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Financial Reporting and Regulatory Update

Second Quarter 2018

From the FASB

Final Standards

Clarifying the Scope and Guidance for Contributions for Not-for-Profit Entities

On June 21, 2018, the FASB issued Accounting Standards Update (ASU) 2018-08, “Not-for-Profit Entities (Topic 958): Clarifying the Scope and the Accounting Guidance for Contributions Received and Contributions Made.” Accounting for contributions is an issue primarily for not-for-profit (NFP) entities; however, this update applies to all entities, including business entities that receive or make contributions of cash and other assets.

The update clarifies guidance about whether a transfer of assets (or reduction, settlement, or cancellation of liabilities) is an exchange transaction or a contribution. The update provides criteria for determining whether the resource provider is receiving commensurate value in return for the resources transferred. If the resource provider is receiving commensurate value, this would be an exchange transaction, and entities would apply Topic 606 (“Revenue From Contracts With Customers”) or other applicable guidance. A contribution would be a nonreciprocal transaction within the scope of Topic 958.

In addition, the update provides guidance on determining whether contributions are conditional or unconditional, which affects the timing of revenue recognition. This determination is made on the basis of whether an agreement includes a barrier that must be overcome and either a right of return of assets transferred or a right of release of a promisor‘s obligation to transfer assets. The update contains indicators that guide the assessment of whether an agreement contains a barrier. Indicators include whether there is a measurable performance-related barrier or other measurable barrier, the extent to which a stipulation limits discretion by the recipient on the conduct of an activity, and whether there is a stipulation related to the purpose of the agreement. The presence of both a barrier and a right of return or a right of release indicates that a recipient is not entitled to the assets until it has overcome the barrier in the agreement, and the contribution is therefore conditional.

The update may result in more grants and contracts being accounted for as contributions than under current practice, particularly related to grants and contracts received by not-for-profits from governments.

Modified prospective transition is required, but the there is an option to apply the retrospective method.

For public business entities (PBEs) or an NFP that has issued, or is a conduit bond obligor for, securities that are traded, listed, or quoted on an exchange or an over-the-counter market, and serves as a resource recipient, the amendments for contributions received are effective in annual periods beginning after June 15, 2018, including interim periods within. For all other entities, the amendments for contributions received are effective in annual periods beginning after Dec. 15, 2018, and interim periods within annual periods beginning after Dec. 15, 2019.

For PBEs or an NFP that has issued, or is a conduit bond obligor for, securities that are traded, listed, or quoted on an exchange or an over-the-counter market and serves as a resource provider, the amendments for contributions made are effective in annual periods beginning after Dec. 15, 2018, including interim periods within. For all other entities, the amendments for contributions made are effective in annual periods beginning after Dec. 15, 2019, and interim periods within annual periods beginning after Dec. 15, 2020.

Early adoption is permitted.

Improvements to Nonemployee Share-Based Payments

On June 20, 2018, the FASB issued ASU 2018-07, “Compensation – Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting,” to simplify the accounting for nonemployee share-based payments for goods or services to be used in a grantor’s own operations, by aligning it with and including it within the scope of Topic 718 for employee share-based compensation.

The guidance clarifies that the following are outside the scope of Topic 718:

  • Inputs to an option pricing model and the attribution of cost (that is, the vesting period and pattern of recognition) for nonemployee payments
  • Share-based payments to provide financing to the issuer
  • Share-based payments to grant awards in conjunction with selling goods or services to customers as part of a contract under Topic 606, “Revenue From Contracts With Customers”

Under the new guidance, the following changes will apply to nonemployee share-based payment awards:

  • Instead of measuring at the fair value of the consideration received or the fair value of the equity instruments issued, the awards will be measured at grant date fair value.
  • Instead of measuring at the earlier of when a commitment for performance by the counterparty is reached or the date at which the counterparty’s performance is complete, the awards will be measured at the grant date.
  • Instead of measuring awards with performance conditions at the lowest aggregate fair value, the grantor will consider the probability of satisfying performance conditions contained in the awards.
  • The classification of equity-classified awards no longer will need to be reassessed upon vesting unless award modifications occur after they vest and the nonemployee is no longer providing goods or services.

Two practical expedients are available for nonpublic entities:

  • Intrinsic value. A nonpublic entity can make a one-time election to switch from measuring liability-classified nonemployee awards at fair value to measuring at intrinsic value. Regardless of the election, liability-classified awards would be subject to remeasurement until exercise.
  • Calculated value (volatility). A nonpublic entity may account for nonemployee awards on the basis of a calculated value using historical volatility of an appropriate industry sector index instead of the expected volatility of its own share price when it is not practicable to estimate.

