Chapter 13 NON-FINANCIAL AND CURRENT LIABILITIES

IFRS — definition of a liability

A present obligation to transfer an economic resource as a result of past events.

IFRS — What does “present obligation” mean?

A duty or responsibility to others that the entity has no practical ability to avoid.

ASPE (CPA Canada Handbook, Part II) — Definition of a Liability

An obligation from past transactions or events that may require a transfer of assets or provision of services.

ASPE — Essential Characteristics of a Liability (3)

1. A duty or responsibility to others

2. Little or no discretion to avoid the obligation

3. The obligating event has already occurred

Key Difference: IFRS vs ASPE (Liabilities)

• IFRS: Focuses on economic resources and present obligation

• ASPE: Focuses on lack of discretion and past obligating events

Definition of a Financial Liability

A financial liability is a contractual obligation to:

• Deliver cash or another financial asset, or

• Exchange financial assets or liabilities under potentially unfavourable conditions.

Key Feature of a Financial Liability

The obligation must be contractual (not constructive).

Why Classification as Financial vs Non-Financial Matters

Measurement rules differ significantly depending on whether the liability is financial or non-financial.

Initial Measurement of Financial Liabilities

Financial liabilities are initially measured at fair value.

Subsequent Measurement of Financial Liabilities

After initial recognition, financial liabilities are generally measured at amortized cost, unless classified as held for trading.

Measurement of Short-Term Financial Liabilities

Short-term financial liabilities are usually measured at their maturity (settlement) value.

Measurement of Non-Financial Liabilities — ASPE vs IFRS

• ASPE: no single measurement standard; depends on the nature of the liability

• IFRS: measured at the best estimate of the amount required to settle the obligation at the statement of financial position date

IFRS — When is a Liability Classified as Current?

A liability is current if any one of the following applies:

• Expected to be settled in the normal operating cycle

• Held primarily for trading

• Due within 12 months after the reporting period

• The entity has no unconditional right to defer settlement for at least 12 months after the statement of financial position date

Key IFRS Rule — Current vs Non-Current Liabilities

If any one IFRS current-liability condition is met, the liability is classified as current, even if settlement is expected later.

ASPE — Classification of Liabilities

ASPE uses a less specific definition than IFRS, but with similar intent; minor differences may exist in application and judgment.

Definition of Notes Payable

• written promises to pay a specified sum of money on a specified future date.

• may be classified as current or long-term

• may be interest-bearing or zero-interest-bearing 

Interest Recognition for Notes Payable

Interest expense must be accrued over time for both interest-bearing and non-interest-bearing notes, regardless of when cash is paid.

What Represents Interest in a Zero-Interest-Bearing Note?

The difference between the face value of the note and its present value represents the interest.

How is Interest Recorded for a Zero-Interest-Bearing Note?

The interest expense is recognized over the life of the note, even though no periodic interest cash payments are made.

How is the current portion of long-term debt reported?

The portion of long-term debt maturing within 12 months from the statement of financial position date is reported as a current liability.

When should the current portion of long-term debt NOT be reported as current?

When, by contract, the debt is retired using assets that are not classified as current assets.

How are demand (callable) liabilities classified?

Any liability due on demand, or callable by the creditor within one year or the operating cycle, is classified as a current liability.

Under IFRS, when can debt due within 12 months be classified as long-term?

Only if, at the statement of financial position date, the company has both:

• the intent, and

• an unconditional right, under an existing contract and solely at its discretion,
  to refinance the debt with long-term debt.

Under ASPE, when can currently maturing debt be classified as long-term?

If there is irrefutable evidence, by the time the financial statements are completed, that the debt has been or will be converted to long-term debt.

Key Difference Between IFRS and ASPE in Debt Refinancing

• IFRS: more stringent — right and intent must exist at the reporting date

• ASPE: more flexible — looks to subsequent evidence before statements are completed

When does a cash dividend become a liability and how is it classified?

A cash dividend becomes a legal obligation on the declaration date and is classified as a current liability.

How are preferred dividends in arrears treated for cumulative preferred shares?

Cumulative preferred dividends in arrears that have not been declared are not recognized as a liability, but require note disclosure.

Why are stock dividends not recognized as liabilities?

Stock dividends are not liabilities because they do not require future outflows of assets or services and therefore do not meet the definition of a liability.

How are stock dividends recorded?

Stock dividends are recorded only within equity accounts (capital) and do not affect liabilities.

What two accounts are used to account for GST?

• GST Payable: GST collected on eligible sales

• GST Receivable (Input Tax Credit): GST paid on eligible purchases

How is the net GST amount determined and settled?

The net of GST Payable and GST Receivable is remitted to or recovered from the CRA.

How is the net GST balance presented on the statement of financial position?

• Credit balance: reported as a current liability

• Debit balance: reported as a current asset

How is HST accounted for compared to GST?

HST is accounted for in the same manner as GST, using payable and receivable (input tax credit) accounts.

What are payroll deductions?

Amounts withheld from employees’ gross pay that must be remitted to the government or other entities.

What deductions are included in payroll deductions?

• CPP / QPP

• Employment Insurance (EI)

• Income tax withholding (federal and provincial)

• Insurance premiums

• Union dues

How are payroll deductions reported before remittance?

