This paper analyzes the accounting treatment of a $25 referral credit issued by Runway Discount, examining relevant guidance under both U.S. Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS). Specifically, it addresses how the referral credit should be classified on the income statement under ASC 605-50, when the credit should be recognized, what journal entries are required at each stage, and what guidance Runway would follow upon adopting IFRS. The paper concludes that under GAAP the credit may qualify as a marketing expense, while under IFRS it would generally be recorded as a reduction in revenue.
In accordance with ASC 605-50-45 Revenue Recognition, a cash consideration provided to a consumer by a vendor or retailer is deemed a decrease in the selling price of the products or services offered. This means that such cash considerations are treated as an expense and a reduction in the revenue generated by the vendor. However, a cash consideration can be classified as an expense only if it meets two specific requirements. First, the cash consideration must give rise to an identifiable benefit that is separable from the recipient's purchase — meaning the vendor could have obtained that benefit through a third party rather than through the purchaser. Second, the value provided must be reasonably approximated by the vendor (IAS Plus, 2016).
In this case, Runway meets both requirements because the $25 credit represents the fair value that the business would have paid a marketing company to acquire a new customer. This satisfies both the fair-value criterion and the third-party criterion. Accordingly, Runway should record the $25 referral credit as either a marketing expense or a reduction in revenue on its income statement (IAS Plus, 2016).
In accordance with FASB Codification 605-50 — Customer Payments and Incentives — when a consideration takes the form of goods, services, or cash offered voluntarily by a vendor at no charge to consumers, and that consideration becomes exercisable by a consumer as a result of a single exchange transaction, the vendor shall recognize the cost of the sales incentive at the later of the following two points:
(i) At the time an existing customer earns the $25 referral credit; or
(ii) At the time the existing customer actually uses the $25 referral credit to purchase a good or item of merchandise (Epstein et al., 2009).
The $25 referral credit is recognized as an expense by Runway when the new customer makes his or her first purchase, which then obligates Runway to credit the referring customer's account (Flood, 2015).
When the existing customer earns the $25 referral credit, Runway records the following entries — debiting the Sales Revenue account by $25 and crediting the Liability account by the same amount:
"Full journal entries on a $100 redemption purchase"
"IAS 18 and IFRS 15 treatment of referral credits"
Runway Discount issues a $25 credit for every referral made. In accordance with Generally Accepted Accounting Principles (GAAP), this accounting transaction may be recorded as a marketing expense. Under IFRS, by contrast, it would be recorded as a reduction in revenue. The FASB currently recognizes revenue using a principles-based approach, and the convergence of U.S. GAAP and IFRS through standards such as IFRS 15 continues to shape how companies like Runway account for customer incentives.
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