Rebates, volume discounts, refunds, penalties and performance bonuses make the price in a contract variable. Under FRS 102 paragraphs 23.43 to 23.47 the business estimates the amount it expects to receive using either an expected value or the most likely amount, includes it in revenue only to the extent it is highly probable it will be entitled to the cumulative revenue recognised, and updates the estimate at every reporting date.
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What counts as variable consideration?
Paragraph 23.43 gives discounts, rebates, refunds, penalties and performance bonuses as examples. In practice the category also covers retrospective volume rebates, early settlement discounts, price concessions a business habitually grants, service credits for missed targets, late delivery penalties, success fees and sales with a right of return. The test is whether the amount the business will finally be entitled to depends on a future event. Variable consideration is part of Step 3 of the five step model, which applies to periods beginning on or after 1 January 2026 (paragraph 1.37(b)).
Two related items are dealt with separately. Sales or usage based royalties on a licence of intellectual property are recognised only when the later of the sale or usage and satisfaction of the related obligation occurs, without estimating (paragraph 23.48); see subscriptions and licences. Payments the business makes to its customer, such as listing fees or vouchers, are consideration payable to a customer under paragraphs 23.62 to 23.64.
How is the amount estimated?
Paragraph 23.44 offers two methods, and the business uses whichever better predicts the amount it will receive:
- Expected value. The sum of probability weighted amounts across the range of outcomes. Suitable where there are many similar contracts, such as a retailer’s returns.
- Most likely amount. The single most likely outcome. Suitable where there are only two outcomes, such as a bonus that is either earned or not.
The chosen method is applied consistently throughout the contract, and the information used is typically similar to what management used when bidding and pricing (paragraph 23.45).
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What is the highly probable constraint?
Paragraph 23.46 allows variable consideration into the transaction price only to the extent that it is highly probable the business will be entitled to the cumulative amount of revenue recognised when the uncertainty is resolved. The FRC says it reworded the IFRS 15 constraint in the positive to make it easier to understand, with generally the same effect (Basis for Conclusions B23.7). Because the test is framed around revenue already recognised, it bites on amounts that would increase revenue: a bonus that depends on a third party’s decision, the weather or the customer’s own sales may need to be left out until the outcome is clearer. A rebate the business expects to pay reduces the transaction price as soon as it is expected.
How are volume rebates handled?
Illustration only. A wholesaler agrees that a customer will receive a 5% retrospective rebate on all purchases in the calendar year if purchases exceed £500,000. In the first quarter the customer buys £150,000 of goods. Based on the customer’s buying history, the wholesaler expects the threshold to be met.
- Using the most likely amount, the expected price is 95% of list.
- Revenue for the quarter is £142,500, and £7,500 is recognised as a refund liability rather than a reduction in a receivable.
- If, at the half year, the customer’s orders slow and the threshold now looks unlikely, the estimate is updated and the cumulative rebate liability released to revenue in that period (paragraph 23.47 and 23.76).
A refund liability is measured at the consideration received or receivable to which the business does not expect to be entitled, and updated each reporting date (paragraph 23.49).
What about penalties and performance bonuses?
A contract that pays a builder a £20,000 bonus for finishing by a set date, or that deducts a penalty for each week of delay, has variable consideration. A two outcome bonus is usually estimated at the most likely amount, then tested against the constraint. A penalty that reduces the price is variable consideration, not a cost of sales, unless it compensates the customer for something separate. For contracts recognised over time, the estimate feeds the revenue recognised to date, so changes produce a catch up adjustment. See revenue recognised over time.
How are sales with a right of return accounted for?
Paragraph 23.53 requires revenue only for products expected not to be returned, a refund liability for those expected to be returned, and a refund asset classified as inventory with a matching adjustment to cost of sales. The refund asset is measured at the former carrying amount less expected recovery costs and any fall in value (paragraph 23.55). Swapping one size or colour for another of the same price is not a return (paragraph 23.52), and replacements of defective goods follow the warranty rules (paragraph 23.57).
Which performance obligation gets the variable amount?
Normally a discount or variable amount is spread across all obligations on a relative standalone selling price basis. Paragraph 23.74 allows it to be allocated entirely to one obligation where that better reflects what the business expects to earn, for example where a bonus relates specifically to the business’s efforts on that obligation. The FRC lists this flexibility as a deliberate simplification compared with IFRS 15 (B23.9(b)). Once allocated, later changes in the estimate are allocated on the same basis as at inception, and amounts relating to obligations already satisfied go straight to revenue in the period of the change (paragraph 23.76). Allocating price across bundled sales covers this in more detail.
What should be disclosed?
Small entities using Section 1A disclose significant payment terms, including whether the consideration is variable, under paragraphs 1AC.32B and 23.135(b). Larger entities also disclose revenue recognised in the period from obligations satisfied in earlier periods, such as changes in variable consideration estimates (paragraph 23.134(c)), and obligations for returns and refunds (paragraph 23.135(d)).
What mistakes come up most often?
- Recognising revenue at the full list price and accounting for rebates only when paid.
- Including uncertain bonuses at their maximum without applying the highly probable constraint.
- Switching between expected value and most likely amount during a contract.
- Leaving estimates unchanged at the year end despite new information.
- Treating a penalty for late delivery as a cost rather than a reduction in the price.
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Related Accountapedia entries
- Sale or return and customer rights of return
- IFRS 15 vs FRS 102 revenue after 2026
- Turnover recognition under FRS 105
- Contract and exchange income in charity accounts
- IFRS 15 revenue from contracts with customers
Sources
Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 19 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.