The following is the text of the Exposure Draft of proposed Accounting Standards Interpretation on Recognition of Revenue by Real Estate Developers, issued by the Accounting Standards Board of the Institute of Chartered Accountants of India, for comment. Members and others are requested to send their comments on the Exposure Draft to the Secretary, Accounting Standards Board, The Institute of Chartered Accountants of India, Post Box No. 7100, Indraprastha Marg, New Delhi - 110 002, so as to reach him not later than April 30, 2005. Comments can also be sent by e-mail at tdte@icai.org.

The term 'real estate' refers to land as well as building. The issue is when should the revenue be recognised in case of real estate sales by the enterprises engaged in such activities (commonly referred to as 'real estate developers', 'builders' or 'property developers').

Revenue in case of real estate sales should be recognised when all the following conditions are satisfied:

1. The seller has transferred to the buyer all significant risks and rewards of ownership and the seller retains no effective control of the real estate transferred to a degree usually associated with ownership;
   
   

2. at the time of transfer of all significant risks and rewards of ownership it is not unreasonable to expect ultimate collection; and
   
   

3. no significant uncertainty exists regarding the amount of the consideration that will be derived from the real estate sales.
   
   

The determination of point of time when all significant risks and rewards of ownership are transferred depends on the facts and circumstances of each case considering the terms and conditions of the agreement. In case of real estate sales, all significant risks and rewards of ownership are normally considered to be transferred when legal title passes to the buyer, e.g., at the time of the registration, with the relevant authorities, of the real estate in the name of the buyer. However, in some cases, though the legal title is not passed, all significant risks and rewards of ownership are transferred, for example, where the seller sells the real estate under an agreement of sale and gives possession of the real estate to the buyer which has the effect of transferring all significant risks and rewards of ownership of the real estate to the buyer. In such cases, provided the seller has no further substantial acts to complete under the contract, it would be appropriate to recognise revenue subject to fulfillment of other conditions.

Where the seller is obliged to perform any substantial acts after the transfer of the legal title or after giving possession, revenue should be recognised on proportionate basis as the acts are performed. An example is a building or other facility on which construction has not been completed though all significant risks and rewards of ownership have been transferred pursuant to the transfer of the legal title. Another example is of a land which is yet to be developed though the possession has been given under an agreement of sale which has the effect of transferring all significant risks and rewards of ownership of the land to the buyer.

Whether the seller retains no effective control of the real estate transferred to a degree usually associated with ownership also depends on the facts and circumstances of each case considering the terms and conditions of the agreement. The nature and extent of continuing involvement of the seller should be assessed to determine whether the seller retains effective control. In some cases, real estate may be sold with a degree of continuing involvement by the seller such that the risks and rewards of ownership are not transferred. Examples are sale and repurchase agreements which includes put and call options, and agreements whereby the seller guarantees occupancy of the property for a specified period.

For determining whether it is not unreasonable to expect ultimate collection, a seller should consider the evidence of the buyer's commitment to make the complete payment. For example, when the aggregate of the payments received, including the buyer's initial down payment, or continuing payments by the buyer, provide insufficient evidence of the buyer's commitment to make the complete payment, revenue is recognised only to the extent of realisation of the consideration.

In case of real estate sales, since normally the amount of consideration is specified in the agreement, no significant uncertainty exists regarding the amount of the consideration that will be derived from the sales.

Paragraphs 10 and 11 of AS 9 provide as follows: "10. Revenue from sales or service transactions should be recognised when the requirements as to performance set out in paragraphs 11 and 12 are satisfied, provided that at the time of performance it is not unreasonable to expect ultimate collection. If at the time of raising of any claim it is unreasonable to expect ultimate collection, revenue recognition should be postponed.

11. In a transaction involving the sale of goods, performance should be regarded as being achieved when the following conditions have been fulfilled:

1. the seller of goods has transferred to the buyer the property in the goods for a price or all significant risks and rewards of ownership have been transferred to the buyer and the seller retains no effective control of the goods transferred to a degree usually associated with ownership; and
   
   

2. no significant uncertainty exists regarding the amount of the consideration that will be derived from the sale of the goods."
   
   

The real estate sales take place in a variety of ways and may be subject to different terms and conditions as specified in the agreement of sale. Accordingly, the point of time at which all significant risks and rewards of ownership can be considered as transferred, is required to be determined on the basis of the terms and conditions. For recognition of revenue in case of real estate sales, it is necessary that the conditions specified in paragraphs 10 and 11 are satisfied. Merely entering into an agreement by the seller with the buyer for the sale of real estate, which is to be developed, does not evidence transfer of all significant risks and rewards of ownership. On the contrary, significant risks and rewards of ownership are considered to be transferred to the buyer where the agreement specifically provides so, even though the possession of real estate is not transferred.

Paragraph 9.2 of AS 9 provide as follows:

9.2 Where the ability to assess the ultimate collection with reasonable certainty is lacking at the time of raising any claim, e.g., for escalation of price, export incentives, interest etc., revenue recognition is postponed to the extent of uncertainty involved. In such cases, it may be appropriate to recognise revenue only when it is reasonably certain that the ultimate collection will be made. Where there is no uncertainty as to ultimate collection, revenue is recognised at the time of sale or rendering of service even though payments are made by instalments."

Accordingly, in case it is unreasonable to expect ultimate collection, the revenue recognition is postponed to the extent of uncertainty involved.

Note: This note is not a part of the [Draft] Interpretation. Its purpose is to give the background for issuance of this [Draft] Interpretation.

The pre-revised AS 7 (1983), inter alia, provides that "The Statement also applies to enterprises undertaking construction activities of the type dealt with in this Statement not as contractors but on their own account as a venture of a commercial nature where the enterprise has entered into agreements for sale". The revised AS 7 does not contain this provision. As a result of this, revised AS 7 is not applicable to certain enterprises, e.g., real estate developers. To such enterprises, AS 9, Revenue Recognition, is applicable. It is felt that an Interpretation should be issued as to how the provisions of AS 9 would be applied in case of such enterprises.