The Financial Accounting Standards Board has amended the converged revenue recognition standard it developed with the International Accounting Standards Board to add more guidance about principal versus agent considerations.
The changes in the accounting standards update reflect an issue identified by the joint Transition Resource Group, or TRG, that FASB and the IASB set up in 2014 after issuing the long-awaited revenue recognition standard. The group asked for further guidance on several issues, including principal versus agent considerations, and both FASB and the IASB agreed to amend the standard. Both boards issued proposed changes last summer (see FASB Proposes to Clarify Revenue Recognition Standard and IASB Proposes Changes in Revenue Recognition Standard). The changes should not affect the convergence between the standards under U.S. GAAP and International Financial Reporting Standards since they are identical.
An issue discussed by the TRG relates to when another party, along with the entity, is involved in providing a good or a service to a customer. Under those circumstances, the revenue recognition standard, known as Topic 606 in FASB’s Accounting Standards Codification, requires an entity to determine whether the nature of its promise is to provide that good or service to the customer (that is, the entity is a principal) or to arrange for the good or service to be provided to the customer by the other party (that is, the entity is an agent).
The determination is based upon whether the entity controls the good or service before transferring it to the customer. Members of the Transition Resource Group told FASB and the IASB about implementation issues related to the guidance on principal versus agent considerations, including identifying the unit of account at which an entity should assess whether it is a principal or an agent; identifying the nature of the good or the service provided to the customer (for example, whether it is a good, a service, or a right to a good or service); applying the control principle to certain types of transactions, such as service arrangements; and interaction of the control principle with the indicators provided to assist in the principal versus agent evaluation.
To address those issues, the boards decided to add a project to their technical agenda to improve the standard. FASB said the core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.
To achieve that core principle, an entity should apply the following steps:
1. Identify the contract(s) with a customer.
2. Identify the performance obligations in the contract.
3. Determine the transaction price.
4. Allocate the transaction price to the performance obligations in the contract.
5. Recognize revenue when (or as) the entity satisfies a performance obligation.
The amendments do not change the core principle of the guidance, FASB noted. They simply clarify the implementation guidance on principal versus agent considerations. When another party is involved in providing goods or services to a customer, an entity is required to determine whether the nature of its promise is to provide the specified good or service itself (that is, the entity is a principal) or to arrange for that good or service to be provided by the other party (that is, the entity is an agent). When an entity that is a principal satisfies a performance obligation, the entity recognizes revenue in the gross amount of consideration to which it expects to be entitled in exchange for the specified good or service transferred to the customer. When an entity that is an agent satisfies a performance obligation, the entity recognizes revenue in the amount of any fee or commission to which it expects to be entitled in exchange for arranging for the specified good or service to be provided by the other party. An entity is a principal if it controls the specified good or service before that good or service is transferred to a customer.
The guidance includes indicators to help an entity determine whether it controls a specified good or service before transferring it to the customer.
Last summer, FASB and the IASB jointly decided to defer the effective date of the revenue recognition standard for one year. U.S. public companies should apply the new revenue standard to annual reporting periods beginning after Dec. 15, 2017. Nonpublic organizations should apply the new revenue standard to annual reporting periods beginning after Dec. 15, 2018.
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