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Accounting for customer loyalty programme
December, 15th 2007
The IFRIC has come out with the interpretation that credits granted are to be accounted for as a separate component of the initial sales transaction in which the award credits are granted.

The International Financial Reporting Interpretations Committee (IFRIC) issued an Interpretation, IFRIC 13 Customer Loyalty Programmes. The IFRIC is the successor to the Standards Interpretation Committee (SIC) of the International Accounting Standards Board (IASB) and is the Interpretative arm of the IASB functioning much in the same way as our Accounting Standards Interpretation (ASI) does. IFRIC 13 was issued on June 28, 2007, and is applicable to accounti ng periods commencing on or after July 1, 2008.

Loyalty programmes have been developed as customer relationship management exercises and are designed to tie a customer to a particular entity. These programmes typically offer incentives in the form of free products and services, the quantum being dependent upon the products and services a customer has bought. Every time a customer purchases a product or service, points are credited which are redeemable for either own products or services or third party products or services. The most common form of such schemes in India is operated by airlines. Retail trade which is evolving into malls and chains is beginning to offer similar schemes. The latest to get on board is a UK-based company dealing in currencies which is now offering award points.

Introducing the IFRIC, the chairman of the IFRIC said that loyalty awards are separate goods or services for which customers are implicitly paying. Therefore it is now clear that there is nothing free in award programmes at least as far as the IASB concerned.

The main issue addressed in the Interpretation is the recognition and measurement of obligations to provide customers with free or discounted goods or services if and when they choose to redeem loyalty award credits. Hitherto credits granted to customers were accounted for as marketing expenses akin to warranty obligations incurred in respect of the initial sale (a provision for future cost approach). Now the IFRIC has come out with the interpretation that says credits granted are to be accounted for as a separate component of the initial sales transaction in which the award credits are granted (a multiple elements approach).

Interpreting paragraph 13 of IAS 18 - Revenue, the IFRIC has held that when the selling price of a product includes an identifiable amount for subsequent servicing, that amount is deferred and recognised as revenue over the period during which the service is performed.

IAS 18 is now interpreted to mean that a sale which is part of a loyalty programme should be considered a two-component sale, namely, the sale of goods or services, and also the sale of a right to claim goods or services in future.

When one is confronted with this situation, one needs to determine whether a sale under a loyalty programme has separately identifiable components, as required by paragraph 13. Revenue for each of these separate components is recognised when the requirements of paragraph 14 of IAS 18 (for goods) or paragraph 20 (for services) are met.

Measuring the deferred income

Paragraph 9 of IAS 18 states that revenue shall be measured at the fair value of the consideration received or receivable. On the initial sales transaction, a customer would normally settle the transaction in cash or within a normal and reasonable credit period (and therefore undiscounted) which would mean that it is the fair value. IFRIC 13 does not specify any specific approach for estimating fair value of an award credit. However, the requirement is that it is based on the fair value to the holder, and not the cost of redemption to the issuer which would be substantially lower. The quantum of revenue to be deferred will also depend on factors such as how many points will not be redeemed going by past history.

If subsequent events prove that the original estimates were wrong and that costs were underestimated resulting in costs of supplying the awards exceeding the consideration allocated to the award credits on the initial sale, there is an onerous contract on the part of the entity i.e., the future costs to be incurred will exceed the revenue generated in which case, the requirements of IAS 37 ( Provisions, Contingent Liabilities and Contingent Assets) will apply and, therefore, a provision will have to be made for the excess immediately. (Interestingly, Accounting Standard 29 (Provisions, Contingent Liabilities and Contingent Assets), the corresponding Indian standard, does not recognise the concept of onerous contracts.)

IFRIC also provides for the following situations:

IFRIC 13 will apply only where there is a right to receive free or discounted goods or services. Where there is a scheme for distribution of free vouchers, IFRIC 13 does not apply.

Where an entity has made arrangements with a third party and the party assumes the future liability for a consideration, the customer is implicitly paying for the points regardless of whether the company or a third party supplies the free goods or services. However, by engaging a third party to supply the awards, the obligations have been fulfilled as soon as the points are granted and, therefore, there is no need to defer any revenue.


The US Financial Accounting Standards Boards Emerging Issues Task Force (EITF) did consider the matter of accounting for award points in its EITF 00-22 Accounting for Points and Certain Other Time-Based or Volume-Based Sales Incentive Offers and Offers for Free Products or Services to be Delivered in the Future. However, the matter is unresolved and, therefore, companies are permitted to account for loyalty programmes as multiple element arrangements.


When ED 20 was released for comments Finnair, the Finnish airline, expressed its disagreement strongly with the method of partitioning revenue. Finnairs objection was mainly on account of complications in accounting for value of points granted since in the airline business airlines usually form alliances and issue tickets on behalf of the alliance partners. Airlines usually sell tickets at differential prices and points are usually granted according to the miles flown.

Also, airlines monitor and, when needed, limit the availability of redemption seats in their revenue management systems. Award ticket availability is on the lowest level in the booking class hierarchy and customers may not be able to redeem an award when wanted. Due to this, the value of an award is mostly insignificant. Finnair therefore was of the view that it was more appropriate to treat award points as marketing costs rather than as revenue deferred.

Now that IASB has held that award points are paid for, will the tax authorities in India consider the same a taxable perquisite? Or does FBT take care of it?

P. S. Kumar
(The author is a practising chartered accountant.)

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