Reading Writing, and Revenue? Standard Setters Address the Fundamentals
September 3, 2018
Although public and private institutions do not follow the same set of accounting standards, both the Financial Accounting Standards Board (FASB) and the Governmental Accounting Standards Board (GASB) tend to meander toward and around similar agendas. For an area as fundamental as revenue recognition, the timelines of these two boards are as different as their decisions are likely to be. A glimpse follows.
FASB RETHINKS REVENUE
Revenue recognition has been at the top of FASB’s agenda for not-for-profit organizations (NFPs). Effective fiscal year 2019, Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers, (Accounting Standards Codification (ASC) Topic 606), impacts the majority of private colleges and universities by effectively eliminating the concept of exchange transactions in favor of contract evaluations for performance obligations. As a result, NFPs questioned the proper accounting for sponsored research grants. Although such grants do not provide direct value to sponsoring organizations such as federal agencies, their effort, reporting specifications, and reimbursement rules of such grants resulted in exchange-like accounting and reporting.
Research Grants
The National Association of College and University Business Officer’s (NACUBO) Accounting Principles Council raised the issue of sponsored research grant accounting in 2016 with FASB and continued discussions throughout 2017, including comments to an August FASB Exposure Draft. Essentially, FASB determined that sponsored research grants are conditional contributions when sponsors, such as the federal government, do
not receive direct value in return for funds. There are two considerations in determining whether a grantor (donor/sponsor) is receiving commensurate value in return for resources transferred to an NFP and, as such, whether a transaction is a contribution (nonreciprocal) or a contract with a customer (topic 606):
1. An indirect benefit received by the public as a result of the assets transferred to an NFP is not equivalent to commensurate value received by the resource provider.
2. Execution of a resource provider’s mission or the positive sentiment from acting as a donor does not constitute commensurate value.
FASB’s June ASU on contributions provides a more robust framework to determine when a transaction should be accounted for as a contribution under FASB’s codified guidance in Topic 958 (subtopic 605) or as a contract with a customer under Topic 606.
Concerning sponsored research grants, FASB’s new guidance indicates the parameters that would classify such grants as conditional contributions. Specifically, conditional contributions must contain both of the following:
1. A right of return of assets transferred or a right of release of a promisor’s obligation to
transfer assets.
2. A barrier that must be overcome before the recipient is entitled to the assets transferred
or promised.
All federal research grants for knowledge advancement, where institutions retain discovery rights, do not provide direct value to sponsors. Indirect benefits to citizens or science is not a direct exchange under the new guidance. Therefore, such grants will qualify as conditional contributions because the Office of Management and Budget’s Uniform Guidance contains a “right of return” provision and the barrier in such arrangements is the limited discretion and specific work that the institution must perform in order to be entitled to grant funds. Revenue on these grants will be recognized as conditions are met (allowable expenses incurred), which is the same way revenue is recognized under existing guidance. The effective date is the same as ASU 2014-09 (fiscal year 2019) for institutions that are conduit bond obligors or have other publicly-traded debt. Implementation would be on a modified prospective basis. Consequently, implementation will require institutions to apply the new guidance to agreements (promises to give, grants, implementation year contributions) for which revenue has not been fully recognized as of the effective date and for agreements entered into after the effective date. Institutions should begin assessing how to inventory and evaluate grant and donation agreements.
Tuition
As previously mentioned, ASC 606, Revenue from Contracts with Customers, is effective in fiscal year 2019. Institutions will need to pay attention to accounting for their fee for service arrangements (e.g., tuition, fees, housing and dining services) because the analysis and terminology supporting the timing, measurement, and reporting display of revenue will change under the new standards.
To assess revenue recognition, ASC 606 requires the following five 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 obligation in the contract
5. Recognize the revenue when (or as) the entity satisfies a performance obligation
The steps are briefly illustrated below for tuition agreements and revenue recognition.
STEP 1: A traditional undergraduate student’s enrollment agreement is considered a contract. Although the agreement can be one contract document, it will more likely be a series of communications between the institution and the student. Such communications will cover acceptance, academic expectations, semester start and end dates, institutionally provided financial aid, amount the student will be responsible for if they enroll, payment of a non-refundable deposit to the institution to secure a spot, and payment terms for a term bill (which usually is sent at least 30 days before the first day of class, typically some or all must be paid by the first attended class). The vast majority of enrollment agreements also cover a withdrawal period and terms; usually a student can withdraw during at least the first two to three weeks of a semester and be refunded a portion of their tuition amount paid.
STEP 2: The performance obligation corresponding to tuition is delivery of the educational service throughout the contracted academic term.
