Contract Asset Vs Trade Receivable

A very good number of accountants still believe revenue recognition at every point in time is to Debit Trade (Account) Receivable, Credit Revenue. Well, this presumption isn’t wrong but not entirely right as we could have an instance where the debit goes to Contract asset rather than Trade receivable. You are calming down, I guess; if you aren’t; Ladies and Gentlemen, please calm down, we are heading somewhere.

 

IFRS 15 defines a contract asset as a right to consideration in exchange for goods or services that the entity has transferred to a customer, when that right is conditioned on something other than the passage of time, for example the entity’s future performance. Trade (account) receivable on the other hand is within the scope of IAS 32 and defined as a contractual right to receive cash or another financial asset from another entity. English, right? We’ll demystify the jargon.

 

In a much summarized version, Contract asset is conditional on future performance obligation whilst the Trade receivable is unconditional. Like I always confirm, the IASB has gumption and it is evident. Remember that the underlying principle under IFRS 15 and one of the reasons it has to come to repeal IAS 18 and 11 respectively is to reduce possible reversal in revenue recognized. Revenue is now recognized when control passes to the customer and now tied to fulfilment of performance obligation, this is a possible area of discourse at a later date. So, when you recognize revenue and control hasn’t passed to the customer in entirety, you should recognize revenue up to the level of performance obligation and credit contract asset or trade receivable depending on whether there are conditions attached to the right to payment.

 

Let us use illustrative examples, I have entered to teach an ICAN student privately for 4 months and the agreement is to cover the syllabus at the end of the 4 month. The agreed fee is N200, 000 (this is a mere example o, students are often times so stingy, LOL!).  If by the month 3, I have covered the 80% of the syllabus and I need to recognized revenue for management account purposes, I would recognize N160,000 as revenue (yes, I have earned this) but this guy wouldn’t pay me till I complete the syllabus, so, I can’t debit cash, I have an expectation. The next is to debit an expectation account, what comes to mind by default is trade receivable, right? But because there are conditions attached to the N160k, the contract states that I have to complete the syllabus to get N200k, I would then debit contract asset with N160k. You get this? Please re-read.

 

On a lighter note too, to those of you who have been keeping Relationship account, once your guy or babe asks about your genotype, it’s a green light please. Recognize revenue and debit contract asset as there are lots of conditions still attached before you recognize revenue.

I hope this piece allays your fears on the difference between contract asset and trade receivable.

 

 

Source: Sobur Lekan Bello

 

 

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