18 October 2022
The revenue is booked over time and project is delayed, in such case LD will be applicable then what will be treatment of LD in calculation of factor for revenue recognition. Should LD be deducted from contract price or LD provision should be made without changing contract price.
09 July 2024
In accounting for revenue recognition in projects where Liquidated Damages (LD) may apply due to project delays, the treatment of LD depends on whether the criteria for recognizing revenue over time (percentage of completion method) or at a point in time (completed contract method) are met. Here are the considerations for each scenario:
### Revenue Recognition Over Time (Percentage of Completion Method):
1. **Include LD in Contract Price:** - If LD is part of the contract terms and conditions, it should generally be included in the total contract price. - Revenue is recognized based on the percentage of completion of the project. This method typically matches revenue with the work performed, which may involve adjusting for expected costs and any foreseeable penalties or costs like LD. - LD can be accounted for as a reduction of revenue recognized if it relates directly to delays in meeting project milestones.
2. **Provision for LD:** - A provision for LD should be made if it is probable (likely) that LD will be incurred due to delays. - This provision is recognized as an expense on the income statement and a liability on the balance sheet. - It represents an estimate of the future outflow of economic benefits to settle the obligation (in this case, paying LD).
### Revenue Recognition at Point in Time (Completed Contract Method):
1. **Include LD in Contract Price:** - Similar to the percentage of completion method, LD should generally be included in the total contract price. - Revenue is recognized only when the contract is substantially complete. - LD can be treated as a reduction of the revenue recognized at the point in time when the project is completed.
2. **Provision for LD:** - If LD is probable and estimable, a provision should be made for it even if revenue is recognized at a point in time. - The provision is recognized as an expense and liability when it is probable that an outflow of resources embodying economic benefits will be required to settle the obligation.
### General Principles:
- **Matching Principle:** The recognition of LD should generally be aligned with the recognition of revenue. If LD is a direct consequence of project delays affecting revenue recognition, it should be deducted from the revenue recognized or provided for as an expense.
- **Disclosure:** Ensure clear disclosure in the financial statements about the nature of LD, the basis of calculation, and the amount recognized or provided for in the period.
- **Estimation:** LD provisions should be based on the best estimate of the expenditure required to settle the obligation at the balance sheet date.
In conclusion, whether LD should be deducted from the contract price or provided for without changing the contract price depends on the specific terms of the contract, the method of revenue recognition applied (percentage of completion or completed contract), and the accounting standards applicable in your jurisdiction. It's essential to consult with a qualified accountant or financial advisor to ensure compliance with accounting standards and to accurately reflect the financial impact of LD on your project's financial statements.
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