Until remitted, payroll deductions are reported as current liabilities.

What are short-term compensated absences?

Absences from employment for which employees are paid, such as statutory holidays and vacation.

What are the two types of short-term compensated absences?

• Accumulating

• Non-accumulating

How are accumulating compensated absences accounted for?

Employee rights accrue with service and may be carried forward; expense and liability are recognized as earned by employees (e.g., vacation).

How are non-accumulating compensated absences accounted for?

Employee rights arise only upon an obligating event; expense and liability are recognized when the event occurs (e.g., disability or parental leave).

How is the liability for compensated absences measured?

Using the best estimate of future pay rates required to settle the obligation (often current pay rates are used).

What is another name for an asset retirement obligation?

An asset retirement obligation is also called a site restoration obligation.

When must an asset retirement obligation (ARO) be recognized?

An ARO must be recognized when the obligation is incurred, either at the time of acquisition of the asset or as a result of production/use.

What types of obligations create an asset retirement obligation?

Existing legal obligations related to retirement of long-lived assets.

How do ASPE and IFRS differ in recognizing asset retirement obligations?

• ASPE: recognizes legal obligations only

• IFRS: recognizes legal and constructive obligations (arising from past practices or policies)

How is an ARO initially measured?

At the best estimate of the expenditure required to settle the present obligation at the reporting date, discounted to present value.

How are ARO-related costs recorded on initial recognition?

The cost is capitalized by being added to the carrying amount of the underlying asset

How is the capitalized ARO cost allocated over time?

It is amortized over the useful life of the underlying asset.

Why is interest recorded on an Asset Retirement Obligation (ARO)?

Because the ARO is initially recognized at present value, the liability must be unwound over time by recording interest.

How is ARO interest calculated?

Using the same discount rate that was used to calculate the present value of the obligation.

How is ARO interest expense classified under IFRS vs ASPE?

• IFRS: recorded as Interest Expense

• ASPE: recorded as Accretion Expense

How are ARO cost increases due to production/use accounted for?

• IFRS: added to the cost of inventory

• ASPE: added to the carrying amount of the underlying asset

What are the two accounting approaches for warranty liabilities?

• Service-type warranty (revenue-based approach)

• Assurance-type warranty (expense-based approach)

When does the service-type warranty approach apply?

Applies to extended warranties or warranties sold separately where the stand-alone value of the warranty is known.

How is revenue from a service-type warranty recognized?

Warranty revenue is deferred at sale and recognized over the life of the warranty in the same pattern as expected warranty costs.

How is the warranty liability measured for service-type warranties?

Measured at the value of the warranty service to be provided.

When does the assurance-type warranty approach apply?n does the assurance-type warranty approach apply?

Applies when the warranty is included in the sales price and not sold separately.

How is the warranty liability measured under the assurance-type approach?

Measured at the estimated cost of the economic resources required to meet the warranty obligation.

How are expenses treated for assurance-type warranties?

The warranty expense is matched with the revenues of the period in which the related product is sold.

Key Measurement Difference: Assurance-Type vs Service-Type Warranties

• Assurance-type: liability measured at estimated cost

• Service-type: liability measured at value of the service to be provided, not cost

How are customer loyalty programs accounted for under IFRS?

Revenue from the original sale is allocated between two components:

• the product/service sold, and

• the award credits (loyalty points).

How are award credits treated under IFRS?

The fair value of award credits is deferred as unearned revenue and recognized as revenue when the credits are redeemed for rewards.

How does ASPE treat customer loyalty programs?

ASPE has no specific standard, but follows similar intent by recognizing revenue for separately identifiable components.

What are premiums in accounting?

Items (e.g., silverware, dishes, small appliances) offered to customers in return for box tops, coupons, labels, etc.

How are premiums accounted for under ASPE?

Historically accounted for using the expense approach, which is reasonable when the costs are marketing expenses.

How should premiums be accounted for under IFRS?

Using a revenue approach, where part of the consideration is allocated to unearned revenue related to the premium.

When is unearned revenue recognized?

When cash is received before a product is delivered or a service is rendered.

What is a contingency?

An existing condition or situation involving uncertainty about a possible gain or loss, resolved by one or more future events occurring or not occurring.

What are loss contingencies?

Situations involving a possible loss that exists at the statement of financial position date.

Do ASPE and IFRS treat contingent losses the same way?

No. ASPE and IFRS use different terminology and accounting rules for contingent losses.

When is a loss contingency accrued under ASPE?

When both conditions are met:

• It is likely a future event will confirm a liability existed at the balance sheet date

• The loss amount can be reasonably estimated

When is note disclosure required under ASPE for loss contingencies?

When:

• Likelihood is not determinable, or

• Loss cannot be reasonably estimated, or

• Exposure to loss exceeds the amount accrued

When are loss contingencies recognized under IFRS and what are they called?

ecognized as provisions when:

• The loss is probable (lower threshold than ASPE), and

• The amount is reliably measurable

How are IFRS provisions measured?

Using the expected value method, considering the probabilities of possible outcomes.

Key ASPE vs IFRS difference for contingent liabilities

• ASPE: uses likely threshold; recognizes contingent liabilities

• IFRS: uses probable threshold; “contingent liability” means not recognized