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The FASB (Financial Accounting Standards Board) and the IASB (International Accounting Standards Board) issued Revenue From Contracts With Customers, ASC 606 and IFRS 15, the converged standard for revenue recognition. This news will affect most entities: public, private and nonprofit.

The standard is effective for reporting periods beginning after December 15, 2017, for US GAAP nonpublic entities. Early adoption is permitted but not earlier than periods beginning after December 15, 2016. The standard is effective for public and IFRS entities with reporting periods beginning after December 31, 2016.

Adoption of the new standard may be a challenge. There are two adoption methods available:

Full retrospective approach (excludes practical expedience) — which applies to all periods presented. This would require all contracts that existed during the periods being presented to be in compliance with the new standard. There would also be a cumulative effect on the beginning retained earnings (net assets) and disclosure of the reason for the change.

Modified retrospective approach — where only the most current period is presented. This would require any contracts in existence as of the effective date to be in compliance with the standard, as well as any new contracts. The cumulative effects of the changes would be reflected in the beginning retained earnings (net assets). The disclosure would require presentation of the current period as if prepared with the current standard, effectively requiring two sets of accounting records for the year of adoption.

The new standard will significantly increase required disclosures and change how revenue from contracts with customers is recognized. Entities will have to consider changes that might be necessary to information technology systems, processes and internal controls to capture new data and address changes in financial reporting requirements. In the past there was industry-specific guidance. The new standard provides a single, comprehensive revenue recognition model.

The underlying principle is that an entity will recognize revenue to show the transfer of goods or services to customers at an amount that the entity expects to be entitled in exchange for those goods and services. The revenue standard applies to all contracts with customers, except for the following:

  • Lease contracts;
  • Insurance contracts;
  • Financial instruments and certain contractual rights or obligations within the scope of other standards;
  • Nonmonetary exchanges between entities in the same line of business to facilitate sales to customers; and
  • Certain guarantees within the scope of other standards.

Please note that although contributions are not included in the exceptions listed above, contributions are considered support and not revenue. Contributions may contain restrictions on use but there is no specific customer receiving a good or service for their financial exchange. Entities will need to follow a five-step approach to apply the standard to contracts with customers:

Step 1: Identify the contract with a customer
Step 2: Identify the separate performance obligations in the contract
Step 3: Determine the transaction price
Step 4: Allocate the transaction price to separate performance obligations

Step 5: Recognize revenue when or as each performance obligation is satisfied

The standard prescribes accounting for an individual contract with a customer, but allows for application of the guidance to a group of contracts with similar characteristics, if the entity is consistent with its application.

It is anticipated that entities may struggle with how to apply the new standard to their particular situation. The FASB and IASB have formed the Joint Transition Resource Group for Revenue Recognition (TRG) to address these issues. Some of the issues include gross versus net revenue, sales-based and usage-based royalties in contracts with licenses and goods or services other than licenses and impairment testing of capitalized contract costs. The FASB is looking at deferring the implementation date but organizations need to continue implementation work.

For more information, please contact your local UHY LLP professional.