This narrative considers key implications IFRS 15 Revenue from Contracts with Customers for real estate entities. It provides an overview of the revenue recognition model in IFRS 15 with a focus on entities that:
- Own, operate and sell real estate
- Provide property management services
- Construct and sell residential property
IFRS 15 introduced a five step process for recognising revenue, as follows:
- Identify the contract with the customer
- Identify the performance obligations in the contract
- Determine the transaction price for the contract
- Allocate the transaction price to each specific performance obligation
- Recognise the revenue when the entity satisfies each performance obligation
Once an entity has identified the contract with a customer, it evaluates the contractual terms and its customary business practices to identify all the promised goods or services within the contract and determine which of those promised goods or services (or bundles of promised goods or services) will be treated as separate performance obligations.
IFRS 15 identifies several activities common to real estate entities that are considered promised goods and services, including the sale of goods produced or resale of goods purchased (e.g. properties); the performance of a contractually agreed-upon task for a customer (e.g., property management); and the construction or development of a property on behalf of a customer.
Separate performance obligations represent promises to transfer a good or service that is:
– A good or service (or a bundle of goods and services) that is distinct
– A series of distinct goods and services that are substantially the same and have the same pattern of transfer to the customer
Example – Property management contract
Operator R enters into a five-year contract with Owner S to provide property management services for a regional shopping centre. The contract stipulates that Operator R will perform the following functions: Performance obligations in a property management contract
Operator R evaluates each of the services provided in the contract to identify whether separate performance obligations are present. Operator R also considers the underlying activities that comprise each of the services to determine whether they meet the criteria to be accounted for as a single performance obligation (or whether the service may be several performance obligations). Performance obligations in a property management contract
Operator R determines that the leasing services are distinct from the management services (i.e., the leasing and management services are not combined to form a single performance obligation). Both services are capable of being distinct and are distinct in the context of the contract because the entity does not provide a significant service of integrating the services; neither service significantly modifies or customises the other service; and the services are not highly dependant on, or highly interrelated with each other. The activities that are necessary to perform the day-to-day management of the property are independent of those that are required to negotiate and execute leases with tenants.
Analysis of management services
Operator R evaluates the activities that must be performed in order to manage the day-to-day operations of the property. Operator R identifies a number of activities that comprise the overall property management services, including maintenance, cleaning, security, landscaping, snow removal, tenant relationship management and administrative and support services. While each of these activities are individually capable of being distinct, Operator R concludes that they are not distinct within the context of the contract because the ultimate objective of the management services is to perform any activities that are necessary to ensure the property is open and operating as intended.
In addition, Operator R determines that the management services represent a series of services that are substantially the same and have the same pattern of transfer to Owner S. While the specific activities that occur each day may vary slightly (e.g., landscaping may occur in the summer, while snow removal occurs in the winter), the overall service of property management is substantially the same and has the same pattern of transfer (i.e., transfers daily) over the term of the contract. Furthermore, each distinct service represents a performance obligation that would be satisfied over time (i.e., over the length of the contract, not at a point in time) and has the same measure of progress (e.g., time elapsed), thereby meeting the required criteria.
Analysis of leasing services
Operator R evaluates the activities that comprise the leasing services. Performance obligations in a property management contract
Operator R identifies several activities that occur throughout the leasing process, including monitoring of upcoming vacancies, new tenant identification, proposal preparation, lease negotiation and document preparation. While certain of these activities may be capable of being distinct (e.g., document preparation could be outsourced), Operator R concludes they are not distinct within the context of the contract, because the ultimate objective of the leasing services is to execute individual leases with tenants to maintain the overall occupancy of the property.
As illustrated above, entities will first need to determine which services in the contract are distinct and therefore could represent separate performance obligations. Then, these services will need to be evaluated to determine whether they are substantially the same, have the same pattern of transfer and meet the two criteria discussed above (and, therefore, must be combined into one performance obligation). This evaluation may require significant judgement when a property manager performs activities beyond the day-to-day operations of the property.
For example, a retail property manager may be responsible for identifying and executing leases with seasonal tenants, attracting on-site events or placing advertisements around the property. If an entity determines that these activities represent separate performance obligations and the contract does not specify separate revenues that reflect the stand-alone selling prices of these services, the base management fee must be allocated to each separate performance obligation.
Performance obligations in a property management contract Performance obligations in a property management contract Performance obligations in a property management contract