerated over the remaining months of year two only, retaining a residual carrying amount into year three
D) Continue amortising the remaining carrying amount over the original three-year term as originally planned, since the rights were legitimately acquired

Your answer: —  |  Correct answer: A

An asset is recognised only to the extent future economic benefits are expected to flow to the entity; where a regulatory ban eliminates, with immediate effect and no reasonable prospect of reversal before the rights would otherwise have expired, the entity's ability to derive ANY further economic benefit from the remaining broadcast rights, the remaining carrying amount no longer satisfies the definition of an asset and must be written off immediately and in full to profit or loss in the period the ban takes effect, rather than being amortised over a period during which the entity can no longer actually broadcast the content at all.

IAS 38/Conceptual Framework - broadcast rights prepayment written off on regulatory ban eliminating future benefit

Q12. An entity's loss-making division is expected to lose CU 250,000 next year. The entity has not decided to close it, nor announced anything about it. At the year end the directors propose a provision for the expected loss. How should the entity respond? Incorrect

A) Recognise a provision of CU 250,000 discounted to present value, because the expected loss will arise over the coming year
B) Recognise a contingent liability of CU 250,000 in the notes, because it is possible that the division will lose money in future
C) Recognise a provision of CU 250,000, because the loss is expected to arise and can be estimated reliably
D) Recognise no provision, because future operating losses are not a present obligation, but test the assets for impairment

Your answer: —  |  Correct answer: D

A provision requires a present obligation as a result of a past event. Future operating losses involve no obligation, so IAS 37.63 prohibits a provision. The expectation of losses is, however, an indicator that the division's assets may be impaired and should be tested under IAS 36. A contingent liability is a possible obligation arising from a past event, which the expected loss is not, so it would not be disclosed on that basis either.

IAS 37.14, 37.63-65, IAS 36.12

Q13. After the reporting date but before the accrued expense for a particular supplier invoice is finalised, the entity discovers that the invoice, and hence the amount it had accrued at the reporting date, contained a pricing error understating the true liability, based on a corrected invoice the supplier issues showing the true contractual rate that was always applicable. How should this correction to the accrual be characterised? Incorrect

A) As an adjusting event under IAS 10, since the corrected invoice, received before the financial statements are authorised for issue, provides better evidence of the amount of the liability that existed at the reporting date under the terms of the contract that were always in place, allowing the entity to correct its estimate of the year-end accrual within the current period's financial statements rather than needing to treat it as a prior period error
B) As a prior period error under IAS 8, requiring retrospective restatement of the prior period's financial statements, since the original invoice was factually incorrect
C) The correction is deferred entirely into next year's accrual, with no adjustment made to the current period at all
D) As a change in accounting policy, requiring disclosure of the nature of and reason for the change

Your answer: —  |  Correct answer: A

Where information received after the reporting date, but before the financial statements are authorised for issue, provides additional evidence of conditions that existed at the reporting date, and allows an accrual estimate to be refined based on the terms of a contract that were always applicable, this is treated as an adjusting event under IAS 10 that corrects the estimate within the current period, rather than as a prior period error under IAS 8, since the entity is not correcting a mistake in applying available information but rather updating an estimate using better evidence that has since come to light about facts that already existed.

IAS 10 / IAS 8 - distinguishing an adjusting event estimate refinement from a prior period error

Q14. A business pays $18,000 on 1 April for an 18-month insurance policy covering the period from 1 April to 30 September of the following-but-one year. The business's financial year end is 31 December. Explain how this single prepayment should be apportioned across the business's reporting periods, given that it spans THREE separate annual reporting periods rather than just two. Incorrect

A) The prepayment is recognised as a non-current asset for its entire 18-month duration, since any prepayment exceeding 12 months must always be classified as non-current in its entirety
B) The $18,000 is apportioned equally across exactly three calendar years regardless of the actual number of months covered by the policy in each year
C) The $18,000 covers 18 months (from 1 April Year 1 to 30 September Year 2), so the monthly cost is $18,000 / 18 = $1,000. This must be apportioned across THREE separate reporting periods: 9 months' cost (1 April to 31 December, Year 1) = $9,000 expensed in Year 1, with the remaining $9,000 (representing the unexpired 9 months from 1 January to 30 September, Year 2) carried forward as a prepayment (current asset) at the end of Year 1; in Year 2, the $9,000 prepayment brought forward, covering 1 January to 30 September, is then expensed in full during that year (since none of it extends into Year 3) -- meaning a policy purchased in one year can still result in a prepayment being carried forward and then fully consumed within the following year, without requiring any further apportionment into a third year in this specific case, since the policy itself ends partway through Year 2
D) The full $18,000 is expensed entirely in the year of payment, since prepayments spanning more than one future period cannot be apportioned under the accruals concept

Your answer: —  |  Correct answer: C

This scenario illustrates that a single prepaid expense can require careful time-based apportionment even when, as here, it does not literally need to be split into three portions across three separate expense recognitions -- what matters is correctly identifying which reporting period(s) the unexpired benefit relates to at each year end. The $18,000 premium relates to 18 months of cover at a rate of $1,000 per month. Of the total period (1 April Year 1 to 30 September Year 2), 9 months (1 April to 31 December, Year 1) fall within the year of payment, giving a $9,000 expense for Year 1, with the remaining $9,000 (relating to the unexpired 9 months from 1 January to 30 September, Year 2) recognised as a prepayment (current asset, since it will be consumed within 12 months of the Year 1 reporting date) at 31 December, Year 1. When Year 2 arrives, that brought-forward $9,000 prepayment is then recognised in full as Year 2's insurance expense, since the policy itself ends on 30 September, Year 2, well before Year 2's own year end -- no portion of the original prepayment survives into Year 3. This demonstrates that correctly tracking a multi-period prepayment requires re-assessing, at each year end, exactly how much of the originally prepaid amount remains unexpired and relates to future periods, rather than mechanically assuming an even three-way split merely because three calendar years are technically touched by the policy's date range.

Accruals and prepayments - multi-period apportionment of a prepaid expense

Q15. A company is being sued by a former supplier for breach of contract. Two separate cost items relate to this dispute at the year end: CU45,000 of the company's own external legal fees for professional services already rendered by its lawyers in defending the claim up to the year end (invoices not yet received from the law firm, but the work has genuinely been performed), and a separate, uncertain amount the company might ultimately be required to pay in damages if it loses the case, which its lawyers assess as probable and estimate at CU300,000. How should these two amounts be treated differently at the year end? Incorrect

A) Both amounts should be combined into a single IAS 37 provision of CU345,000, since both relate to the same underlying legal dispute and should therefore be treated identically
B) Neither amount should be recognised at the year end; both should be disclosed only as contingent liabilities pending the final outcome of the litigation
C) The CU45,000 of legal fees for professional services already genuinely rendered by the year end should be recognised as an ACCRUAL (a liability for services received but not yet invoiced, reliably measurable and not genuinely uncertain in the same sense as a contingent outcome, since the legal work has definitely been performed and simply awaits invoicing), while the CU300,000 potential damages payment, being genuinely uncertain in both its ultimate amount and whether it will be payable at all pending the outcome of the litigation, should be recognised as a separate IAS 37 PROVISION, reflecting a probable but genuinely uncertain future obligation -- the two items, while related to the same dispute, sit at different points on the accruals-to-provisions spectrum of certainty and should be recognised and presented as two conceptually distinct liabilities
D) The CU45,000 of legal fees should be treated as a provision (since litigation is inherently uncertain), while the CU300,000 potential damages should be treated as a simple accrual (since the lawyers have already estimated a specific figure)

