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The Financial Accounting Standards Board’s (FASB) new revenue recognition standard (ASC 606) is a significant change that affects nonprofits of all types and sizes. While the deadline for public companies has already passed, many nonprofits and private companies have until Jan. 1, 2019 to implement the new standard. Meanwhile, entities with a June 30, 2018 year-end have until July 1, 2019.
What prompted the new guidelines, and how can nonprofits prepare? We had the opportunity to answer these questions in a recent New York Nonprofit (NPN) Media podcast with Aimee Simpierre.
Please see a summary of the podcast’s top questions and answers below.
What prompted the FASB to issue the new revenue recognition standard?
There are two main reasons the FASB would issue an accounting standard update (ASU). The first is to address diversity in practice and standardize common practices. Why, for example, would one nonprofit that was awarded a contract mark it as a contribution, while another in the same situation mark it as an exchange or reciprocal transaction? Through the ASU, the FASB addresses such differences. The second reason is to keep up with the times. For example, the FASB recently issued an ASU on cloud computing, which would have been an alien concept 30 years ago.
ASC 606 was born out of the FASB and the International Accounting Standards Board’s (IASB) desire to converge multiple accounting standards. One of the biggest areas where the U.S. generally accepted accounting principles (U.S. GAAP) was different from those of other countries was revenue. In the U.S., revenue recognition principles varied widely by industry sector. The new standard is meant to help organizations around the world and across industries recognize revenue in the same way, barring a few exceptions.
How will organizations need to shift their accounting practices to accommodate the new standard?
The new standard prompted many organizations to switch from a risk and rewards-based model to a control-based model when it comes to dealing with contracts with a customer, or a relationship where there’s a reciprocal transaction. Basically, organizations are recognizing revenue when they earn it, which is usually when they transfer control.
For example, let’s say you went to Starbucks, and you ordered a cup of coffee. When will Starbucks recognize the revenue? When you get the cup of coffee, and they get $5—in other words, when both parties are satisfied and receive something of reciprocal value.
Many nonprofits have fee-for-service contracts, in which they’re getting a fee from the government in return for the services performed. Under the new standard, they’re going to have to look at each contract and fee, and determine whether each one is an exchange transaction, contribution or both. Nonprofits will need to use judgment in assessing all these different components. When they’re coming up with the estimates, they will need documentation to support those estimates.
How can nonprofits prepare for revenue recognition?
Nonprofits should start early and be as proactive as possible so that there are no surprises when the ASC 606 deadline comes.
We recommend a seven-step model to readiness:
1. Become familiar with the standard. The 700-page standard may seem daunting, but reading the summary is a great starting point for nonprofit board members and management, in addition to working with an independent accountant.
2. Take inventory of all your current revenue streams. Nonprofits often have several different types of revenue streams, even within one organization. They should walk each stream through the five-step model in ASC 606.
3. Identify any differences between your organization’s current practices and the new standard for each contract.
4. Review how your revenue is currently being recorded. Determine if it’s going to be recorded over time or at a point in time.
5. See if any additional resources are needed, including personnel, systems and internal controls.
6. Determine how your disclosure requirements may need to change.
7. Prepare mock-up financial statements. These will help you assess the standard’s impact.
Board members should also become familiar with the standard and management’s plans to implement it. While some nonprofits may discover that their reporting still looks the same under the new standard, it’s important they go through all the steps to ensure they are in compliance.
Listen to the original NYN Media podcast here.
For more information, contact your Marvin and Company, P.C. representative.