Below, please find the most updated audit ASC 606:
ASC 606 might not apply to your nonprofit, but it’s easy to determine whether it affects your organization or not.
For example, if you sell goods or services at any point throughout the year, ASC 606 applies to your nonprofit. This includes organizations that:
- Sell services, merchandise, or other goods and products, as this falls under the purview of ASC 606.
- Hosts galas or other fundraising events where guests are charged admission, resulting in exchange revenue, hence the adherence to ASC 606.
In addition to these scenarios, ASC 606 rules apply to somewhat unconventional settings. For example, some organizations don’t charge participants for their services but bill a third party for the services rendered (including Medicaid or insurance companies). While it might not be a classic display of exchange revenue, this still classifies as such and falls under the ASC 606 regulations.
Aside from this, other areas you might consider part of the ASC 606 might not fall under these regulations. For example, gifts, contributions, and grants paid to your organization aren’t considered exchange revenue, even if they’re restricted for specific purposes. Due to this classification, gifts, contributions, and grants are exempt from ASC 606.
ASC 606 outlines a 5-step process that accountants can use to analyses an organization’s exchange-based revenue stream. Using this process, accountants can determine when and how to recognize revenue on income statements or statements of activities.
ASC 606 5-Step Process:
Upon a first look, the five-step process, as outlined by AICPA, can seem quite intimidating. However, despite the overwhelming appearance, it’s based on a straightforward principle: revenue can only be recognized when (or as) goods or services are provided.
So, it doesn’t matter when the customer actually pays. For example, the customer could pay you before receiving the goods or services, but you still recognize that payment as deferred revenue until meeting the performance obligation.
Or, if a customer pays after you provide the goods or services, you can recognize revenue once you meet the obligation and record the transaction in accounts receivable until the customer makes the payment.
Applying the five-step revenue recognition process varies from one organization to the next, but here’s what the base process entails.
1. Identify The Contract With The Customer
The first step in this process involves identifying the contract with the customer. Any time the nonprofit has an agreement with a third party to exchange goods or services for anything of monetary value, there is a contract.
For instance, when you buy a book from a local nonprofit bookstore, you enter into a contract. While the agreement isn’t explicitly written, this concept remains true from a technical standpoint. So, the first step in analysing your organization’s revenue is to identify when your customers enter contracts with you.
2. Identify The Performance Obligation(s) In The Contract
Secondly, you need to identify the performance obligations stipulated in the contract. The performance obligation is straightforward: it is what the customer pays for.
In some cases, the contract may involve multiple performance obligations. For example, a nonprofit organization that is providing consulting services might outline multiple separate “milestones” throughout a 2-year contract. These milestones could include reports, presentations, or whitepapers that might be considered each a different performance obligation, making up parts of a larger contract.
Ultimately, a nonprofit can’t recognize this until a performance obligation is met. For example, suppose your nonprofit receives a payment of $5,000 in advance to perform consulting work at a future date. In that case, you cannot consider that money to be “revenue” until you begin to meet the performance obligations.
3. Determine The Transaction Price
Next, you need to determine the transaction price. In some contracts, this step is simple. For example, if you sell a book for $10, its transaction price is $10.
However, if you engage in a contract for consulting services where your total contract price totals $10,000, but there are several separate performance obligations with numerous components and considerations, this becomes more complex.
When you offer discounts, you must remove them from the total price if the discounts are considered likely to be exercised.
4. Allocate The Transaction Price To Performance Obligations
In the fourth step, you must allocate the transaction price to the performance obligations. Circle back to the example of the $10 book – if you sell a distinct good or service and there is only a single performance obligation, this is simple. You sell the book for $10, so the performance obligation (the book) is directly associated with the $10 price tag.
However, if you’re providing consulting services with a set of milestones (or performance obligations) for a single total transaction price, you need to estimate the relative value of each milestone. Consider the example of a $10,000 consulting contract. If you break this into milestones, it might look somewhat like this:
- $1,000 for the initial assessment and report
- $4,000 for the board presentation
- $5,000 for the whitepaper at the end of the engagement
Of course, the contract might not divide the pricing like this, so you may have to estimate the allocation of price to each separate performance obligation.
5. Recognize Revenue When (Or As) The Entity Satisfies A Performance Obligation
The final step in the process is recognizing the revenue. Once you sell a book for $10 (or whatever the price), you can immediately acknowledge revenue once you hand the book to the customer, as the performance obligation is complete.
Or, if you’re providing consulting services, you may only recognize revenue as each performance obligation is met based on the relative value you assign to each obligation. Based on the example above, you could recognize the first $1,000 in revenue after completing the initial assessment and report. Then, after completing the whitepaper, you can recognize the final $5,000 from the contract as revenue.
What About Contributed/Non-Exchange Revenue?
ASC 606 and exchange revenue are entirely different from contributed or non-exchange revenue. Although we’ll cover contributed or non-exchange revenue in a future article, it’s essential to note these differences.
ASC 958, the section that covers contributed and non-exchange revenue, is entirely different from ASC 606, which we outlined in this article. Therefore, it’s essential you don’t confuse the two sets of regulations. Many nonprofits have exchange and non-exchange revenue, so understanding both sets of standards and how they impact your revenue streams is imperative.
Understanding ASC 606 for Your Nonprofit:
While we’ve referred to ASC 606 as the “new revenue recognition standards” for nearly a decade, they’re far from new. However, just because these rules have been around for a few years doesn’t mean everyone fully understands them. For your nonprofit to run smoothly and compliantly, you must understand how ASC 606 impacts your organization.
