How Audit Services Account for Government Grants Using IAS 20

Most governments provide grants or other assistance to support certain businesses. There’s an obvious benefit to this assistance, and audit professionals working with entities receiving it need to make sure it’s properly reported in the financial statements. Understanding IAS 20 is the starting point for getting this right.

What Does IAS 20 Cover?

IAS 20, Accounting for Government Grants and Disclosure of Government Assistance, is the primary standard governing this area. It’s a comparatively old standard, first issued in 1983 and effective from January 1984, with no significant changes since. IAS 20 establishes the accounting and disclosure requirements for government grants and government assistance more broadly.

Government grants are resources a government transfers to an entity, most often after the entity satisfies certain conditions. Government assistance is a broader category, covering government action that provides economic benefit to an organization, such as free marketing support or business advice, without necessarily involving a direct resource transfer.

IAS 20 covers almost all types of government grants, with a few specific exclusions, covered below.

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The Objective of IAS 20

This standard aims to describe the appropriate accounting treatment for grants received from the government and other sources.

Scope: What IAS 20 Doesn’t Cover

IAS 20 doesn’t apply to the following:

• Accounting for government grants in financial statements that reflect the effects of changing prices, or similar supplementary information
• Government assistance provided through benefits in calculating taxable profit or tax loss, or determined based on income tax liability, including income tax holidays, investment tax credits, and reduced tax rates
• Government participation in the ownership of an entity
• Government grants covered by IAS 41, Agriculture, which specifically addresses agricultural grants tied to biological assets, a distinct scope IAS 20 doesn’t extend to

Forms of Government Assistance

Government assistance comes in many forms, each with its own characteristics and attached conditions. It’s often used to encourage an entity to take a course of action it wouldn’t otherwise take without the assistance. Properly accounting for government assistance received matters for two core reasons:

1. Where resources have actually been transferred, an appropriate accounting method needs to reflect that transfer accurately.
2. The extent to which an entity has benefited from the assistance during the reporting period needs to be clearly indicated.

This allows the entity’s financial statements to be meaningfully compared against those from other periods, or against similar entities.

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How to Account for Government Grants

Grants should never be credited directly to equity. IFRS doesn’t permit a capital approach to government grant accounting, it instead requires the income approach, recognizing grants as income over the relevant period to match them against the related expenditure or costs they’re intended to offset.

The accounting treatment depends on the grant’s purpose. An entity can receive a grant related to the acquisition of an asset, or a grant related to income (reimbursement of costs).

Grants Related to Assets

There are two presentation options for a grant received to acquire an asset:

• Presenting it as deferred income, recognized in profit or loss over the asset’s useful life
• Deducting the grant from the asset’s carrying value, reducing the depreciation charge recognized over the asset’s life instead

Grants Related to Income

Auditors need to distinguish between grants compensating past costs already incurred and grants compensating future or current costs. Where a grant is given to cover expenses already incurred, it’s recognized immediately in profit or loss. Where a grant reimburses costs incurred or expected to be incurred in the future or currently, it’s recognized in profit or loss for the period in which those costs are actually incurred, matching the grant to the expense it offsets.

For presentation, there are two options: presenting grant income separately as “other income,” or deducting the grant income from the associated expense it offsets.

Worked Example: Accounting for an Asset Grant and an Income Grant

A company receives a government grant of AED 500,000 to help fund the purchase of new manufacturing equipment costing AED 2,000,000, with a 10-year useful life. Using the deferred income approach, the AED 500,000 is recorded as deferred income and recognized in profit or loss at AED 50,000 per year over the equipment’s 10-year life, matching the grant against the depreciation expense it’s helping offset. Alternatively, using the asset-reduction approach, the equipment’s carrying value is recorded at AED 1,500,000 (AED 2,000,000 minus the AED 500,000 grant), and depreciation is calculated on that reduced amount, AED 150,000 per year instead of AED 200,000. Both methods produce the same net effect on profit over the asset’s life, they simply present the grant differently on the financial statements.

Separately, the same company receives a AED 100,000 grant specifically to reimburse staff training costs it expects to incur over the coming year. Since this reimburses future costs rather than past ones, the AED 100,000 is recognized in profit or loss as those training costs are actually incurred, not immediately upon receiving the grant, matching the income to the expense it’s offsetting, consistent with the income approach IFRS requires.

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How Farahat & Co. Can Help

Farahat & Co., a trusted Audit And Accounting Firm, helps businesses correctly account for and disclose government grants under IAS 20, including presentation method selection and audit support.

Contact Farahat & Co. today to discuss your government grant accounting requirements.