For PBEs, the ASU is effective for fiscal years beginning after Dec. 15, 2018, including interim periods within, which first applies to March 31, 2019, interim financial statements for calendar year-end PBEs. For all other entities, it is effective for fiscal years beginning after Dec. 15, 2019, and interim periods within fiscal years beginning after Dec. 15, 2020. Early adoption is permitted, including in an interim period, but no earlier than the adoption of Topic 606, “Revenue From Contracts With Customers.”

Rescission of Obsolete Deferred Tax Guidance for Financial Institutions

On May 7, 2018, the FASB issued ASU 2018-06, “Codification Improvements to Topic 942, Financial Services – Depository and Lending.” It supersedes guidance that originated from the Office of the Comptroller of the Currency (OCC) Banking Circular 202, “Accounting for Net Deferred Tax Charges,” which limits the net deferred tax debits that could be carried on a financial institution’s balance sheet for regulatory purposes to the amount that would be coverable by the net operating losses carrybacks. Because the OCC previously rescinded this guidance, it is no longer relevant.

No significant change in current practice is expected, and the final ASU is effective immediately.

Proposals

Definition of Collections for Not-for-Profit Entities

On June 26, 2018, the FASB issued a proposed ASU, “Not-for-Profit Entities (Topic 958): Updating the Definition of Collections,” to address diversity in practice between the application of the definition of the term “collections” in the FASB Accounting Standards Codification (ASC) Master Glossary and the definition that many entities use for operability and accreditation purposes.

The proposed ASU would modify the definition of the term “collections.” GAAP states that an entity is not required to recognize contributions of works of art, historical treasures, and similar assets if the donated items are added to collections and meet all three criteria in the Master Glossary definition. One of the criteria in the current definition states that the items must be subject to an organizational policy that requires the proceeds from items that are sold to be used to acquire other items for collections. The proposed amendment would modify that criteria to allow the proceeds to be used to support the direct care of existing collections in addition to acquiring other items for collections. The care and preservation of collections is the basis for permitting entities to not recognize contributed collections and the proposed amendment aligns the Master Glossary definition with this basis.

Accounting for collections is primarily an issue for certain NFP entities that hold collections; however, the proposed amendments would apply to all entities, including business entities that maintain collections.

The proposed updates would be effective upon issuance of a final update for all entities and would be applied on a prospective basis, with an option to apply the proposed amendments retrospectively.

Collaboration Arrangements

On April 26, 2018, the FASB issued a proposed ASU, “Collaborative Arrangements (Topic 808): Targeted Improvements,” that would affect companies that enter into collaborative arrangements, which are common in the biotech industry, and clarify the interaction between Topic 808 on collaborative arrangements and Topic 606 on revenue from contracts with customers. A collaborative arrangement is defined in the ASC Master Glossary in this way:

“A contractual arrangement that involves a joint operating activity. These arrangements involve two (or more) parties that meet both of the following requirements:

  1. They are active participants in the activity.
  2. They are exposed to significant risks and rewards dependent on the commercial success of the activity.”

The proposal would revise the accounting for collaborative arrangements as follows:

  • An entity would determine whether a collaborative arrangement or a component of the arrangement is in the scope of Topic 606.
  • Topic 606 would be applied in its entirety when the other participant to the arrangement is a customer.
  • Revenue presentation would not be allowed for transactions that are not directly related to third-party sales, and when the collaborative participant is not a customer.

Comments were due June 11, 2018.

Other FASB Topics

EITF Final Consensus on Cloud Computing Arrangements (CCAs)

At its meeting on June 7, 2018, the Emerging Issues Task Force (EITF) voted to issue a final consensus on Issue 17-A, “Customer’s Accounting for Implementation, Setup, and Other Upfront Costs (Implementation Costs) Incurred in a Cloud Computing Arrangement That Is Considered a Service Contract.” Consistent with the proposal, the accounting for implementation costs for CCAs that are service contracts will align with the requirements in ASC Subtopic 350-40 for internal-use software by capitalizing implementation costs during the development stage and amortizing those costs over the term of the hosting arrangement. Amortization of the capitalized implementation costs will be presented in the same income statement line item as hosting arrangement fees. Capitalized implementation costs will be presented in the same line items on the balance sheet and the cash flow statement as hosting arrangement fees.

Once issued, the final standard, which could be early adopted, will be effective for public business entities in fiscal years beginning after Dec. 15, 2019, and interim periods within those years. For all other entities it will be effective for years beginning after Dec. 15, 2020, and interim periods within fiscal years beginning after Dec. 15, 2021.