Your answer: —  |  Correct answer: C

Although both cost items arise from the same underlying legal dispute, they sit at genuinely different points on the spectrum of measurement certainty that distinguishes an accrual from a provision. The CU45,000 of legal fees represents the cost of professional services that have DEFINITELY already been rendered by the company's own lawyers by the year end -- there is no genuine uncertainty about whether this cost has been incurred or, in principle, how it should be measured (it simply awaits a formal invoice); this is a routine accrual for services received but not yet invoiced, exactly analogous to accruing for any other service genuinely received before the year end. The CU300,000 potential damages payment, by contrast, is genuinely uncertain: whether it will be paid at all depends on the ultimate, currently unknown outcome of the litigation, and even the specific amount is an estimate rather than a fixed, contractually agreed figure; this uncertainty is exactly what characterises an IAS 37 provision (a liability of uncertain timing or amount), assessed here as probable and reliably estimated by the company's lawyers, warranting recognition as a provision rather than as a straightforward accrual. Recognising both amounts, but as two conceptually distinct liability types reflecting their different natures, provides a more faithful and informative presentation than combining them into a single amount or misclassifying either one.

Accruals/IAS 37 - own legal fees accrued as a routine service cost, distinguished from a provision for the underlying litigation outcome

Q16. A professional body charges prospective members a small, non-refundable application processing fee, which compensates the body for the administrative cost of reviewing eligibility documents and conducting background checks on each applicant; this processing service is fully performed and complete at the point the application is reviewed, regardless of whether the applicant is ultimately accepted as a member. Separately, once accepted, members pay a much larger annual membership joining fee, which does not correspond to any distinct service delivered at joining but instead reflects the ongoing value of accessing membership benefits over the member's expected relationship with the body. How do these two fees differ in recognition? Incorrect

A) The non-refundable application processing fee is recognised as revenue immediately, at the point the review and background-check service is actually performed and completed, since it represents consideration for a distinct service that is itself fully delivered at that point, regardless of the application's outcome; the membership joining fee, by contrast, does not correspond to any distinct service delivered upfront and is instead recognised as deferred income, released over the average expected duration of the membership relationship
B) The application processing fee is deferred over the applicant's expected future membership, while the joining fee is recognised immediately, the reverse of the correct position
C) Both fees are recognised immediately as revenue on receipt, since both are non-refundable
D) Both fees are recognised identically, deferred and released over the expected duration of the applicant's or member's relationship with the body

Your answer: —  |  Correct answer: A

The key distinction is whether a fee corresponds to a distinct service that is itself fully performed at a point in time, or instead relates to access to ongoing benefits over a longer relationship with no separately identifiable upfront service. The application processing fee compensates the body for a specific, fully completed administrative service (reviewing documents and conducting checks), performed and complete regardless of the ultimate outcome; it is therefore recognised as revenue immediately once that processing service is performed. The membership joining fee, by contrast, does not correspond to any distinct service delivered at the point of joining; it instead relates to the ongoing benefit of membership access over the member's expected relationship with the body and is properly deferred and released over the average expected duration of that membership relationship, rather than recognised immediately.

IFRS 15 - non-refundable processing fee recognised immediately as a distinct completed service, contrasted with a membership joining fee deferred over the expected relationship

Q17. A landlord business receives CU36,000 in advance on 1 November 20X6 from a tenant, representing rental income for the six-month period 1 November 20X6 to 30 April 20X7. The business's reporting period ends on 31 December 20X6. The bookkeeper recognises the full CU36,000 as rental income in the statement of profit or loss for the year ended 31 December 20X6, since 'the cash was definitely received during this accounting period.' Assess this treatment and identify the correct year-end adjustment, if any. Incorrect

A) The bookkeeper's treatment is incorrect, but only because the CU36,000 should be treated as a contingent asset rather than as income or deferred income
B) The bookkeeper's treatment is incorrect, but only because the entire CU36,000 should be deferred to 20X7, with none of it recognised as income in 20X6
C) The bookkeeper's treatment is correct; because the cash was received within the current reporting period, the full amount is properly recognised as income of that period, regardless of the period the rental relates to
D) The bookkeeper's treatment is incorrect; only CU12,000 (2 months, November and December 20X6, of the 6-month CU36,000 total, ie CU36,000 x 2/6) relates to the current period and should be recognised as rental income in the year ended 31 December 20X6 -- the remaining CU24,000 (4 months, January to April 20X7) has been received in advance of the period it relates to and must be recognised as DEFERRED INCOME (a current liability, representing an obligation to provide the use of the property for the remaining period, or to refund the amount) in the statement of financial position at 31 December 20X6

Your answer: —  |  Correct answer: D

The accruals concept applies to income just as it does to expenses: income is recognised in the period to which it relates, not necessarily the period in which cash is received. Here, the CU36,000 covers a six-month rental period, of which only 2 months (November and December 20X6) fall within the year ended 31 December 20X6. Rental income of CU36,000 x 2/6 = CU12,000 should be recognised in the statement of profit or loss for 20X6. The remaining CU24,000, relating to January to April 20X7, has been received in advance and represents deferred (unearned) income -- a current liability at 31 December 20X6, since the business has an obligation to provide the use of the property (or return the money) for that future period. Recognising the full CU36,000 as income in 20X6 simply because the cash was received then overstates the current year's income and fails to recognise the corresponding liability.

Accruals (matching) concept - deferred income; Conceptual Framework

Q18. After the year end but before the financial statements are authorised for issue, the board proposes a final dividend of CU 300,000, which requires approval by shareholders at the annual general meeting held two months later. Management wishes to include the dividend as an accrued liability at the year end. How should it be treated? Incorrect

A) The dividend is accrued at the year end only if the company has sufficient cash to pay it, since the obligation depends on the liquidity of the entity at the reporting date
B) A liability of CU 300,000 is recognised at the year end, because the dividend relates to profits earned in the year and the board's proposal creates a constructive obligation to pay
C) No liability is recognised at the year end, because the dividend was not declared before the reporting date; it is disclosed in the notes and recognised when approved
D) A provision of CU 300,000 is recognised because it is probable that shareholders will approve the proposal and the amount of the dividend can be estimated reliably at that date

Your answer: —  |  Correct answer: C

Under IAS 10, dividends declared to holders of equity instruments after the reporting period are not recognised as a liability at the end of the reporting period, because no obligation exists at that date. The proposed dividend is a non-adjusting event, disclosed in the notes. A board proposal subject to shareholder approval creates no present obligation, and a probable approval does not make it a provision. Liquidity is irrelevant to whether an obligation existed.

