The Financial Accounting Standards Board’s (FASB) Emerging Issues Task Force (EITF) agreed on Jan. 18, 2018, to account for cloud computing costs in the same manner as the expenses for licensed software.
The decision lets businesses capitalize the cost of training employees and reconfiguring systems and amortize the cost over the contract’s life instead of having to book a significant, one-time expense. Cloud-computing arrangements that do not contain a license would follow an approach similar to the one the FASB issued in 2015 in Accounting Standards Update (ASU) No. 2015-05, Intangibles—Goodwill and Other— Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement.
The EITF decision reversed a tentative consensus from October, when a majority of the task force backed a different approach for capitalizing the costs of cloud computing contract. But as the FASB’s research staff studied the matter, it arrived at what it said was a simpler approach that it presented to the task force for the January meeting.
“It’s following the economics, keeping the scope relatively narrow, and not introducing unnecessary and undue complexity,” said EITF member James Campbell, vice president and chief accounting officer for Alphabet Inc.
The panel agreed that the amortization of the capitalized implementation costs should be recognized in the same income statement line item as the expense for the hosting service.
The FASB’s EITF, whose members hail from audit firms, rating agencies, businesses and professional groups, is set up to address limited accounting questions from financial reporting professionals and auditors and then produce relatively simple solutions, subject to the FASB’s approval. The EITF often takes up a question and provides an answer in one or two meetings. But the cloud-computing issue became one of the task force’s more complicated projects within recent memory, and many members expressed frustration about the difficulty they had arriving at a solution.
“We’ve been talking about this a long time; a lot of this is in the eye of the beholder,” said EITF member Paul Beswick, a partner at a major accounting firm. “The board asked us to deal with a very narrow fact pattern. I view [the EITF decision] as doing that. I don’t proclaim it as conceptual, but it gets the job done.”
The question goes back two years, to the publication of ASU No. 2015-05, which was an effort to help businesses distinguish between whether the purchase of cloud services should be accounted for as the purchase of a license to own the software or a service contract. The guidance added to Subtopic 350-40, Intangibles—Goodwill and Other—Internal-Use Software, was intended to help make the distinction.
Under the 2015 update, if a cloud computing arrangement includes a software license, then the customer should account for the license consistent with the acquisition of other software licenses in Subtopic 350-40. This generally means that an asset is recognized for the software license itself, and, if payments for the software license are made over time, a liability also is recognized. If a cloud computing arrangement does not include a software license, the customer should account for the arrangement as a service contract. The hosting fees are expensed as they are incurred, the FASB said.
As the FASB finalized the 2015 update, businesses asked the board to address the accounting for the upfront costs associated with cloud computing arrangements that do not transfer a license to a customer. The board decided it was too broad of an issue to address in what it intended to be the narrow scope of ASU No. 2015-05, but the questions have persisted in the three years since the update was published.
The costs to set up the cloud-based services are often significant, and many companies see no economic difference between a contract that includes a license to run a business application and a contract to run a similar application via cloud computing. The businesses also preferred not to have to report big expenses — up to hundreds of millions of dollars for some applications — in the period they set up the arrangements.
“Right now we’ve got two different approaches to the same activity, and we ought to have the same approach,” FASB member Harold Monk said.
But coming up with an approach that made conceptual sense proved frustrating for the task force and FASB.
FASB member Christine Botosan said she would dissent from the issuance of an exposure draft. If businesses want simplicity, then the simplest accounting would be to expense the costs as they are incurred. She viewed the task force’s decision as an incentive for businesses to structure deals so they can spread out costs. She also said the proposal would create a new model for cloud computing “that says you can capitalize implementation costs without capitalizing the underlying asset that you’re implementing.”
“I don’t know where else in the accounting guidance where you can do that. I don’t know what the basis for that is,” Botosan said. In her view the EITF decision will create an “accounting subsidy.”
Botosan added, “We are going to encourage a lot of transaction structuring. We won’t see licenses. We won’t see leases. We won’t see outright software purchases anymore because there’ll be this incentive to do these cloud-computing arrangements that don’t include licenses. That’s not economically neutral accounting.”
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