Recognition of revenue from international trade activities according to the new revenue recognition standards. – International law

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China: Recognition of revenue from international trade activities according to the new revenue recognition standards.

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In July 2017, the Ministry of Finance issued “Accounting Standards for Business Enterprises No. 14-Revenue” (hereinafter the “New Standard”). The new standard is convergent with the “International Financial Reporting Standards No. 15-Revenue from Contracts with Customers”.

For companies that are listed both domestically and overseas and that prepare financial statements in accordance with IFRS or accounting standards for business enterprises, the effective date of the new standard was January 1. 2018. For companies that are only listed domestically, the effective date was January 1, 2020. For the rest of domestic companies, the effective date is January 1, 2021.

The old revenue recognition standards issued by the Department of Finance in 2006 considered the time of transfer of risks and rewards associated with products or services to customers as the time of revenue recognition. However, for the new standard, the timing of revenue recognition was the transfer of control rights, and a five-step method was introduced to provide guidance on specific transactions or events and contract costs.

To help companies correctly apply the new standard, the Ministry of Finance published on December 11, 2018 guidelines for the application of the new standards in companies involved in general transport services. Since most foreign-funded enterprises in China are engaged in international trade, this article will expand on the guideline of transportation services by considering whether ocean freight that occurred during trade should be considered as a separate single obligation. and recognized as revenue under Incoterms.

Interpretation of Incoterms

According to the “General Rules for the Interpretation of Terms in International Trade”, the terms have been grouped into four fundamentally different categories:

  • Group E (the term “E” Ex Works): the seller makes the goods available to the buyer only at the seller’s premises

  • Group F (the terms “F” FCA, FAS and FOB): the seller is called upon to deliver the goods to a carrier designated by the buyer

  • Group C (CFR, CIF, CPT and CIP): Based on Group F, the seller must undertake the carriage, but without assuming the risk of loss or damage to the goods or the additional costs due to events occurring after shipping and shipping

  • Group D (DAF, DES, DEQ, DDU and DDP): the seller must bear all the costs and risks necessary to bring the goods to the place of destination

Accounting treatment of revenue recognition under old revenue standards (2006 version)

Under the old revenue standards, revenue from the sale of goods should be recognized when, and only when, all of the following conditions are met:

  1. The business has transferred to the buyer the significant risks and rewards of ownership of the goods

  2. The company retains neither ongoing management involvement to the degree typically associated with ownership nor effective control over the goods sold

  3. The amount of income can be measured reliably

  4. It is likely that the economic benefits associated with the transaction will flow to the company

  5. The costs incurred or to be incurred in connection with the transaction can be measured reliably

Therefore, for manufacturing companies involved in international trade under all forms of Incoterms, revenue from transportation services should be accounted for with sales revenue generated from sales of goods when the associated risks and rewards have been transferred to the clients. Transportation service revenues would not be accounted for separately.

Accounting treatment of revenue recognition under the new revenue standards

Under the new standard, the time when business revenue is recognized for the related products or services is no longer when the related risks and rewards are transferred, but when control of the related products or services is transferred. . The transfer of risks and rewards represents the transfer of economic benefits, and the transfer of control rights represents the transfer of economic benefits and represents the transfer of the right to use goods or services.

As a general rule, under normal circumstances, transportation activities that take place before the transfer of control to the customer do not constitute a single performance obligation, but only activities undertaken by the company to perform the contract, and the corresponding costs should be considered the cost of performing the contract. . On the contrary, transportation activities that occur after the transfer of control to the customer may indicate that the company has provided a transportation service to the customer, and the company must determine whether the service constitutes a single performance obligation.

Therefore, according to Incoterms, the products of the companies transferred the control rights related to the products to the customers when they leave the destination for groups E, F and C. Therefore, when the goods leave the destination, the company should only confirm revenue related to the commodity. At the same time, companies should treat transportation services as a separate performance obligation and recognize revenue from transportation services when the goods are delivered to their destination. For Group D, the rights of control over the company’s goods pass to the customer when they arrive at their destination, so transportation services should be considered contract performance costs incurred when the company performs the contract rather than as the recognition of transportation service revenue.

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