IAS 10 - dividends declared after the reporting period are not a liability at the reporting date

Q19. A company incorporated to operate on Islamic finance principles calculates a Zakat liability at year end, payable on its net assets/wealth in accordance with Islamic principles, and distinct from its income tax liability computed under the ordinary tax code. How should this Zakat obligation be treated in the financial statements? Incorrect

A) Not recognised as a liability at all, since Zakat is a religious rather than a legal obligation
B) Recognised as a separate accrued statutory liability (and corresponding expense/appropriation) distinct from income tax, since Zakat is calculated on a different base (net assets/wealth under Islamic principles) under a different obligation entirely from income tax, so the two are not the same liability and should not be presented as one
C) Treated as a voluntary charitable donation and recognised only when actually paid, on a cash basis
D) Combined with the income tax charge as a single 'taxation' line, since both are statutory levies on the entity

Your answer: —  |  Correct answer: B

Where an entity computes a Zakat obligation as a genuine, calculable statutory or constitutional obligation distinct from income tax (a different base, a different computation, often a different governing framework), a present obligation exists at the reporting date for the accrued but unpaid amount, and it is recognised as a liability (and corresponding expense or appropriation of profit, depending on the entity's own accounting policy and applicable framework) separately identified from - not merged into - the ordinary income tax charge, since the two obligations are not the same liability and conflating them would obscure the nature of each.

IAS 37/IAS 1 - Zakat recognised as a separate accrued liability distinct from income tax

Q20. At the prior year end, an entity accrued CU8,000 for an electricity expense based on a reasonable estimate, using historical usage patterns and the most recent tariff rates available at the time. When the actual invoice is subsequently received early in the following period, it shows the true cost was CU8,600, a CU600 difference from the original estimate. How is this CU600 difference accounted for? Incorrect

A) The CU600 difference between the original estimate and the actual invoice amount is treated as a change in accounting estimate, adjusted for through the following period's electricity expense (in which the actual invoice is now recorded, with the difference between the actual cost and the amount already accrued simply forming part of that period's expense) -- since the original CU8,000 estimate was reasonably made based on the information reasonably available at the time it was prepared, the subsequent difference reflects new information coming to light afterwards, not an error in the original estimate, and changes in accounting estimates are always accounted for prospectively rather than by restating prior periods
B) The prior year's financial statements are reopened and restated to reflect the correct CU8,600 accrual, treating the CU600 difference as a prior period error requiring retrospective correction
C) The CU600 difference is recognised directly in equity, bypassing both the prior year's and the current year's profit or loss entirely
D) The CU600 difference is permanently ignored and never recognised as an expense of either period, since accrual estimates are treated as final once made, regardless of what the actual invoice subsequently shows

Your answer: —  |  Correct answer: A

An accrual is, by its nature, an estimate of an expense relating to goods or services already received but not yet invoiced, made using the best information reasonably available at the time the estimate is prepared. Where a subsequent actual invoice differs from that estimate, provided the original estimate was reasonable based on the information available when it was made, the difference is not treated as an error requiring retrospective correction of the prior period's financial statements -- it is treated as a change in accounting estimate, reflecting new information that has since come to light, and is accounted for prospectively by including the difference in the expense of the period in which the actual invoice is received and the new information becomes available, rather than by reopening and restating the earlier period.

Change in accounting estimate - difference between an accrual and the subsequent actual invoice adjusted prospectively

Q21. A manufacturer sells a separately priced, optional extended warranty alongside its product, which the customer may purchase for an additional fee covering repairs for years two and three after purchase, beyond the manufacturer's standard one-year warranty already included in the product price. How should the fee for this separately priced extended warranty be recognised, compared with the standard included warranty? Incorrect

A) The standard included warranty (assurance that the product will function as expected for its first year) is accounted for as an IAS 37 provision estimated at the point of sale, while the separately priced extended warranty, since the customer has the option to purchase it separately and it provides a distinct service beyond basic assurance, is treated as a separate performance obligation under IFRS 15, with the fee recognised as deferred income released to revenue over its own two-year coverage period (years two and three)
B) Both the standard included warranty and the separately priced extended warranty are accounted for identically, as an IAS 37 provision estimated at the point of sale
C) The separately priced extended warranty fee is recognised as revenue in full immediately upon sale, since the fee has already been collected
D) The separately priced extended warranty fee is added to the standard warranty provision and expensed immediately as part of the original sale transaction

Your answer: —  |  Correct answer: A

A standard warranty that simply provides assurance that a product will function as intended for a limited initial period is not a separate performance obligation under IFRS 15 and continues to be accounted for as an IAS 37 provision estimated at the point of sale. A warranty that is sold separately (optionally, for an additional fee) and provides a service beyond basic assurance - here, extended coverage for years two and three - is, in substance, a distinct service the customer has chosen to purchase, and is treated as its own separate performance obligation: the fee is deferred as a contract liability and recognised as revenue over the period the extended coverage is actually provided.

IFRS 15 Revenue from Contracts with Customers / IAS 37 Provisions - extended warranty as a separate performance obligation versus standard warranty provision

Q22. A company has not yet received its electricity bill for the final quarter of the financial year at the reporting date. Based on the prior year's usage for the equivalent quarter, adjusted for a 6% tariff increase notified by the supplier and a 3% increase in production volume, management estimates the accrual. Which approach best reflects the required accrual estimation technique under the matching concept? Incorrect

A) The accrual is estimated using next year's budgeted figure instead of historical usage data
B) The accrual is estimated by taking the prior year comparable quarter's cost and adjusting it for both the known 6% tariff increase and the 3% increase in production volume (a reasonable driver of consumption), producing a best estimate of the liability incurred for goods/services already consumed
C) The accrual is simply set equal to the prior year's actual quarterly cost with no adjustment
D) No accrual is recognised because the invoice has not yet been received

Your answer: —  |  Correct answer: B

Accruals for unbilled expenses must reflect the best available estimate of the liability for goods or services already consumed. Using a relevant historical base (prior comparable quarter) adjusted for known changes in both price (tariff increase) and the underlying consumption driver (production volume) produces a more reliable estimate than an unadjusted historical figure or an unrelated future budget.

Conceptual Framework - faithful representation and estimation of accruals; matching concept

Q23. Fenwick Retail Ltd sells prepaid gift cards to customers. Cash is received upfront when a card is sold, and the corresponding amount is recognised as a contract liability. Based on extensive historical data, Fenwick reliably estimates that 6% of gift card balances will never be redeemed (breakage). How should Fenwick recognise this expected breakage? Incorrect

A) Recognised in profit or loss in proportion to the pattern of actual customer redemptions of the remaining balance, consistent with the expected breakage rate, rather than deferred indefinitely or recognised all at once
B) Recognised only when the card formally expires under its terms and conditions, regardless of the pattern of actual redemptions before that date
C) Recognised in full as income immediately when each gift card is sold, since the breakage rate is known with reasonable reliability at the point of sale
D) Never recognised as income at all, since the customer retains a legal right to redeem the card indefinitely

Your answer: —  |  Correct answer: A

Under IFRS 15, where an entity expects to be entitled to a breakage amount and has a reliable basis to estimate it, the expected breakage is recognised as revenue in proportion to the pattern of rights exercised by the customer -- that is, spread across actual redemptions of the remaining balance -- rather than recognised entirely upfront or deferred until final expiry. This reflects the reliable estimate of the portion of consideration expected never to be redeemed being released systematically as redemptions occur, mirroring how the redeemed portion itself is recognised. Option C improperly front-loads income that has not yet reliably crystallised in the pattern IFRS 15 requires. Option D ignores that a reliable estimate exists and must be used. Option B ignores the requirement to use actual redemption patterns rather than waiting for formal expiry when a reliable estimate is available earlier.

