The accounting for construction contracts were guided by FRS 11 Construction Contracts. After 1 January 2018, the FRS 11 became superseded by FRS 115.
Under FRS 115, construction contract is treated exactly the same as any other contract with customers. The FRS 115 prescribes a 5-step model for revenue recognition. The impacts on the construction companies can be summarize below:
Identify contract and performance obligations
It is clear that a construction company has explicit contractual agreement with its customer.
Construction companies need to identify not only individual goods and services promised in the contract, but also determine whether they are distinct or not. As if the goods and services are not distinct, they must be treated as ONE single performance obligation.
Under FRS 11: Except in specific circumstances, a traditional construction contract relates to the construction of an asset or a combination of assets that are closely interrelated or interdependent in terms of their design, technology and function or their ultimate purpose or use.
Under FRS 115: A traditional construction contract generally provides significant integration service and the goods and services is highly dependent on, or highly interrelated with, other goods or services promised in the contract.
Comments: Most construction contracts will contain just ONE performance obligation, because the contract would be to build or construct something for the customer and is negotiated as a whole package where a customer has no choice than to get the full package from the supplier.
Impact: Companies will need to demonstrate that significant integration service is required and the different elements of the construction contract are highly interrelated in order to account for the contract as a single performance obligation. Otherwise, revenue is recognised across multiple performance obligations.
Sale of Uncompleted Residential Properties in Singapore
For property developers in Singapore, the Sales and Purchase Agreements (SPA) are the contracts signed with customers i.e. buyers of a specified unit within a development.
The considerations are considered “probable” as financing is typically required to be secured for the SPA to be executed. It is to note that an “option to purchase” signed does not considered a contract as the customer is not obligated to exercise the option to purchase the property.
The promised good is usually the completed specified property unit within the development. The promised to construct common facilities are not considered as separate performance obligations.
Therefore, the performance obligation of the developer is to deliver the completed specified property unit with the common facilities to the buyer.
Recognise revenue when (or as) the entity satisfies a performance obligation
The performance obligation can be satisfied either over time or at a point in time.
Under FRS 11: Contracts that meet the definition of FRS 11, will recognise revenue and expenses by reference to the stage of completion of the contract activity.
Under FRS 115: FRS 115 para 35 lists a few criteria when a performance obligation is satisfied over time, if one of the criteria is met:
- Customer simultaneously receives and consumes as the entity performs;
- Customer controls the asset enhanced or created by the entity; or
- Entity does NOT create an asset with an alternative use and has an enforceable right to payment for performance completed to date.
Comments: In most construction contracts, the performance obligations are satisfied over time and NOT at the point of time (although exceptions might exist).
Impact: The performance obligation for most construction services are generally required to be satisfied over time. Customers usually control the assets as they are created or enhanced. Typically, the assets are specialised that only the customers can use and entities have enforceable rights for payment for services completed to date. For transactions that are currently accounted for using stage of completion, management shall evaluate contracts against the new criteria under FRS 115 to determine whether revenue should be recognised over time or at a point in time. Companies may need to re-look into the structure of their construction contracts and the impact they may have arising from adoption of FRS 115.
Sale of Uncompleted Residential Properties in Singapore
1 Performance Obligations satisfied over time
For criterion 1 (para 35(a)), the buyer does not simultaneously consume the benefits provided by the developer’s construction of the property unit as the unit is being constructed.
For criterion 2 (para 35(b)), the buyer does not control an uncompleted property unit for uncompleted residential properties in Singapore.
For criterion 3 (para 35(c)), companies that satisfied both conditions A and B will be recognised revenue over time.
Condition A refers to asset with no alternative use. Under SPA, the developer cannot sell the same unit as indicated in the signed SPA to another customer. Therefore, condition A is met for sales of development in Singapore.
Condition B refers to enforceable right to payment for performance completed to date. In the context of sales of units within a larger property development in Singapore, the developer does not have a contractual right to payment commensurate with performance to date under the standard SPA. However, the developer may have the right to enforce the contract and sue the buyer for specific performance of the contract with the completion of the construction, notwithstanding that such right may not be explicitly specified in the contract. The application of the above conditions will vary to some types of real estate sales commonly seen in Singapore.
For Standard Residential Properties (include standard residential properties sold under deferred payment schemes) and Mixed Development Properties – both Condition A and B are met. Therefore, recognised revenue over time)
For Executive Condominiums (EC) and Design, Build and Sell Scheme (DBSS) Properties – Condition A met, but not to Condition B. Therefore, recognised revenue at a point in time.
2 Performance Obligations satisfied at a point in time
Under FRS 115 para 38, if a performance obligation is not satisfied over time, a company satisfies the performance obligation at a point in time.
In such a case, the company is required to consider when the customer obtains control of the promised good or service. Indicators that a control is transferred include but are not limited to:
– Whether the company has a right to payment;
– Whether the customer has obtained legal title to the asset;
– Whether the company has transferred possession of the asset to the customer;
– Whether the customer has significant risks and rewards of ownership of the asset;
– Whether the customer has accepted the asset.
Impact to property developer: Property developers will need to consider their terms and conditions in contracts to determine when and how control of the specified unit is transferred to the buyer, either (a) as and when property is being constructed (over time); or (b) upon completion of the development and hand-over to the buyer (at a point in time).
Contract costs (including pre-contract costs)
Both FRS 11 and FRS 115 contain guidance on contract costs that are expensed. However, the specifics of the guidance vary.
Variable consideration
FRS 11 requires that it is probable that revenue will flow to the entity and the amount can be measured reliably.
FRS 115 does not specifically state that consideration must be reliably measured. However, variable amount is recognised to the extent that it is highly probable that the amount will not reverse. Variable amount is estimated at either the expected value (i.e. sum of probability-weighted amounts in a range of possible consideration amounts) or the most likely amount (i.e. the single most likely outcome of the contract).
Contract modification (Change in scope/price)
Under FRS 11, a variation is included in contract revenue when it if probable that it will be approve. A claim is included in contract revenue when negotiations have reached an advanced stage.
FRS 115 requires contract modification to be approved before they are recognised.
Expected losses
Under FRS 11, expected losses are recognised as expenses immediately.
FRS 115 does not specifically consider loss-making contracts. Refer to FRS 37 Provisions, Contingent Liabilities and Contingent Assets – under provision for onerous contract.
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