When a contract with a customer includes a variable amount of consideration, IFRS 15 requires the entity to estimate that amount, but only include in the transaction price the portion for which it is highly probable that a significant reversal in the amount of cumulative revenue recognised will not later occur.
Definition of the Transaction Price
An entity considers the terms of the contract and its customary business practices to determine the transaction price — the amount of consideration to which it expects to be entitled in exchange for transferring promised goods or services to a customer, excluding amounts collected on behalf of third parties (for example, some sales taxes). The consideration promised in a contract may include fixed amounts, variable amounts, or both.
What Makes Consideration Variable?
An amount of consideration can vary because of discounts, rebates, refunds, credits, price concessions, incentives, performance bonuses, penalties or other similar items. Promised consideration can also vary if the entity's entitlement to it is contingent on the occurrence or non-occurrence of a future event; for example, consideration is variable if a product is sold with a right of return, or a fixed amount is promised as a performance bonus on achievement of a specified milestone.
The Constraint on Including Variable Consideration
An entity includes in the transaction price some or all of an amount of estimated variable consideration only to the extent that it is highly probable that a significant reversal in the amount of cumulative revenue recognised will not occur when the uncertainty associated with the variable consideration is subsequently resolved. This condition is commonly referred to as the "constraint on variable consideration," and its purpose is to prevent the premature recognition of revenue that might later need to be reversed.
Effect on Measurement and Recognition
As a result of this constraint, an entity re-estimates variable consideration and reassesses the constraint at the end of each reporting period, so that the financial statements reflect the best available estimate of the transaction price in light of the information available at that time, without overstating revenue before its collection or entitlement becomes nearly certain.
Why This Constraint Matters in Practice
The effect of this constraint is most visible in sectors where rights of return, retroactive discounts, or milestone-based performance bonuses are common, such as retail, construction and long-term advisory services; in these cases an entity must balance the desire to report higher revenue early against the Standard's requirements, which prevent this unless the estimate is supported by a high degree of confidence that it will not later be reversed.
Legal References
- IFRS 15 — Revenue from Contracts with Customers, paragraph 47 (definition of the transaction price).
- IFRS 15, paragraph 51 (examples of sources of variability in consideration).
- IFRS 15, paragraph 56 (constraint on including variable consideration).
For questions about your specific situation, you can ask the Accounting Helper (private sector) on Helpers, or consult a licensed chartered accountant.