IFRS 15 Revenue from Contracts with Customers, paragraphs B44-B47

Q24. A business pays $24,000 rent in advance for the year. Bookkeeper A initially records this payment by debiting the RENT EXPENSE account (and crediting cash), while Bookkeeper B, working for a different business with an identical transaction, initially records the same type of payment by debiting a RENT PREPAYMENT (asset) account instead (and crediting cash). At the year end, $6,000 of the $24,000 relates to the following period. What year-end adjusting entry does EACH bookkeeper need to make to arrive at the same correct closing position? Incorrect

A) Only Bookkeeper A's method is acceptable under the accruals concept; Bookkeeper B's initial recording method is not a valid approach under any circumstances
B) Bookkeeper A (who initially debited the full $24,000 to EXPENSE) must make a year-end adjusting entry to DEBIT the prepayment (asset) account and CREDIT the rent expense account for $6,000 -- reclassifying the unexpired portion out of expense and into an asset, leaving a $18,000 expense and a $6,000 prepayment asset. Bookkeeper B (who initially debited the full $24,000 to the PREPAYMENT (asset) account) must instead make the OPPOSITE year-end adjusting entry: DEBIT rent expense and CREDIT the prepayment account for $18,000 -- recognising the portion of the year that has now actually expired as an expense, leaving an $18,000 expense and a $6,000 prepayment asset remaining in the account. Despite starting from opposite initial recording conventions, both adjusting entries arrive at the SAME correct year-end position: $18,000 rent expense and $6,000 prepayment asset
C) Both bookkeepers must reverse their entire initial entry and re-record the transaction as if no payment had been made until the year end, regardless of which initial convention was used
D) Since the initial recording methods differ, the two businesses will necessarily end up reporting different amounts for rent expense and prepayment at the year end, with no way to reconcile them to the same figures

Your answer: —  |  Correct answer: B

There are two equally valid conventions for the INITIAL recording of a payment that will partly relate to a future period: recording the full amount to an expense account (as Bookkeeper A did), or recording the full amount to a prepayment (asset) account (as Bookkeeper B did) -- IAS-level accounting does not mandate one over the other, since either can be reconciled to the correct year-end position through an appropriate adjusting entry. Where the full amount was initially expensed (Bookkeeper A), the year-end adjustment must move the STILL-UNEXPIRED portion OUT of expense and INTO an asset: debit prepayment, credit rent expense, for the $6,000 relating to the following period, leaving $18,000 as the year's expense. Where the full amount was initially recorded as an asset (Bookkeeper B), the year-end adjustment instead needs to recognise the portion that HAS expired during the year as an expense: debit rent expense, credit prepayment, for the $18,000 that relates to the year just ended, leaving a $6,000 prepayment asset for the unexpired portion. Both adjusting entries, despite moving in opposite directions, correctly arrive at the identical final position: $18,000 rent expense in profit or loss and a $6,000 prepayment asset on the statement of financial position -- illustrating that the correct year-end position is a function of the underlying economics of the transaction, not of which initial recording convention happened to be used during the year.

Accruals and prepayments - initial recording conventions and year-end adjusting entries for prepayments

Q25. A franchisor receives an upfront, non-refundable fee of CU60,000 from a new franchisee, covering both (a) the franchisor's initial set-up services, including training the franchisee's staff and setting up the franchised outlet (a distinct service the franchisor estimates would separately be worth CU15,000, and which is fully completed within the first month), and (b) an ongoing right for the franchisee to use the franchisor's brand and operating system over the five-year franchise term (estimated to separately be worth CU45,000 spread over that term). How should the franchisor recognise the CU60,000 upfront fee as income? Incorrect

A) The full CU60,000 should be recognised as income immediately upon receipt, since the fee is non-refundable and has already been received in cash in full
B) The CU60,000 upfront fee should be allocated between the two distinct elements based on their relative estimated values: CU15,000 recognised as income once the initial set-up services are complete (within the first month, since that distinct service has, at that point, been fully performed), and the remaining CU45,000 deferred and released as income over the five-year franchise term as the brand licensing and ongoing access rights are provided, since the upfront fee, in substance, covers two genuinely separate obligations with different patterns of delivery (a short, one-off set-up service completed quickly, and a longer ongoing licensing right delivered over years), and recognising the whole fee under either a single immediate or single long-term pattern would misrepresent when each distinct obligation is actually being satisfied
C) The full CU60,000 should be deferred and released evenly over the five-year franchise term on a straight-line basis, since the entire fee relates to a single, indivisible franchise arrangement that cannot be separated into different elements
D) The CU60,000 should be recognised as income only at the very end of the five-year franchise term, on the basis that the franchisor's full obligations under the arrangement are not completely discharged until the franchise term expires

Your answer: —  |  Correct answer: B

Where a single upfront payment covers what are, in substance, two or more genuinely distinct performance obligations with different patterns of delivery, the payment should be allocated between those distinct elements (generally based on their relative standalone values) and each element recognised as income according to its own appropriate pattern, rather than treating the whole fee as a single, indivisible amount recognised under one uniform method. Here, the CU60,000 upfront franchise fee genuinely covers two distinct things: a short, one-off initial set-up service (training and outlet setup, estimated at CU15,000, fully completed within the first month) and an ongoing right to use the franchisor's brand and operating system over the full five-year term (estimated at CU45,000). Recognising the full CU60,000 immediately would overstate income in the first month relative to the genuine ongoing licensing obligation the franchisor still has to fulfil over the coming years, while deferring the entire CU60,000 evenly over five years would understate income in the early period relative to the distinct set-up service that has, in fact, already been fully and separately delivered. Allocating the fee between the two elements, and recognising each according to its own appropriate pattern (the set-up portion once that service is complete, the licensing portion progressively over the franchise term), most faithfully reflects the substance of the arrangement and when the franchisor is actually satisfying each of its distinct obligations to the franchisee.

Deferred income - allocation of an upfront fee between distinct performance obligations with different delivery patterns

Q26. An entity and two other companies are sued for CU 900,000 of damages for which all three are jointly and severally liable. It is probable the claim will succeed, and the three have agreed in writing to bear one-third each. The other two are solvent, although one is thinly capitalised so that its default cannot be called remote. What should the entity recognise and disclose? Incorrect

A) A provision of CU 300,000 for its own share, and a contingent liability of CU 600,000 for the part expected to be met by the others
B) A contingent liability of CU 900,000 only, because the amount for which the entity will ultimately bear liability is not certain at the year end
C) A provision of CU 900,000 for the full claim, because each party is liable for the whole amount, with a reimbursement asset of CU 600,000
D) A provision of CU 300,000 for its own share and nothing else, because the other parties' shares are not the entity's own obligations

Your answer: —  |  Correct answer: A

Where an entity is jointly and severally liable, the part of the obligation expected to be met by other parties is a contingent liability, while a provision is recognised for the part for which an outflow from the entity is probable (IAS 37.29). Here the entity expects to bear CU 300,000 and recognises that provision, while the remaining CU 600,000 is disclosed as a contingent liability because the risk of default by a co-obligor is not remote. Providing for the full claim treats the others' shares as the entity's probable outflow and invents a reimbursement asset that is not virtually certain. Ignoring the other CU 600,000 removes a disclosure that users need.

