Learning Outcomes
After reading this article, you will be able to explain when government grants should be recognised in financial statements under IAS 20. You will distinguish between grants related to income (revenue grants) and those related to assets (capital grants), outline the methods for presenting each type, and identify the criteria and conditions for recognition. You will also be able to apply IAS 20 requirements in common exam scenarios.
ACCA Financial Reporting (FR) Syllabus
For ACCA Financial Reporting (FR), you are required to understand the accounting treatment of government grants according to IAS 20. Revision should focus on the following syllabus points:
- Explain the recognition criteria for government grants
- Distinguish between revenue (income) and capital (asset) grants
- Identify acceptable methods of presenting government grants in financial statements
- Apply IAS 20 conditions—reasonable assurance and compliance with grant terms
- Recognise the treatment for grants that become repayable
Test Your Knowledge
Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.
- When can a government grant be recognised as income under IAS 20?
- Which methods are permitted for presenting capital grants in the financial statements?
- How should a revenue grant be treated if its conditions are not yet fully met?
- What are the two main types of government grants defined by IAS 20?
Introduction
Government grants are a frequent feature in financial statements, providing support in the form of funds or resources. However, the correct recognition and presentation depend on the type of grant and compliance with specific criteria set out in IAS 20. In the context of the ACCA FR exam, you must clearly understand when grants can be recognised, the distinction between revenue and capital grants, and the implications if conditions are not satisfied or if grants become repayable.
Key Term: government grant
Assistance by government in the form of resource transfers to an entity, in return for compliance with certain conditions relating to its operating activities.Key Term: revenue grant
Grants mainly intended to subsidise expenses or operating costs. These are not tied directly to the acquisition of long-term assets.Key Term: capital grant
Grants whose main condition is that the entity should purchase, construct, or otherwise acquire long-term assets.
Recognition of Government Grants
IAS 20 requires that a government grant is only recognised in the financial statements when:
- There is reasonable assurance that the entity will comply with all the attached conditions; and
- It is reasonably assured that the grant will be received.
If there is doubt regarding compliance or receipt, recognition must be delayed. Recognition must always reflect the matching principle—income is recognised only when the related costs are also recognised.
Conditions for Recognition
- The entity must satisfy any grant-related requirements (e.g. creating jobs, buying equipment).
- If conditions have not yet been met, defer recognition until they are fulfilled or there is reasonable assurance of compliance.
- Do not recognise grants if there is significant uncertainty over future compliance.
Key Term: reasonable assurance
A high degree of confidence that the conditions of the grant will be met and the grant received.
Accounting Treatment: Revenue vs. Capital Grants
Revenue (Income) Grants
These grants are intended to subsidise specific expenses, such as wages, training, or operating costs. Once recognition criteria are met, IAS 20 permits two presentation methods:
- Present as "other income" in the statement of profit or loss
- Deduct from the related expense (e.g. as a reduction to wage costs)
Either method is acceptable, so long as the income and expense are appropriately matched in the same period.
Capital (Asset) Grants
These grants relate to the acquisition or construction of non-current assets. IAS 20 allows two equally acceptable methods:
- Deduct the grant from the carrying amount of the asset, so depreciation is charged on the net value;
- Recognise the grant as deferred income (a liability), and release it to profit or loss over the useful life of the asset (thus offsetting the full depreciation charge).
In some legal jurisdictions, deduction from the asset’s cost may be prohibited. In such cases, use the deferred income approach.
Worked Example 1.1
A manufacturing company receives a $100,000 government grant to purchase machinery costing $400,000. The machinery’s useful life is 5 years. The company’s policy is to use the deferred income method. What entries should be recorded in the first year?
Answer:
- Record machinery at full cost: Dr Machinery $400,000.
- Set up deferred income: Cr Deferred income (liability) $100,000.
- Each year, release $20,000 ($100,000/5) to profit or loss as income.
- Depreciate the machinery: $400,000/5 = $80,000 per year.
- In profit or loss: Depreciation expense $80,000, grant income $20,000; net effect $60,000 expense per year.
Worked Example 1.2
A business receives a $60,000 grant to cover 2 years of payroll costs, paid up front. The company expects to fully comply with employment terms. How should the grant be recognised at year-end if one year has passed and compliance remains?
Answer:
- Recognise $30,000 income in profit or loss ($60,000/2).
- Carry forward $30,000 as deferred income (liability), to be recognised next year if compliance continues.
Grants That Become Repayable
If a grant becomes repayable (e.g. due to non-compliance with conditions):
- For revenue grants: Repay the unrecognised portion first, and any excess is expensed immediately.
- For capital grants:
- Deferred income method: Remove the related portion from deferred income. Any excess is expensed.
- Asset-reduction method: Increase the asset’s carrying amount by the repayment, and depreciate prospectively over remaining useful life.
Repayment is always recognised as an expense in profit or loss.
Exam Warning
In the exam, missing the requirement that grants cannot be recognised unless compliance with conditions is reasonably assured is a common mistake. Do not assume an unconditional grant unless stated.
Summary
IAS 20 distinguishes between revenue and capital grants based on their main conditions—subsidising expenses or acquisition of non-current assets. Recognition is permitted only when there is reasonable assurance both of compliance and of receipt. Different presentation methods exist for both types. If grant conditions are not met, repayment is required, affecting profit or loss and possibly asset values.
Key Point Checklist
This article has covered the following key knowledge points:
- The two recognition conditions for government grants under IAS 20
- Difference between revenue and capital grants
- Acceptable presentation methods for each type in financial statements
- Handling repayments of government grants if conditions are breached
Key Terms and Concepts
- government grant
- revenue grant
- capital grant
- reasonable assurance