Intermediate Accounting 2
2
“PREMIUM LIABILITY”
MS. MARY JOY F. LABAJO
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Intermediate Accounting 2
“PREMIUM LIABILITY”
• To know the recognition of a premium liability.
• To know the recognition of a cash rebate program.
• To know the recognition of a cash discount, offer program.
• To understand the recognition and measurement of a customer
loyalty program.
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“Thankfulness is an attitude of possibilities,
not an attitude of liabilities.”
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Illustration
An entity manufactures a certain product and sells it at P300 per
unit.
A soup bowl is offered to customers on the return of 5 wrappers
plus a remittance of P 10.
The bowl costs P50, and it is estimated that 60% of the wrappers
will be redeemed.
The data for the first year concerning the premium plan are
summarized below.
Sales, 10,000 units at P300 each 3,000,000
Soup bowls purchased, 2,000 units at P50 each 100,000
Wrappers redeemed 4,000
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The entries that would be made in the first year to record the sales, premium purchases
and redemption, and year-end adjustment are:
1. To record the sales:
Cash 3,000,000
Sales 3,000,000
2. To record the purchase of the premiums:
Premiums — soup bowls 100,000
Cash 100,000
3. To record the redemption of 4,000 wrappers:
Cash (800 x 10) 8,000
Premium expense (800 x 40) 32,000
Premiums — soup bowls (800 x 50) 40,000
(4,000 wrappers / 5 = 800 bowls distributed)
4. To record the liability for the premiums at the end of the first year:
Premium expense 16,000
Estimated premium liability 16,000
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Cash rebate program
A variation of a premium offer is a cash rebate program which
has become common place.
Cash register receipts, bar codes, rebate coupons and other
proof of purchase often can be mailed to the manufacturer for
cash rebate.
Like any premium offer, the purpose of the cash rebate
program is to stimulate sales.
Accordingly, the estimated amount of the cash rebate should
be recognized both as an expense and an estimated liability in
the period of sale.
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Illustration
An entity offered P500 cash rebate on a particular model of TV
set. The customers must present a rebate coupon enclosed in
every package sold plus the official receipt.
Past experience indicates that 40% of the coupons will be
redeemed.
During the current year, the entity sold 4,000 TV sets and total
payments to customers amounted to P450,000.
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Cash discount coupon
Another variation of the premium offer is the cash discount
coupon program.
The cash discount coupon program is a popular marketing
tool for the purpose of stimulating sales.
Like a premium offer and cash rebate program, an expense
and an estimated liability for the expected cash discount
should be recognized in the period of sale.
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Illustration
During the current year, an entity inserted in each package
sold a coupon offering P300 off the purchase price of a
particular brand of product when the coupon is presented to
retailers.
The retailers are reimbursed for the face amount of coupons
plus 10% for handling. Previous experience indicates that 30%
of coupons will be redeemed.
During the current year, the entity issued coupons with face
amount of P5,000,000 and total payments to retailers
amounted to P1,100,000.
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Customer loyalty program — IFRS 15
Many entities use a customer loyalty program to build brand loyalty,
retain their valuable customers and of course, increase sales volume.
The customer loyalty program is generally designed to reward
customers for past purchases and to provide them with incentives to
make further purchases.
If a customer buys goods or services, the entity grants the customer
award credits often described as "points"
The entity can redeem the "points" by distributing to the customer
free or discounted goods or services.
A customer loyalty program operates in a variety of ways.
Customers may be required to accumulate a specified minimum
number of award credits or “points" before they can be redeemed.
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Measurement
An entity shall account for the award credits as a separately
component of the initial sale transaction.
In other words, the granting of award credits is effectively
accounted for as a future delivery of goods or services.
IFRS 15, paragraph 74, provides that an entity shall allocate the
transaction price to each performance obligation identified in a
contract on a relative stand-alone selling price basis.
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In other words, the fair value of the consideration received
with respect to the initial sale shall be allocated between the
award credits and the sale based on relative stand-alone
selling price.
The stand-alone selling price is the price at which an entity
would sell a promised good or service separately to a
customer.
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Recognition
The consideration allocated to the award credits is initially
recognized as deferred revenue and subsequently recognized as
revenue when the award credits are redeemed.
The amount of revenue recognized shall be based on the
number of award credits that have been redeemed relative to
the total number expected to be redeemed.
The estimated redemption rate is assessed each period.
changes in the total number expected to be redeemed do not
affect the total consideration for the award credits.
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Instead, the changes in the total number of award credits
expected to be redeemed shall be reflected in the amount of
revenue recognized in the current and future periods.
In other words, the calculation of the revenue to be
recognized in any one period is made on a "cumulative basis in
order to reflect the changes in estimate.
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Illustration — IFRS 15
An entity, a grocery retailer, operates a customer loyalty
program.
The entity grants program members loyalty points when they
spend a specified amount on groceries.
Program members can redeem the points for further
groceries. The points have no expiry date.
The sales during 2020 amounted to based on stand-alone
selling price.
During 2020, the customers earned 10,000 points.
But management expects that 80% or 8,000 of these points
will be redeemed.
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The stand-alone selling price of each loyalty point is estimated at
P 100.
On December 31, 2020, 4,000 points have been redeemed in
exchange for groceries.
In 2021, the management revised expectations and now expects
that 90% or 9,000 points will be redeemed altogether.
During 2021, the entity redeemed 4,100 points. In 2022, a further
900 points are redeemed,
Management continues to expect that only 9,000 points will ever
be redeemed, meaning, no more points will be redeemed after
2022.
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Third party operates loyalty program
An entity, a retailer of electrical goods, participates in a customer
loyalty program operated by an airline.
The entity grants program members one air travel point for every
P1,000 spent on electrical goods.
Program members can redeem the points for travel with the
airline subject to availability. The entity pays the airline P60 for
each point.
During the current year, the entity sold electrical goods for
consideration totaling P 4,500,000 based on stand-alone selling
price and granted 5,000 points with stand-alone selling price of
P100 per point
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The entity has fulfilled its obligation by granting the points.
Therefore, revenue from points is recognized when the electrical
goods are sold.
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“Laziness requires no effort, whereas work
requires dedication and perseverance.”
-Catherine Pulsifer
