New Revenue Recognition Standard - What You Need to Know
The Financial Accounting Standards Board (FASB) has released a new standard on revenue recognition that is going to affect almost all businesses. Accounting Standards Codification (ASC) 606 must be put into effect for periods beginning after December 15, 2017 for public companies and December 15, 2018 for non-public companies. This may seem like a long time from now, but the complexities of this new standard require careful consideration and attention.
Under the new revenue recognition standard, revenue should be recognized when there is a transfer of promised goods or services. The amount of revenue recognized should reflect the consideration that the entity expects to be entitled to in the exchange transaction. Under this method, businesses will have to use more of their own judgement when recognizing their revenues.
Why a New Standard?
The FASB has acknowledged that current Generally Accepted Accounting Principles (GAAP) involve complex, detailed and disparate revenue recognition requirements for specific transactions and industries. As a result, different industries use different accounting methods for economically similar transactions.
The goal of ASC 606 is to improve financial reporting and transparency with respect to revenue recognition so that it is consistent across all industries.
To better understand the new standard, steps have been provided to help set up a process to correctly recognize revenue.
The five steps that ASC 606 outlines to recognize revenue are as follows:
- Identify the contract with the customer.
- Identify the performance obligations in the contract.
- Determine the transaction price.
- Allocate the transaction price to the performance obligations in the contract.
- Recognize revenue when the entity satisfies the performance obligation.
How to Adopt the Standard
The FASB is allowing two methods for businesses to change to the new revenue recognition standard. One way is to retrospectively adopt the standard, where the entity restates each period presented to make it look as if the standard was always used. The other way is to apply the standard in the most recent period and have a retrospective adjustment with the cumulative effect recognized at the date it was adopted.
Why is it Important?
ASC 606 is going to alter the way a number of businesses recognize their revenues. This in turn affects income and taxes. Among those most affected are long-term construction contracts, software transactions and real estate. It is also important to understand the new standard because companies will now have to consider the time-value of money in certain situations and have new disclosure requirements. Disclosures should now provide financial statement users with information about the nature, timing, amount and uncertainty of revenue and cash flows from customers.
In the upcoming years, businesses should take the time to learn about ASC 606 so they are prepared to properly apply it and set themselves up for success. Some important things to consider include renegotiations of debt agreements, updating IT systems and the timing of sales commissions. With the flexibility that this new standard provides, entities that are well informed will be able to organize their transactions for positive financial and operational results. With this new standard, it will be to a businesses’ benefit to start early in order to understand the complexities that come with it.
Article compiled by Sarah Brinson. For additional information contact Robert F. Firely at firstname.lastname@example.org.