How are government grants accounted for under IAS 20, and what is the difference between the income approach and the capital approach?
I came across a CFA Level I practice question where a company received a government subsidy to build a solar panel factory. The answer mentioned two allowed approaches under IAS 20 — netting the grant against the asset cost or recognizing it as deferred income. I'm lost on which to use and how each method affects the income statement and balance sheet over time.
IAS 20 provides two acceptable methods for recognizing government grants related to assets. Both are allowed under IFRS, but they produce different balance sheet presentations while arriving at the same net income over the asset's life.
Example:
SunVolt Energy receives a $1,200,000 government grant to help finance the construction of a solar panel manufacturing facility costing $5,000,000. The facility has a 20-year useful life and zero residual value.
Method 1: Deferred Income Approach (Gross Presentation)
The grant is recorded as deferred income (a liability) and amortized to income over the asset's useful life.
| Year 0 — Grant receipt: | |
|---|---|
| Cash | $1,200,000 |
| Deferred Income (Liability) | $1,200,000 |
| Each year — Asset depreciation: | |
|---|---|
| Depreciation Expense | $250,000 |
| Accumulated Depreciation | $250,000 |
| Each year — Grant amortization: | |
|---|---|
| Deferred Income | $60,000 |
| Other Income (or offset to depreciation) | $60,000 |
Net annual charge to income = $250,000 - $60,000 = $190,000
Method 2: Capital Approach (Net Presentation)
The grant reduces the asset's carrying amount directly.
Net asset cost = $5,000,000 - $1,200,000 = $3,800,000
Annual depreciation = $3,800,000 / 20 = $190,000
Impact comparison:
| Item | Deferred Income | Capital Approach |
|---|---|---|
| Total assets | Higher ($5M asset) | Lower ($3.8M asset) |
| Total liabilities | Higher (deferred income) | Lower |
| Gross depreciation | $250,000 | $190,000 |
| Net income effect | $190,000 (net) | $190,000 |
| Asset turnover ratio | Lower (higher assets) | Higher (lower assets) |
Grants related to income:
If the grant compensates for expenses rather than asset purchases (e.g., a wage subsidy), it is recognized as income in the period the related expense is incurred. It can be presented as other income or netted against the expense.
Conditions attached to grants:
If there is reasonable assurance that the company will comply with the grant conditions, the grant is recognized when receivable. If conditions are not met and the grant must be repaid, the repayment is treated as a change in accounting estimate.
Exam note: US GAAP has no single comprehensive standard for government grants (though ASC 832 now provides guidance). IAS 20 is the primary framework tested on CFA Level I.
Learn more about IAS 20 in our CFA Level I FRA module.
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