IAS 37.29

Q27. A company pays a non-refundable deposit of 40,000 in advance to a supplier for specialised equipment to be delivered and installed in six months. Four months later, before delivery, the company learns that the supplier has entered insolvency proceedings and it is now highly unlikely that any of the equipment will actually be delivered or that any refund will be recovered. How should the prepayment be treated at this point, and how does this differ from a scenario where the company itself simply decided to cancel the order? Incorrect

A) The prepayment continues to be carried as an asset at its full 40,000 value regardless of the supplier's insolvency, because a non-refundable prepayment is not eligible for impairment testing under any circumstances until the contractual delivery date has actually passed
B) The prepayment is reclassified as inventory in transit, because the company has an unconditional right to received the equipment based on the terms of the original contract
C) The prepayment (previously carried as a current asset) is written off as an expense (impairment of the prepayment) once it becomes evident that recovery is unlikely due to the supplier's insolvency, reflecting a credit/recoverability risk on an asset already held; this differs from a voluntary cancellation by the paying company itself, which is a decision within the company's own control affecting whether the expenditure was ever going to be recovered, but both ultimately result in writing off the prepayment as irrecoverable once non-recovery becomes evident
D) No adjustment is needed until the six-month delivery date actually arrives, since impairment losses on prepayments can only be recognised on or after the originally contracted delivery or performance date

Your answer: —  |  Correct answer: C

A prepayment is an asset representing a right to receive future goods or services (or, in substance, a receivable-like exposure to the counterparty's performance). Once it becomes evident that the supplier will be unable to deliver and that the amount paid is not recoverable, whether due to the supplier's insolvency (a credit/recoverability risk affecting an existing asset) or the company's own decision to terminate, the prepayment is impaired and written off as an expense in the period the loss becomes evident, rather than continuing to be carried at cost or deferred until the original delivery date. The trigger and the underlying cause differ between the two scenarios, but the accounting consequence, writing off the prepayment once recoverability is doubtful, is analogous in both.

Conceptual Framework, asset recognition and impairment principles; general accruals concept

Q28. A concert promoter sells non-refundable tickets in advance for a scheduled show, recognising the proceeds as deferred income. One week before the reporting date, the specific show is POSTPONED (not cancelled) to a new date several months later, for reasons entirely outside the promoter's control; ticket holders retain their tickets, valid for the new date, with no right to a refund. How should the deferred income relating to these tickets be treated at the reporting date? Incorrect

A) The deferred income is released to revenue in full at the reporting date, since the originally scheduled show did not go ahead as planned
B) A refund liability is recognised in full, since the original show did not occur as scheduled
C) The deferred income is reclassified as a provision under IAS 37, since the timing of the promoter's obligation is now uncertain
D) The deferred income continues to be carried as a liability (deferred income/contract liability) at the reporting date, unchanged, since the promoter's performance obligation to deliver the show to ticket holders remains outstanding and has simply been rescheduled, not extinguished; revenue continues to be recognised only once the rescheduled show actually takes place, exactly as it would have been recognised at the originally scheduled date

Your answer: —  |  Correct answer: D

A genuine postponement of an event, as opposed to its cancellation, does not extinguish the promoter's underlying performance obligation to ticket holders; it merely defers the date on which that obligation will be satisfied. Since the tickets remain valid (with no refund right) for the rescheduled date, the deferred income continues to be carried as a liability at the reporting date, unchanged by the postponement itself, and is only released to revenue once the rescheduled show actually takes place and the performance obligation is satisfied, exactly as it would have been at the originally planned date. This differs from a genuine cancellation, where the promoter's obligation to deliver the show is extinguished and a refund liability (or, if genuinely non-refundable and forfeited, income) would instead arise.

IFRS 15 - deferred income for a postponed (not cancelled) event ticket remains a liability until the rescheduled event occurs

Q29. A retailer runs a customer loyalty programme: for every 100 spent, a customer earns points that can be redeemed for a discount on a future purchase. The standalone selling price of the goods sold is 500, and the points granted have a standalone selling value (based on likelihood of redemption) of 20. How should the retailer account for the 500 received from a qualifying sale under IFRS 15? Incorrect

A) The full 500 is recognised as revenue immediately when the goods are sold, with the loyalty points treated as a marketing expense accrued separately with no effect on the amount or timing of revenue recognition
B) The 500 transaction price is allocated between two separate performance obligations based on relative standalone selling prices: approximately 481 (500 x 500/520) is recognised as revenue when the goods are transferred, and approximately 19 (500 x 20/520) is deferred as a contract liability, recognised as revenue only when the points are redeemed (or expire unredeemed)
C) The full 500 is deferred as a contract liability until the points are actually redeemed, because no revenue can be recognised on a sale that includes a customer loyalty incentive of any kind
D) The 20 standalone selling value of the points is recognised as a separate provision under IAS 37 rather than as deferred revenue under IFRS 15, since loyalty points represent a probable future cash outflow rather than a performance obligation

Your answer: —  |  Correct answer: B

Under IFRS 15, a material right such as loyalty points that provides a customer with a discount they would not otherwise get is a separate performance obligation. The total transaction price is allocated between the goods sold and the points granted based on their relative standalone selling prices (500 : 20, i.e. a total of 520). The portion allocated to the goods (500 x 500/520, approximately 481) is recognised as revenue when control of the goods transfers, while the portion allocated to the points (500 x 20/520, approximately 19) is recognised as a contract liability (deferred income) and only recognised as revenue when the points are redeemed by the customer or when they expire unused, not treated as a marketing expense or an IAS 37 provision.

IFRS 15 Revenue from Contracts with Customers, paragraphs 22 and B39-B43 (material rights)

Q30. An entity has trade payables of CU 2,400,000, of which CU 900,000 are in a programme where a bank pays suppliers early and the entity settles the bank on the original 60-day due dates. At the year end the bank has already paid suppliers CU 600,000 of those invoices. Comparable payables outside the programme fall due in 30 to 60 days. What must the entity disclose? Incorrect

A) Only the bank's name and the facility limit, because the CU 900,000 stays within trade payables and no further disclosure is needed
B) The whole CU 900,000 reclassified as borrowings and shown in financing activities, because a bank is now a party to the payables
C) The programme terms, opening and closing carrying amounts and line items, the CU 600,000 already paid by the bank, and due-date ranges
D) Only a narrative on liquidity risk without amounts, because supplier finance does not create a financial liability of the entity at all

Your answer: —  |  Correct answer: C

Entities must disclose information that lets users assess how supplier finance arrangements affect liabilities, cash flows and liquidity risk (IAS 7.44F). This covers the terms and conditions, the carrying amount of the liabilities in the arrangement and the line items, the amount for which suppliers have already been paid by the finance provider, the range of payment due dates against comparable payables, and non-cash changes (IAS 7.44H). The liabilities stay as trade payables unless their nature has changed, so a bank's involvement does not by itself make them borrowings. A bare facility limit or an unquantified liquidity narrative falls short of the required disclosures.

