New Interpretation of the National Accounting Board Relating to Customer Loyalty Programmes
The following article provides a brief summary of the main principles of the new interpretation of the National Accounting Board: I-41 “Customer Loyalty Programmes”.
Introduction of the National Accounting Board
The National Accounting Board (NAB) is an independent specialised institution supporting expertise and professional ethics in the development of accounting professions and in the area of accounting methodology and financing. NAB is composed of representatives of leading professional organisations (Chamber of Auditors of the Czech Republic, Chamber of Tax Advisors of the Czech Republic, Union of Accountants) and academia (University of Economics, Prague).
Its mission lies in the cooperation with the Ministry of Finance and other governmental and legislative bodies and institutions in formulating legislation and related norms with a focus on accounting. NAB also creates, updates, issues and distributes Czech Accounting Standards and interpretations of the National Accounting Board.
Interpretations of the National Accounting Board
The interpretations provide NAB’s professional opinion on the practical application of Czech accounting principles. The interpretations, which are not legally binding, aim to facilitate the formulation of optimum and unified procedures for accounting and financial reporting. They principally focus on matters that are not addressed by Czech accounting legislation, or are addressed insufficiently, and on issues being resolved differently in the accounting practice.
Interpretation I-41 ‒ Customer Loyalty Programmes
The long-awaited Interpretation I-41 (the “Interpretation”) was issued in June 2020 as a response to the non-existent regulation of customer loyalty programmes in Czech accounting legislation. Customer loyalty programmes may have various forms but their common characteristic is that a company grants its customers rights to future rewards, e.g. in the form of loyalty credits, discount coupons or vouchers for free products.
As a great variety of customer loyalty programmes exists in practice, the Interpretation states the following possibilities of their accounting treatment by loyalty programme providers:
1. Ongoing recognition upon providing an award to the customer; the Interpretation states that this accounting treatment is unacceptable as it is contrary to the accruals principle for revenues and costs;
2. Cost-based solution – when an entity creates reserves for the costs expected to be incurred by the settlement of its future liability; the Interpretation considers this accounting treatment acceptable; and
3. Revenue-based solution – i.e. upon sale, a proportionate part of revenues attributable to rewards is recognised by the entity as deferred income.
The goal of the Interpretation is to answer the question of whether the revenue-based solution, which is inspired by the International Financial Reporting Standards (IFRS), is also acceptable in Czech accounting legislation. The Interpretation concluded that the revenue-based solution is acceptable, clarifying its accurate accounting treatment:
“If, as part of a sale (i.e. initial sale), the customer is granted loyalty credits that may be redeemed in the future for free or discounted products after meeting any other qualification criteria:
- The entire consideration received from the customer as part of the initial sale will be allocated between revenues attributable to loyalty credits and revenues attributable to the basic components of the sale;
- Part of the aggregate revenues attributable to loyalty credits will be determined based on the relative proportion of arm’s length independent sales prices of the free or discounted products and the basic components of the sale; and
- In determining the value of loyalty credits, an entity will consider the estimated aggregate amount of loyalty credits expected to be used by customers.”
The Interpretation states that if an entity operates its own loyalty programmes, revenues from loyalty programmes will be recognised when the entity meets its obligation to provide rewards arising from the loyalty credits utilised by customers.
The Interpretation also focuses on a situation when loyalty programme rewards are provided by a third party. If an entity is solely an intermediary for a third party in the transaction, it will recognise revenues corresponding to the net amount (i.e. the difference between the consideration allocated to loyalty credits and the amount owed to the third party for the provision of rewards) when the third party is obliged to provide the rewards and entitled to receive consideration. With regard to expected losses incurred on the loyalty programmes, the Interpretation states that an entity shall recognise this loss when the costs of providing loyalty programme rewards exceed the not yet recognised part of consideration allocated to loyalty rewards.
The Interpretation does not address the accounting treatment of loyalty credits by customers as from the customer’s perspective, they represent a discount on the purchase price.
The Interpretation includes seven illustrative examples.
The full version of the Interpretation is available on the National Accounting Board website.
As the revenue-based solution also entails tax implications, we recommend consulting a tax advisor prior to its application.