STEP 3: The transaction price is the amount of consideration to which the institution expects to be entitled in exchange for transferring promised goods or services, and can be fixed or variable. Per FASB ASC 606-10-32-6, consideration can vary because of amounts such as discounts, rebates, refunds, credits, incentives, or other similar items. Institutional aid directly impacts the transaction price as do withdrawal refunds. When institutions have refund policies that allow students to drop courses, or withdraw, and receive a full or partial refund in the first few weeks of a term, the transaction price for tuition is variable because it is affected by a variable amount- the withdrawal refund.
STEP 4: The transaction price is allocated to represent the amount of consideration that the entity expects to receive for transferring the distinct goods or services to the student (i.e., customer). The standard includes a practical expedient that allows the guidance to be applied to a portfolio of contracts with similar characteristics. Colleges and universities would apply the portfolio approach to its tuition contracts.
STEP 5: At the end of each reporting period, progress toward satisfaction of the performance obligation is remeasured. The remaining performance obligation remains a liability on the Statement of Financial Position, and revenue is reflected in the Statement of Activities. Independent institutions will likely recognize revenue pro rata over the duration of the academic period to which the charges relate because the performance obligation for teaching is satisfied over the academic period as the student simultaneously receives and consumes educational services.
The above discussion concerning tuition is extremely brief and does not address known questions to date, such as are enrollment contracts with students binding and non-cancellable or are they cancellable because students can withdraw and be returned a portion of their payment? The accounting varies depending on whether the contract with students are cancellable or non-cancellable. Other related questions continue: When does the college have a receivable for the contract? Is the contract on-going and renewable throughout a student’s pursuit of a degree? How should portfolios be distinguished (e.g., all undergraduates, by class, with or without room and board)? What estimates and structural analysis will be expected by external auditors? What about non-traditional students and varying academic terms that roll and cross fiscal years?
GASB ALSO EXAMINES REVENUE
NACUBO learned during an early 2017 liaison meeting with GASB staff that exploring the conceptual foundation for revenue recognition (and consequently expense recognition) was approved by the Board. At that time the endeavor was expected to be extensive and extend over multiple years. In February, the GASB issued an Invitation to Comment (ITC)—a staff document used in the early stages of a significant project—to obtain stakeholder feedback. When an ITC is used, it is the first in a series of due process documents that will include a “Preliminary Views” and finally an “Exposure Draft.” When the ITC was issued, GASB explained that they were considering a comprehensive model for classifying, recognizing, and measuring revenue and expense transactions because:
• Other accounting standards setters implemented a performance obligation approach for revenue
recognition.
• Existing guidance for exchange revenue and expense transactions is limited, resulting in
inconsistent reporting of information by governments.
• Existing guidance for nonexchange revenue and expense transactions, though generally
effective, could be clarified and improved.
• Robust comprehensive guidance could address a wider range of transactions, improve consistency,
and provide more useful information.
The evaluation of ITC comments by the Board is crucial for mapping out the direction a technical
project will take. The ITC, Revenue and Expense Recognition, discusses two models:
1. An exchange/nonexchange model would be based on existing guidance for nonexchange
transactions and a standardized recognition approach for exchange transactions.
2. A performance obligation/no performance obligation model would retain existing guidance for
transactions without a performance obligation but also would apply a structured recognition
approach for transactions classified as containing a performance obligation.
As of this writing, NACUBO and 48 others submitted comments to GASB. Several, including NACUBO’s Accounting Principles Council, strongly support an exchange/nonexchange model. Although there are identified inconsistencies in practice today when applying the exchange model, NACUBO pointed out that assessing binding agreements, equivalent terms, and performance obligations may be even more complicated than assessing the notion of “equal value” to determine the existence of an exchange. Several additional comments addressed:
• Although the ITC indicates a desire for comprehensive guidance, it seems inconsistent to have significant standards, such as Statements 68 and 75—Pensions and OPEB, respectively—based on an employment exchange and have other guidance based on something other than exchange and nonexchange constructs.
• Institutions that follow FASB continue to sort out questions about higher education’s most fundamental performance obligation contract--tuition. To date, the costs do not outweigh the possible benefits of a performance obligation approach, especially if there is less than a significant difference in the timing or measurement of recognized revenue.
• Because nonexchange reimbursement grants contain performance obligations, Statement 33 would need to be revised for these grants if the performance obligation model was chosen. Since an exchange/nonexchange model would also call for a revision to Statement 33, it would be less burdensome to simply clarify and strengthen existing guidance.
Higher education will continue to monitor FASB and GASB activities around revenue recognition and issue sector-specific implementation guidance as needed.
Next Accounting Roundup:
Standard Board’s views on another fundamental – financial reporting.
About the Author
Sue Menditto
Sue Menditto is the director of accounting policy with NACUBO; smenditto@nacubo.org.
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