TRG for Credit Losses Meeting

The Transition Resource Group (TRG) for Credit Losses met on June 11, 2018, to discuss the following additional implementation issues for the credit losses standard:

  • Capitalized interest – how capitalized interest should be considered when estimating current expected credit losses (CECL) using a method other than a discounted cash flow (DCF) method. On page 11 in Memo No. 8, the FASB staff provided its recommendation that it would be inappropriate to consider unearned accrued interest when calculating CECL if following a method other than a DCF approach.
  • Accrued interest – 1) whether to include accrued interest in the amended definition of amortized cost, and 2) whether the reversal of accrued interest on nonperforming financial assets should be recorded in interest income or allowance. For the first matter, the FASB staff supported the current definition of amortized cost basis that includes accrued interest, but it recommended that the board provide practical expedients to perform an assessment of collectibility and determine expected cash flows for accrued interest separately from the loan balance and other components of amortized cost. For the second matter, the FASB staff said if an entity follows a sufficient nonaccrual policy, it would reverse accrued interest on loans in nonaccrual status by reversing interest income and reducing the amortized cost basis of the loans. The FASB staff determined that further deliberation was necessary to understand the impact of the recommended approach on credit card receivables. The FASB staff provided its recommendations on pages 9-10 and 13-14 in Memo No. 9.
  • Transfers between classifications – how to apply CECL when transferring loans from held for sale (HFS) to held for investment (HFI) or credit impaired debt securities from available for sale (AFS) to held to maturity (HTM). The FASB staff provided its recommendations on pages 7-11 in Memo No. 10.
  • Recoveries – whether future expected cash receipts from a financial asset that has been written off or may be written off in the future (expected recoveries) should be included in the calculation of CECL. The FASB staff provided its recommendations on pages 12 and 13 in Memo No. 11.
  • Refinancing and loan prepayment – whether entities are required to use the loan refinancing or restructuring guidance in Subtopic 310-20, “Receivables – Nonrefundable Fees and Other Costs,” to determine what constitutes a prepayment for the purposes of calculating CECL. The FASB staff provided its recommendation on pages 7-8 in Memo No. 12 that entities should not be required to use the loan modification guidance. The staff also shared its recommendation that prepayments should not be specifically defined for purposes of calculating the allowance.

The TRG largely agreed with the FASB staff recommendations. The conclusions will be memorialized in a TRG memo.

Accounting Standards That Work – Russell Golden, FASB Chairman

On May 3, 2018, in his opening remarks before the 2018 Baruch College Financial Reporting Conference, FASB Chairman Russell Golden spoke about one of the FASB’s key priorities – to set “[accounting] standards that work.” He explained that accounting standards that work promote truth telling, help investors make better decisions, and reflect economic reality versus trying to drive that reality. In contrast, standards that don’t work are complex, are too costly, and create anxiety and frustration.

Golden explained that the FASB engages in significant outreach throughout the life cycle of the standard-setting process in order to foster the setting of standards that work. This outreach includes identifying the right accounting issues to address, generating possible and workable solutions to those issues, and ultimately assisting both users and preparers in their application of the FASB’s accounting standards. Golden highlighted the board’s significant efforts to support implementation related to the new revenue recognition, leasing, and credit loss accounting standards. He also discussed how constituent outreach meaningfully affects the items that are part of the FASB’s research and technical agendas.

Golden also covered the FASB’s efforts to ensure that decisions reached by FASB board members are consistent across time – particularly, as board members change. He specifically mentioned the FASB’s recent and ongoing efforts to revise and enhance its Conceptual Framework, including issuing new guidance on making decisions about disclosures and materiality.

To conclude, Golden emphasized that accounting standards that work are always a work in progress. While not all issues can be addressed successfully by standard-setting, the FASB works to make decisions that are consistent and clear. Golden encouraged the audience to continue its dialogue with the FASB to help identify and resolve accounting issues.

FAF Annual Report for 2017

On May 23, 2018, the Financial Accounting Foundation (FAF) (that is, the independent organization responsible for oversight of the FASB and the GASB) released its annual report for 2017. The report includes a letter from Golden, FASB highlights, and the FAF’s 2017 audited financial statements and management’s discussion and analysis of the financial results.

FASAC Meeting

On June 8, 2018, the Financial Accounting Standards Advisory Council (FASAC) met primarily to discuss two topics:

  • Financial performance reporting and disaggregation of performance information
  • Subsequent accounting for goodwill and possible decision-making factors

The next FASAC meeting is scheduled for Sept. 25, 2018.