Preparing for the New Revenue Recognition Standards
By Brenda DeCosta, Partner, Assurance Services
In May 2014, the Financial Accounting Standards Board (FASB) changed the landscape for revenue recognition. Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers, created a new principle-based framework to determine when and how an entity should recognize revenue from its customer contracts. The effective dates for implementation of ASU 2014-09 are years beginning after December 15, 2017 for public entities, and years beginning after December 15, 2018 for all other entities.
Under ASU 2014-09, revenue should be recorded only when services are provided or goods are transferred to customers at the agreed-upon price. The standard provides five basic steps for determining how to recognize revenue from customers, as follows:
- Identify the contract/contracts with a customer.
- Identify the performance obligations.
- Determine the transaction price.
- Allocate the transaction price to the performance obligations in the contract.
- Recognize revenue as the entity satisfies a performance obligation.
As entities are either in the early stages of implementation of ASU 2014-09 or are gearing up for a 2019 effective date, FASB has issued another ASU that impacts revenue recognition. On June 21, 2018, FASB issued Accounting Standard Update (ASU) 2018-08, Clarifying the Scope and the Accounting Guidance for Contributions Received and Contributions Made. The effective dates for implementation of ASU 2018-08 vary between contributions made and contributions received. For transactions in which an entity is either a public business entity or a not-for-profit that has issued, or is a conduit bond obligor for, securities that are traded, listed, or quoted on an exchange and serves as a resource recipient, the entity should apply the amendments in this Update on contributions received to annual periods beginning after June 15, 2018, and for contributions made to annual periods beginning after December 15, 2018. All other entities should apply the amendments for transactions in which the entity serves as the resource recipient to annual periods beginning after December 15, 2018, and December 15, 2019, respectively.
Although this standard is expected to most significantly impact not-for-profits, it does apply to all entities that receive or make contributions of cash and other assets, including promises to give (in accordance with Subtopic 958-605) and contributions made (in accordance with Subtopic 720-25). The ASU provides specific criteria to consider when determining whether a contract or agreement should be accounted for as a contribution or as an exchange transaction. It also provides a framework for determining whether a contribution is conditional or unconditional, which impacts the timing of revenue recognition.
Under ASU 2018-08, every grant/contract/agreement must be analyzed under the new framework to determine if it should be recorded as a contribution, an exchange transaction, or both. For any agreements identified as conditional contributions, the entity will also need to identify and track the specific conditions of the contract and record the contribution revenue as the conditions are met.
A grant/contract/agreement will be reported as a contribution or an exchange transaction depending upon whether or not the asset provider receives equal value in return. If equal/proportionate value is received, it is accounted for as an exchange transaction, while if equal value is not received, it is accounted for as a contribution. If some value, but not equal value, is received, then it is accounted for as both an exchange transaction and a contribution.
Once the entity has reviewed the grant/contract/agreement and determined that it is a contribution, the next step is to determine whether the contribution is conditional or unconditional. In order to be considered a conditional contribution, the grant/contract/agreement must include the right of the asset provider to get their funds back or to hold back future payments on the commitment if the entity does not meet the conditions, and one or more barriers must be overcome before the entity is entitled to the assets committed. If deemed unconditional, the contribution is recognized as revenue upon commitment. Conditional contributions are not recognized until the respective conditions have been satisfied.
This ASU will be applied to agreements that are not completed as of the effective date (only applies to the unrecognized portion) and to agreements that are entered into after the effective date. Most entities should consider these new standards for any contracts executed that will still be in effect as of December 31, 2019, or thereafter.
Because of this new ASU, it is expected that tax-exempt entities will account for more contracts/agreements as contributions and, more specifically, conditional contributions. Revenue recognition on conditional contributions is delayed until the conditions are met and, therefore, in the year of implementation, tax-exempt organizations may see a drop in their revenue. In addition, conditional contributions must be disclosed in the footnotes. Overall, implementation of this new ASU will likely result in an increase of conditional contributions, a reduction of recorded unconditional promises to give, a reduction in reported temporarily restricted net assets, and increased footnote disclosures.