Contract Costs relate directly to a contract, generate or enhance resources that will be used to fulfill the contract, and be expected to be recovered through the contract’s revenue. Additionally, these costs are INCREMENTAL to obtaining the contract, meaning that they would not have been incurred if the contract had not been obtained.
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Contract Costs – Accounting As Per IFRS 15
One of the most SIGNIFICANT changes introduced by IFRS 15 is the way contract costs are recognized. Under the Previous Standard, companies were allowed to capitalize certain costs associated with acquiring or fulfilling a contract, such as sales commissions and direct labor costs.
However, IFRS 15 imposes a stricter set of criteria for CAPITALIZING these costs.
Under IFRS 15, companies are only allowed to capitalize contract costs that meet certain conditions.
IFRS 15’s new REQUIREMENTS for capitalizing them are intended to align accounting treatment more closely with the underlying economic substance of the contract. This means that companies must be more careful in their accounting for contract costs, and it may result in some costs being expensed immediately rather than being capitalized.
Contract Costs Implications
The implications of IFRS 15 can be SIGNIFICANT, particularly for companies in industries with high sales commissions or other significant costs associated with contract acquisition. e.g, companies in the software industry often pay significant commissions to sales agents for securing new contracts.
Under IFRS 15, these commissions can only be CAPITALIZED if they meet the standard’s strict criteria, which may result in higher expense recognition and reduced reported profits.
In addition to its impact on financial reporting, IFRS 15’s treatment of contract costs can also have ‘Operational Implications‘ for companies. e.g, companies may need to MODIFY their sales processes or compensation structures to align with the new accounting standard. Additionally, companies may need to invest in new systems or processes to track and report them.
The Bottom Line
IFRS 15’s treatment of Contract Costs is a SIGNIFICANT change and has important implications for companies in a wide range of industries. Companies will need to CAREFULLY evaluate their contract costs and ensure that they are appropriately capitalized.
In addition, companies may need to make OPERATIONAL changes to comply and ensure that their financial reporting accurately reflects the underlying economics of their customer contracts.
Chartered Accountant (Institute of Chartered Accountants of Pakistan)
Bachelor of Accounting Honours (Asia e University, Malaysia)