FASB's Latest Update: Streamlining Cloud-Based Computing Arrangement Accounting

FASB's Latest Update: Streamlining Cloud-Based Computing Arrangement Accounting

In the ever-evolving landscape of accounting standards, the Financial Accounting Standards Board (FASB) has recently issued an update that brings clarity to the accounting treatment of costs associated with implementing cloud-based computing arrangements. This update, denoted as ASU 2018-05 under the topic Intangibles-Goodwill and Other: Internal-Use Software (Subtopic 350-40), specifically addresses the distinction between service contracts and software licenses, offering guidelines for the capitalization and expensing of costs incurred by customers.

Background: ASU 2015-05 and Internal-Use Software Licenses

Before delving into the intricacies of ASU 2018-05, it's essential to understand the context provided by its predecessor, ASU 2015-05. The primary focus of ASU 2015-05 was to delineate when an arrangement incorporates an internal-use software license, elucidating that such arrangements should adhere to the guidelines outlined in Subtopic 350-40.

Under the provisions of ASU 2015-05, when a cloud computing arrangement is deemed a service contract, the associated fees are expensed as they are incurred. However, if the arrangement involves an internal-use software license, an intangible asset is recognized for the license, and payments made over time are acknowledged as liabilities.Carlos Alvarez

ASU 2018-05: Unveiling Nuances in Implementation Costs Accounting

ASU 2018-05 emerges as a response to the evolving landscape of cloud-based computing arrangements, aiming to refine the accounting treatment for costs related to the customer's implementation, setup, and other upfront expenses associated with service contracts. Unlike its predecessor, which primarily focused on the distinction between service contracts and software licenses, ASU 2018-05 zooms in on the intricacies of capitalization and expensing during various stages of a project.

Capitalization Criteria Based on Project Stages

ASU 2018-05 introduces a nuanced approach to the capitalization of costs, contingent on the stage of the cloud-based computing project. Here's a breakdown of how costs are treated at different stages:

  • Preliminary and Post-implementation Stages:
    • Costs incurred during these stages are expensed as they are incurred.
  • Application Development Stage:
    • Capitalization of costs during this stage is contingent on the nature of the costs.
    • Eligible costs may be capitalized and expensed over the term of the hosting arrangement.

Determining Capitalized Costs Period

Capitalized costs are amortized over the duration of the hosting arrangement, which comprises the noncancelable arrangement period. Additionally, it includes periods covered by:

  • Options to Extend:
    • If the customer is reasonably certain to exercise the extension option.
  • Options to Terminate:
    • If the customer is reasonably certain not to exercise the termination option.
  • Options under Vendor Control:
    • Periods influenced by options under the control of the vendor.

Presentation of Expenses

The update emphasizes the importance of presenting related expenses in the same line item as fees associated with the hosting element. This ensures transparency and clarity in financial reporting. Furthermore, guidance related to impairment and abandonment of long-lived assets is applicable in cases of capitalized costs.

Effective Dates and Adoption

ASU 2018-05 has staggered effective dates based on the nature of the entity:

  • Public Business Entities:
    • Effective for fiscal years beginning after December 15, 2019, and interim periods within.
  • Other Entities:
    • Effective for fiscal years beginning after December 15, 2020, and interim periods a year thereafter.

Early adoption is permitted, providing entities with the flexibility to align their practices with the updated standards sooner.

Navigating the Cloud with Clarity

The issuance of ASU 2018-05 marks a pivotal moment in the accounting landscape, particularly for entities engaged in cloud-based computing arrangements. By providing nuanced guidance on the treatment of implementation costs at various project stages, FASB aims to enhance transparency, consistency, and relevance in financial reporting.

For entities navigating the complexities of cloud-based computing, understanding the implications of ASU 2018-05 is paramount. As the effective dates approach, entities should evaluate their existing practices, realign processes, and consider early adoption to stay ahead of the curve. In the ever-evolving digital era, where cloud-based solutions continue to shape business landscapes, FASB's commitment to refining accounting standards ensures that financial reporting remains robust and reflective of contemporary business practices.

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