FASB proposes clarifications to accounting for grants and contributions
At a glance
A new FASB proposal will become effective in 2019 and will require nonprofits to account for grants from the government differently and may affect the timing of revenue and expense recognition for both recipients and funders of condition grants and gifts.
On August 3, the FASB proposed rules that would require some grants received by not-for-profit entities (NFPs) to be accounted for under the contribution accounting model instead of the new revenue recognition standard. The proposed changes could also alter the timing of recognition of revenues or expenses for conditional grants and gifts under the contribution accounting model. While accounting for contributions primarily affects NFP entities, the proposed amendments would apply to all entities, including business entities that make contributions or grants.
Five-step approach for revenue recognition
The core principle of the new standard is that revenue recognition should “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” (ASC 606-10-05-3). To accomplish this objective, reporting entities are to apply a five-step approach:
- 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 (or as) the entity satisfies a performance obligation.
The differentiator between a contribution and an exchange transaction is whether there has been an “exchange of commensurate value.” The exposure draft proposes enhanced guidance for determining when such an exchange has taken place between the parties to a grant or gift arrangement. In an exchange transaction accounted for under the new revenue recognition standard, reciprocal benefits flow directly between the parties to the arrangement. If benefits ultimately flow to the general public, rather than to the funder, the proposal would require that the arrangement be accounted for as a contribution, rather than as an exchange transaction. This might occur when, for example, a government agency uses a grant arrangement to outsource its own obligation to provide certain benefits to the public. Because NFPs and business entities generally account for federal grant awards as exchange transactions today, the proposal would be a significant change for NFPs. However, business entities would not be affected, because transfers of resources from governments to business entities are outside the scope of the contribution accounting guidance.
The proposal would shift revenue recognition for many grants received by NFPs from an exchange model to the model for “conditional contributions.” Consequently, the FASB also proposes changes that would clarify the accounting for conditional contributions.
Those changes would also affect donors and donees in gift transactions. When a gift or grant is conditional, neither the giver nor the receiver can recognize expense or revenue until the condition is satisfied. The proposal would redefine a “conditional” gift or grant as one that specifies a barrier that must be overcome to be entitled to the promised funds, along with a requirement that the funds be returned (or the promisor released from its obligation) if the barrier is not overcome. Unless a gift or grant includes these more restrictive provisions, gifts or grants deemed to be “conditional” today would no longer qualify. As a result, recipients would recognize contribution income, and grantors
or donors would recognize contribution expense, earlier than they do today.
The proposed amendments would have the same effective date as the new revenue standard. For public business entities and conduit bond obligors with publicly-traded debt, the proposed rules would be effective for annual reporting periods beginning after December 15, 2017. Other entities would have an additional year.
Why is this important?
The proposed ASU would provide a more robust framework to determine when a transaction should be accounted for under the contribution accounting model or as an exchange transaction accounted for under other guidance (for example, ASC 606). In doing so, it seeks to harmonize the revenue recognition model used by NFPs for government grants, foundation grants, and charitable contributions. However, NFPs and
business entities could end up applying different revenue recognition models to similar grant transactions. The proposal also underscores the FASB’s intent that accounting for contributions should be consistent from the perspective of both the maker and the recipient of a contribution
or grant. Thus, the proposed changes for determining whether a contribution is conditional would apply equally to both resource providers and recipients.