IAS 7.44F-44H

Q31. A company routinely pays a major supplier's invoices 20 days after the contractual due date. The supplier's terms state that a 1.5% per month late payment penalty applies to overdue balances but the supplier has never historically enforced or invoiced this penalty in the ongoing business relationship. Should the company accrue for the late payment penalty? Incorrect

A) The penalty is only relevant for disclosure in the directors' report, never in the financial statements or notes
B) Yes, the full contractual penalty must always be accrued regardless of enforcement history, since it is contractually specified
C) No accrual is required if, based on the supplier's consistent historical practice of not enforcing the penalty, it is not probable that the company will be required to pay it; this is assessed as a contingent liability (and may not even require disclosure if the probability of payment is remote)
D) The penalty must be accrued at 50% of the contractual rate as a compromise measure

Your answer: —  |  Correct answer: C

A liability is only recognised where it is probable that an outflow of economic benefits will be required to settle a present obligation. Where a supplier has a consistent historical practice of not enforcing a contractual penalty clause, this evidence supports a conclusion that settlement is not probable, meaning no provision is accrued; depending on the assessed probability, it may still require contingent liability disclosure or, if remote, no disclosure at all.

IAS 37 Provisions, Contingent Liabilities and Contingent Assets, paragraphs 14, 23, 86

Q32. An entity has a present obligation to restore a site and expects to spend CU 1,000,000 in three years. A suitable pre-tax discount rate is 5%. What provision is recognised now, and what finance cost arises in the first year? Incorrect

A) A provision of CU 863,838 and a finance cost of CU 43,192 in the first year from the unwinding of the discount
B) A provision of CU 863,838 and a finance cost of CU 50,000, being 5% of the CU 1,000,000 expected to be paid in three years
C) A provision of CU 1,000,000 and no finance cost, because the expected expenditure is recognised at its full estimated amount
D) A provision of CU 950,000 and a finance cost of CU 50,000, because the discount is deducted as a flat 5% of the expected expenditure

Your answer: —  |  Correct answer: A

Where the effect of the time value of money is material the provision is the present value of the expected expenditure: 1,000,000 / 1.05^3 = CU 863,838 (IAS 37.45). The discount unwinds each year at the discount rate applied to the opening provision, 863,838 x 5% = CU 43,192, recognised as a borrowing cost (IAS 37.60). Interest on the future payment itself, or a flat deduction, is not the method.

IAS 37.36, 37.45-47, 37.60

Q33. A residential apartment management association collects an annual maintenance charge in advance from unit owners to fund the upkeep of shared facilities. Under the association's own governing rules, any surplus remaining at the year end (charges collected in excess of amounts actually spent on maintenance) must be carried forward and applied against future years' maintenance costs or refunded to unit owners; the association's own management committee has no discretion to retain any surplus as its own profit or apply it to any other purpose. How should the association recognise the unspent surplus of advance maintenance charges at the year end? Incorrect

A) The unspent surplus is recognised as the association's own income for the year, since the charges have already been collected in cash from unit owners
B) The unspent surplus is recognised as a capital contribution directly within the association's own equity or reserves
C) The unspent surplus continues to be carried forward as deferred income (a liability to the unit owners collectively), since the association's own governing rules mean it can never be retained as the association's own profit or applied to any other purpose; only the portion of charges actually consumed on maintenance during the year is recognised as income for the period, with the balance remaining a liability until it is genuinely applied against future maintenance costs or refunded
D) The unspent surplus is recognised as a provision for future maintenance under IAS 37, rather than as deferred income

Your answer: —  |  Correct answer: C

Because the association's own governing rules require any surplus of advance maintenance charges over amounts actually spent to be carried forward against future maintenance costs, or refunded to unit owners, rather than allowing the management committee to retain it as the association's own profit or apply it elsewhere, that surplus does not represent income the association has genuinely earned for itself; it remains a liability owed, in substance, to the unit owners collectively. Only the portion of the advance charges actually consumed on maintenance during the year is recognised as the association's own income for the period; the unspent balance continues to be carried forward as deferred income (a liability) until it is genuinely applied against future maintenance costs or refunded, reflecting the association's own restricted, mutual (not-for-profit) nature rather than an ordinary commercial subscription arrangement.

Deferred income - management association's unspent maintenance charge surplus, restricted rules preclude recognition as own income

Q34. Bandarban Finance Co lends CU8,000,000 to a corporate borrower under a 3-year loan agreement, and, unusually, the full 3 years' worth of interest (CU2,160,000, based on a fixed 9% annual rate) is paid to Bandarban entirely upfront in cash at the point the loan is disbursed, rather than being paid periodically over the loan's term. At the end of the first year (12 months after disbursement), how much of this upfront interest receipt should Bandarban recognise as interest income for that year, and how should the remainder be presented on the statement of financial position? Incorrect

A) The full CU2,160,000 must be recognised as a financial liability (a loan Bandarban owes back to the borrower) rather than as income received in advance, since any cash received by a lender in connection with a loan agreement is always classified as a liability rather than income under any circumstances
B) The full CU2,160,000 should be recognised as interest income immediately in the year the cash is received, since the accruals concept only applies to expenses and unpaid income, not to income that has already been received in cash in advance of when it is earned
C) None of the CU2,160,000 should ever be recognised as income at any point during the 3-year loan term; the entire amount should instead be recognised as a reduction of the CU8,000,000 loan principal receivable, permanently, with no interest income of any kind ever recognised in respect of this loan
D) Because interest income accrues over time as the lender's service (extending credit) is provided over the life of the loan, only the portion of the upfront receipt that relates to the year actually elapsed should be recognised as interest income for that year -- CU2,160,000 / 3 years = CU720,000 for the first year (assuming straight-line accrual is appropriate here, absent more precise effective-interest information) -- with the remaining CU1,440,000 (relating to interest not yet earned for years 2 and 3) carried forward as deferred income, a liability, on Bandarban's statement of financial position, to be released to interest income progressively as the remaining 2 years of the loan term elapse and Bandarban continues to provide the underlying service (extending credit/foregoing use of the funds) that the total interest compensates for

Your answer: —  |  Correct answer: D

The accruals concept applies equally to income received in advance of being earned as it does to expenses incurred before being paid, or income earned before being received -- the timing of the cash flow (here, receiving the full 3 years' interest upfront) is distinct from the timing of when that income is actually earned (which occurs progressively as Bandarban continues to provide the underlying economic service the interest compensates for: extending credit and foregoing the use of the CU8,000,000 principal over the loan's 3-year term). Only the portion of the upfront cash receipt that relates to the period actually elapsed should be recognised as interest income for that period; the remainder, relating to a service not yet performed (interest for years 2 and 3, not yet earned since Bandarban has not yet extended that portion of the credit period), must be carried forward as deferred income (a liability, since it represents an obligation Bandarban has, in effect, already been paid for but has not yet fully earned by continuing to provide the underlying lending service over time) rather than recognised as income immediately. Using a straightforward straight-line allocation absent more precise information (a more technically precise approach might use the effective interest method if the cash flows create a discount/premium dynamic, but the core deferral principle is unaffected), CU2,160,000 / 3 = CU720,000 is recognised as interest income in the first year, with the remaining CU1,440,000 held as deferred income, to be released to income as the remaining 2 years elapse. Option B wrongly treats cash receipt as the trigger for income recognition, contrary to the accruals concept; option C wrongly denies any interest income is ever recognised, incorrectly treating genuine interest income as a reduction of principal; option A wrongly and confusingly reclassifies deferred (unearned) income as a completely different kind of liability (a loan owed back to the borrower), when in fact deferred income for interest not yet earned is a standard, well-understood liability category in its own right, not a restructuring of the original loan itself.

