Testing how revenue is measured: VAT and discounts
How to test that revenue is measured correctly under IFRS 15: net of VAT, with settlement discounts and other variable consideration estimated properly.
By Achekam · · 5 min read · For Accountants & audit firms in South Africa, Nigeria, Kenya
Most revenue testing asks whether a sale happened and whether it landed in the right year. Fewer audit programmes ask whether it was recorded at the right amount. Yet measurement errors are common: VAT left inside revenue, early-payment discounts ignored until the customer takes them, volume rebates accrued at year end by guesswork, and bundles where the whole price is credited to the product line that happens to be on the invoice.
Each of these shifts revenue without any sale being fictitious, so occurrence and cut-off tests will not catch them. This article covers how to test the measurement of revenue under IFRS 15 for clients in South Africa, Nigeria and Kenya.
The transaction price under IFRS 15
IFRS 15, as the IFRS Foundation summarises it, describes the transaction price as the amount of consideration to which an entity expects to be entitled in exchange for transferring promised goods or services to a customer. The phrase "expects to be entitled" matters: the price is not simply the invoice total, and where the contract includes a variable amount, the entity must estimate it.
The audit work therefore has two parts: removing amounts that are not the entity's at all, and testing estimates of amounts that are uncertain.
Sales tax collected for the authority
ACCA explains that, under IFRS 15, sales tax collected on behalf of third parties is not part of the transaction price, so revenue is recognised net of sales tax even though the receivable includes it.
For VAT-registered clients, that means VAT charged to customers belongs in a liability to SARS, the Nigeria Revenue Service or KRA, not in revenue. The errors to look for:
- VAT-inclusive pricing posted gross to revenue, common in retail and hospitality where shelf prices include VAT;
- a VAT rate change during the year not reflected in the system, so the split between revenue and output VAT is wrong for part of the year; confirm the rates that applied, at the time of writing the file, with the tax authority;
- zero-rated or exempt supplies treated as standard-rated, or the reverse, distorting both revenue and the VAT liability;
- a client that became registered during the year, with sales before and after registration treated the same.
A useful analytic is to recompute output VAT from revenue by category and compare it with the VAT returns and the ledger. Differences point to measurement errors in either.
Settlement discounts and other variable consideration
Settlement discounts
ACCA explains that IFRS 15 treats a settlement, or prompt payment, discount as variable consideration. If the customer is expected to take the discount, revenue is recorded net of it; if not, revenue is recorded in full and reduced only if the customer later takes the discount.
Test the client's approach:
- Identify customers offered settlement discounts, from contracts and invoice terms.
- Look at payment history: do those customers usually pay early and take the discount?
- Check that revenue for customers who habitually take it is recorded net at the point of sale, not gross with a later adjustment.
- At year end, check open invoices where the discount period has not yet expired.
Rebates, returns and penalties
Settlement discounts are only one kind. Volume rebates, rights of return, performance bonuses and late-delivery penalties all make the price variable. ACCA explains that IFRS 15 estimates variable consideration as either the expected value or the most likely amount, and includes it in the transaction price only to the extent that it is highly probable a significant reversal of revenue will not occur.
For each significant arrangement:
- Understand the terms from the contract: thresholds, periods, rates.
- Test the estimate against the customer's actual purchases and, after year end, against the rebate or credit note actually issued.
- Check the constraint: has the client included uncertain amounts, such as a performance bonus it may not earn, without being able to show a reversal is highly unlikely?
- Look back at how last year's estimates compared with the amounts settled.
Allocating the price across performance obligations
Where a contract bundles several goods or services, the transaction price must be split between them. ACCA explains that IFRS 15 allocates the price at contract inception on the basis of relative stand-alone selling prices, and that the best evidence of a stand-alone selling price is the observable price when the entity sells the item separately.
Bundles are common: equipment sold with installation and a maintenance plan, software with support, a phone with airtime. The allocation affects measurement of each component and, where they are delivered at different times, when revenue is recognised. Test the allocation for significant bundles using the client's own separate selling prices. Our article on revenue timing under IFRS 15 covers what happens next, once the price is allocated.
Recalculation and adjustments in Achekam
In Achekam, each work item sets out the procedures to perform and the documents required. A procedure is marked done only with a written response and its documents, or set aside with a reason, and steps are never deleted. For revenue measurement, that lets the VAT recomputation, the discount review and the rebate testing stand as separate, evidenced steps rather than one tick against "revenue".
The revenue, output VAT and rebate accrual lines in the lead schedules are built from the engagement's trial balance with each figure traceable. Where a recalculation shows revenue overstated by VAT left inside it, or a rebate under-accrued, staff record an audit adjustment against the line with a reason, and raise a finding from the working paper.
Sampling contracts with unusual terms
A sample of invoices tests the routine. Measurement errors often sit in the exceptions. Alongside the main sample, select:
- the largest customers, whose contracts are most likely to carry rebates and special terms;
- contracts signed or renegotiated during the year;
- sales with credit notes issued after year end, which may show the original price was overstated;
- any customer whose revenue grew sharply, in case terms were loosened to win it.
Read those contracts in full. Our guide to revenue cut-off testing covers the period-end side of the same population.
ACCA's article on trade receivables and revenue explains the treatment of sales tax and settlement discounts under IFRS 15 with worked examples, and is a good training piece for staff testing revenue.
At planning on your next audit, ask the client which customers get discounts, rebates or special terms. The answer tells you where revenue measurement needs testing, and is often a surprise to the finance team as well.
General guidance only, not advice on your own circumstances. Tax and payroll rules change: check the current position with the authority or your adviser.
