Accounting for warranty given for the products sold, under IFRS & Ind AS

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Many entities provide warranty in addition to the goods sold to their customers. There are many kinds of warranties provided by the manufacturer or sellers.

The first step for accounting for each kind of warranty provided, is to conclude if it is going to be treated as a separate performance obligation under IFRS 15 & Ind AS 115: Revenue from Contracts with Customers.

The intricacies of accounting for different kinds of warranty are as follows:

A good or service sold will be treated as a separate performance obligation only if it is distinct. A good or service is distinct if both of the following criteria are met:

• The customer can benefit from the good or service on its own or when combined with the customer's available resources; and

• The promise to transfer the good or service is separately identifiable from other goods or services in the contract.

A transfer of a good or service is separately identifiable if the good or service:

• Is not integrated with other goods or services in the contract.

• Does not modify or customize another good or service in the contract; or

• Does not depend on or relate to other goods or services promised in the contract.

Nature of warranty varies significantly depending on the industry. There are warranties which provide a customer with assurance that the related product will function as the parties intended because it complies with agreed-upon specifications. Other warranties provide the customer with a service in addition to the assurance that the product complies with agreed-upon specifications.

Each type of warranty provided should be analyzed and concluded if it is distinct or not.

Manufacture Warranty (assurance warranty):

It’s an assurance that the related product will function as the parties intended and it complies with agreed-upon specifications.

This warranty is not distinct form the promise of selling the good. There are no additional services provided to the customer.

This warranty will not be treated as a separate performance obligation under IFRS 15 & Ind AS 115. It will be treated as the same performance obligation as selling the goods.

This promise of warranty will be accounted under IAS 37 & Ind AS 37: Provisions, Contingent Liabilities and Contingent Assets and a corresponding provision will be created for the products sold during the year.

Services provided in addition to the manufacturing warranty:

In addition to the manufacturing warranty certain services are provided to the customer for example free maintenance services etc.

These additional services are distinct and will be treated as a separate performance obligation. This is because the customer can get the benefits from the good even without these additional services provided as warranty.

The transaction price will be allocated to this additional warranty as well, which is a separate performance obligation and revenue will be recognized for this performance obligation as per the provisions of IFRS 15 & Ind AS 115.

Customer has the option to buy warranty separately: If the customer has the option to buy a warranty separately in addition to the product, then that warranty is a distinct service because the entity promises to provide the service to the customer in addition to the product that has the functionality described in the contract and the customer can get the benefit of the good even without purchasing the warranty.

Warranty is to be provided as per law: if the entity is required by law to provide a warranty, the existence of that law indicates that the promised warranty is not a performance obligation because such requirements typically exist to protect customers from the risk of purchasing defective products. As a result, this warranty will be accounted as per the provision of the standard IAS 39 & Ind AS 39.

IFRS 15 & Ind AS 115 provides an exemption for the accounting of warranty: If an entity promises both an assurance-type warranty and a service-type warranty but cannot reasonably account for them separately, the entity shall account for both of the warranties together as a single performance obligation.

Distinction between “right to return” and warranty: If an entity provides a refund to customers if they are not satisfied with the goods, it will not be treated as warranty, but will be accounted as a variable consideration under IFRS 15 & Ind AS 115.

This article has been published in the Chartered Accountant Study Circle ("CASC") Bulletin.