Accruals concept applied to income received in advance; deferred income recognition principles

Q35. A supplier sues an entity, and the entity's lawyers say a payout is probable, estimated at CU 1,800,000. The board fears that publishing its estimate and reasoning would seriously damage its position in the settlement talks. What is the correct accounting and disclosure? Incorrect

A) Recognise the provision and disclose all the detail, as the prejudice exemption covers contingent liabilities only and not provisions
B) Recognise the provision but disclose nothing about the dispute or the reason, as the exemption is absolute once prejudice is shown to exist
C) Omit the provision and all disclosure, because recognising or describing a probable loss would seriously prejudice the entity's position in the case
D) Recognise the CU 1,800,000 provision, omit the detailed disclosures, and state the dispute's general nature and why details are withheld

Your answer: —  |  Correct answer: D

The recognition criteria apply regardless of disclosure risk, so a probable and measurable obligation is provided for in full. In extremely rare cases where disclosing some or all of the required information would seriously prejudice the entity's position in a dispute about the subject matter, it need not give the detailed disclosures, but it must disclose the general nature of the dispute, the fact that information is withheld and the reason (IAS 37.92). The exemption covers provisions as well as contingent liabilities and is narrow, so it never removes the recognised liability or the explanation of why details are omitted.

IAS 37.92

Q36. A company is a defendant in litigation and, pending resolution, a court orders it to deposit the full disputed amount into an escrow account controlled by the court, while the underlying legal dispute over whether the company actually owes the amount continues. How should the entity treat (a) the escrowed cash and (b) the underlying provision for the disputed claim? Incorrect

A) The escrow deposit and the provision are netted against each other and no separate items are presented
B) The escrowed cash is derecognised entirely as if payment had been made, and no separate provision disclosure is needed since the matter is now 'settled' by the deposit
C) The escrowed cash is written off as an expense immediately, matched by no provision at all, since the court order proves the liability is virtually certain
D) The escrowed cash continues to be recognised as the entity's own asset (a restricted cash/receivable, since legal title and the right to a refund if the entity prevails remain with the entity until the court orders release to the claimant), while the underlying provision for the litigation claim is assessed entirely separately, on its own merits (probability of the claim succeeding and a reliable estimate), under ordinary IAS 37 principles, and is not automatically equal to the escrowed amount

Your answer: —  |  Correct answer: D

A court-ordered escrow deposit pending resolution of a dispute does not itself extinguish the entity's asset - the entity typically retains a conditional right to the cash's return if it ultimately prevails, so the escrowed amount continues to be recognised as a restricted asset of the entity (with appropriate disclosure of the restriction) - while the SEPARATE question of whether a provision is required for the underlying disputed liability is assessed independently under ordinary IAS 37 principles (probable outflow and a reliable estimate), since the mere existence of an escrow requirement does not, by itself, resolve whether the underlying claim will ultimately succeed.

IAS 37 - court-ordered escrow as a restricted asset, provision assessed separately

Q37. On 1 January Year 1 an entity grants 1,000 cash-settled share appreciation rights each to 100 managers, vesting after three years of service, with cash payable equal to the share price at exercise. The fair value of one right was CU 10 at grant, CU 12 at the end of Year 1 and CU 15 at the end of Year 2. Year 1 expected 80 managers to stay and Year 2 expects 85. What is the liability at the end of Year 2 and the Year 2 expense? Incorrect

A) Liability CU 800,000 and Year 2 expense CU 480,000, keeping the Year 1 expectation of 80 managers remaining at the end of the vesting period
B) Liability CU 566,667 and Year 2 expense CU 300,000, using the CU 10 grant-date fair value fixed and never remeasured for the cash award
C) Liability CU 1,275,000 and Year 2 expense CU 955,000, as the full fair value is accrued at once because the rights are granted now
D) Liability CU 850,000 and Year 2 expense CU 530,000, using the year-end fair value of CU 15 and two-thirds of the three-year service period

Your answer: —  |  Correct answer: D

A cash-settled share-based payment creates a liability measured at fair value, which is remeasured at each reporting date until settlement, with changes taken to profit or loss, and the expense accrues over the vesting period (IFRS 2.30-33). The Year 1 liability was 80 x 1,000 x 12 x 1/3 = CU 320,000. At the end of Year 2 it is 85 x 1,000 x 15 x 2/3 = CU 850,000, so the Year 2 expense is 850,000 - 320,000 = CU 530,000. Using the CU 10 grant-date value is the equity-settled method, which does not apply because cash will be paid, and keeping the old leaver estimate ignores the revised expectation required each year.

IFRS 2.30-33

Q38. An entity has made a prepayment to an overseas supplier for goods not yet delivered. Before the reporting date, the entity learns that the supplier is experiencing serious financial distress (though not yet formally insolvent) and now estimates that only 70% of the prepaid amount will ultimately be recovered, either through delivery of goods or a cash refund. How should this be reflected in the financial statements? Incorrect

A) No adjustment is made, since the prepayment represents a right to future goods, not a financial asset, and is therefore never subject to any impairment assessment
B) The prepayment is reclassified as a loan receivable and measured under the expected credit loss model applicable to financial assets
C) The entire prepayment must be written off to nil immediately, since any evidence of supplier distress requires full impairment regardless of the estimated recovery percentage
D) The prepayment asset is partially written down (impaired) to reflect the estimated 30% shortfall in recoverable value, recognising a loss for that portion, because a prepayment - although not itself a financial instrument - still represents an asset whose carrying amount must not exceed its recoverable amount, and evidence of the supplier's financial distress indicates the full amount is no longer recoverable

Your answer: —  |  Correct answer: D

A prepayment made to a supplier for goods not yet received is not a financial asset within the scope of IFRS 9's expected credit loss model, since it is a right to receive goods rather than cash or another financial instrument. It remains subject to a general asset recoverability assessment, however, and where evidence indicates that the full amount will not be recovered (whether through delivery of goods of that value or a refund), the prepayment should be written down to its estimated recoverable amount, recognising an impairment loss for the shortfall, rather than being left unadjusted or written off in full absent evidence supporting a total loss.

General asset recoverability principle applied to a prepayment, distinguished from IFRS 9 financial asset impairment

Q39. On 1 January an entity issues two classes of preference shares at par. Class A: CU 2,000,000 of 8% shares, redeemable at par on 31 December in five years, with a fixed cumulative dividend payable annually. Class B: CU 1,000,000 of 6% irredeemable, non-cumulative shares with dividends payable only if the directors declare them, and none are declared. What is the classification and Year 1 finance cost? Incorrect

A) Both classes are liabilities, with finance cost of CU 220,000, because the word preference shows that the shares rank ahead of ordinary shares
B) Class A is equity because it is called share capital in law, and Class B is a liability with finance cost of CU 60,000 at the stated rate
C) Class A is a liability with finance cost of CU 160,000, and Class B is equity, with any dividend declared charged direct to equity
D) Both classes are equity, with the Class A dividend of CU 160,000 shown in the statement of changes in equity as a distribution

Your answer: —  |  Correct answer: C

Classification follows the substance of the contractual terms, not the legal form (IAS 32.15 and 32.18). Class A must be redeemed and carries a mandatory dividend, so the entity has an unavoidable obligation to deliver cash and the shares are a liability whose dividend of 2,000,000 x 8% = CU 160,000 is a finance cost. Class B has no obligation to redeem or pay a dividend, so it is equity, and no cost is recognised because no dividend is declared. Ranking ahead of ordinary shares and the legal label of share capital do not decide the classification.

