9.3.7: Government Grants

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Governments will at times create programs that provide direct assistance to businesses. These programs may be designed to create employment in a certain geographic area, to develop research and economic growth in a certain industry sector, or other reasons that promote the policies of the government. When governments provide direct grants to businesses, there are a number of accounting issues that need to be considered.

IAS 20 states that government grants should be "recognized in profit or loss on a systematic basis over the periods in which the entity recognizes as expenses the related costs for which the grants are intended to compensate" (IAS 20-12, IAS, 1983). This type of accounting is referred to as the income approach to government grants, and is considered the appropriate treatment because the contribution is coming from an entity other than the owner of the business.

If the grant is received in respect of current operating expenses, then the accounting is quite straightforward. The grant would either be reported as other income on the statement of profit or loss, or the grant would be offset against the expenses for which the grant is intended to compensate. When the grant is received to assist in the purchase of PPE assets, the accounting is slightly more complicated. In this case, the company can defer the grant income, reporting it as a liability, and then recognize the income on a systematic basis over the useful life of the asset. Alternately, the company could simply use the grant funds received to offset the initial cost of the asset. In this method, the grant is implicitly recognized through the reduced depreciation charge over the life of the asset.

Consider the following example. ComLink Ltd. purchases a new factory machine for $100,000. This machine will help the company manufacture a new, energy-saving product. The company receives a government grant of $20,000 to help offset the cost of the machine. The machine is expected to have a five-year useful life with no residual value. The accounting entries for this machine would look like this:

	Deferral Method		Offset Method
	Debit	Credit	Debit	Credit
Machine	100,000		80,000
Deferred grant		20,000		-
Cash		80,00		80,000
Purchase of machine.

Depreciation expense	20,000		16,000
Accumulated depreciation		20,000		16,000
Deferred grant	4,000		-
Grant income		4,000		-
First year depreciation and revenue recognition.

For Depreciation expense, deferral method: $(\$ 100,000 \div 5$ years $=\$ 20,000)$; offset method: $(\$ 80,000 \div 5$ years $=\$ 16,000)$

For Deferred grant: $(\$ 20,000 \div 5$ years $=\$ 4,000)$

The net effect on income of either method is the same. The difference is only in the presentation of the grant amount. Under the deferral method, the deferred grant amount presented on the balance sheet as a liability would need to be segregated between current and non-current portions.

Companies may choose either method to account for grant income. However, significant note disclosures of the terms and accounting methods used for grants are required to ensure comparability of financial statements.

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