IAS 32.15-18

Q40. A football club sells season tickets for CU 600,000 for a season of 20 home matches played over 10 months, from August to May. The club's year end is 31 December, by which time 8 matches have been played and 5 months of the season have elapsed. How much revenue is recognised in the current year? Incorrect

A) Nil, because season tickets are deferred in full until the season has finished and all 20 home matches have been played, which is when the performance obligation is complete
B) CU 240,000 (8/20 of CU 600,000), because revenue is recognised as the matches, which are the service actually delivered, are played rather than as time elapses
C) CU 600,000, because the season tickets were sold and the cash was collected in full before the year end and the tickets are non-refundable once the season has started
D) CU 300,000 (5/10 of CU 600,000), because the ticket gives access over a fixed period and revenue is recognised on a straight-line basis over the time elapsed in the season

Your answer: —  |  Correct answer: B

A season ticket is a stand-ready or series of distinct services, and revenue is recognised as each is delivered, measured by the output that best depicts transfer: matches played. Eight of twenty fixtures give CU 240,000 of revenue, leaving CU 360,000 as deferred income. A time-based pattern ignores the uneven spacing of fixtures, recognising all cash at once ignores unfulfilled obligations, and deferring everything until season end delays revenue beyond the service actually provided.

IFRS 15 - revenue recognised over time by an output measure, matches played

Q41. On 15 December Year 1 an entity declares a dividend payable in kind: land carried at cost of CU 3,000,000, with fair value CU 3,800,000 at declaration, CU 3,900,000 at 31 December Year 1 and CU 3,950,000 when distributed on 28 February Year 2. What is the dividend liability at 31 December Year 1, and what is recognised in profit or loss on distribution? Incorrect

A) Liability CU 3,900,000 with the CU 100,000 remeasurement charged to profit or loss, and a gain of CU 900,000 on distribution
B) Liability CU 3,000,000, the carrying amount of the land, and no gain or loss, because a dividend is a distribution of the entity's own assets
C) Liability CU 3,900,000 with CU 100,000 remeasurement taken to equity, and a gain of CU 950,000 in profit or loss on distribution
D) Liability CU 3,800,000 held at the declaration value with later changes ignored, and a gain of CU 800,000 in profit or loss on distribution

Your answer: —  |  Correct answer: C

A liability to distribute non-cash assets is measured at the fair value of the assets to be distributed and is remeasured at each reporting date and at settlement, with changes recognised in equity (IFRIC 17.11-13). The liability is therefore CU 3,900,000 at the year end, and a further CU 50,000 is taken to equity before settlement, giving CU 3,950,000 in total. On settlement the difference between the dividend payable and the carrying amount of the land distributed is recognised in profit or loss (IFRIC 17.14), 3,950,000 - 3,000,000 = CU 950,000. Measuring at carrying amount hides the gain, and taking remeasurement to profit or loss misplaces the equity adjustments.

IFRIC 17

Q42. An entity's employees accrue annual leave that must be used within three months of the end of the leave year, after which any unused balance is forfeited entirely (it cannot be carried forward further and is never paid out in cash). At the reporting date, based on historical patterns, management estimates that a portion of leave accrued in the current year will indeed be used within the permitted three-month window, but a further portion is expected to be forfeited. How should the leave entitlement be accrued? Incorrect

A) The accrual is based on a fixed statutory percentage of gross annual salary, irrespective of actual expected usage
B) No accrual at all is permitted for annual leave with any forfeiture restriction, regardless of the expected usage rate
C) Only the portion of the accrued leave that is expected to actually be used within the permitted carry-forward window is accrued as a liability, consistent with the general principle that a non-vesting (or partially forfeitable) compensated absence is recognised only to the extent the entity expects to actually pay for the additional absence, since the portion expected to be forfeited will never result in an outflow of resources
D) The full amount of unused leave entitlement at the reporting date is accrued in full, with no reduction for expected forfeiture, since all accrued leave is a legal entitlement regardless of the usage restriction

Your answer: —  |  Correct answer: C

For compensated absences that do not fully vest (here, subject to a strict use-it-or-lose-it forfeiture after three months), the liability accrued reflects only the amount the entity expects to actually pay out or grant as paid time off, based on its best estimate of usage before forfeiture. The portion expected to be forfeited does not represent a probable outflow of resources and is excluded from the accrual, distinguishing this partial-vesting scenario from a fully vesting entitlement (where the whole unused balance would be accrued) and from unrestricted non-vesting leave (where the whole amount might be excluded).

IAS 19 - compensated absences, partial vesting/forfeiture estimate

Q43. A company's employment policy pays each permanent employee a festival bonus of one month's basic salary (CU 240,000 in total for all staff) in the month of a religious festival that falls each March, conditional on the employee still being in service at that date. The previous bonus was paid on 1 March. At the 31 December year end, management expects 5% of staff to leave before the next festival. How much is accrued? Incorrect

A) Nil, because the bonus becomes payable only when the festival occurs in March of next year, so it is a cost of the next financial year when the entitlement actually arises
B) CU 200,000, being 10/12 of CU 240,000, without any allowance for leavers, because expected staff turnover is ignored when measuring a short-term employee benefit
C) CU 190,000, being 10/12 of CU 240,000 for service from 1 March to 31 December, reduced by 5% for employees who are expected to leave before the festival date arrives
D) CU 240,000, because the company has a constructive obligation for the whole bonus once the policy is established and the employees remain on the payroll at the year end

Your answer: —  |  Correct answer: C

A short-term employee benefit is recognised as the employees render the service that earns it. The bonus is attributable to service during the period leading up to the festival, so 10/12 of the annual amount has been earned by 31 December (CU 200,000), and, because the benefit depends on continued service, the estimate allows for 5% expected leavers: CU 200,000 x 95% = CU 190,000. Recognising nothing ignores service already rendered, accruing the full amount ignores the unearned 2/12, and ignoring leavers overstates the liability.

IAS 19 - short-term employee benefits attributed to the service period, allowance for expected forfeitures

Q44. On 15 March 20X5 (before the year end of 31 March 20X5), the board formally approved and publicly announced a detailed restructuring plan, including the specific locations to be closed, functions affected, approximate number of employees to be made redundant, and expected timing, creating a valid expectation among those affected that the plan will be carried out. How should the estimated $2 million restructuring cost be treated at 31 March 20X5? Incorrect

A) No provision is recognised because the restructuring has not yet been implemented
B) A provision is recognised only for the portion of costs relating to employees who had signed redundancy agreements by year end
C) A provision for the $2 million estimated restructuring cost is recognised at 31 March 20X5, because a constructive obligation exists: the detailed formal plan combined with the public announcement before the year end has raised a valid expectation in those affected that the restructuring will be carried out
D) The cost is disclosed only as a contingent liability, with no provision recognised, since restructuring is a future management decision

Your answer: —  |  Correct answer: C

IAS 37 requires a constructive obligation for restructuring to be recognised when an entity has a detailed formal plan and has raised a valid expectation in those affected that it will carry out the restructuring, by starting to implement the plan or announcing its main features before the reporting date. Both conditions are met here, so a provision is recognised, not merely a contingent liability disclosure.

IAS 37 Provisions, Contingent Liabilities and Contingent Assets, paragraphs 71-83