Goodwill Amortization For Private Companies

Thanks to a new FASB standard, another albatross has been lifted from the necks of private companies. You can now amortize goodwill of a private company (defined as “all entities except for public business entities and not-for-profit entities…and employee benefit plans”).

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The new FASB standard (ASU 2014–02; Intangibles – Goodwill and Other) has two main points:

  1. You can amortize goodwill over its useful life, not to exceed ten years
  2. You can test for impairment at the entity level or at the reporting unit level

Amortization of Goodwill 

Goodwill should be amortized on a straight-line basis over its useful life not to exceed ten years. If–at later date–you need to revise the original amortization period, do so prospectively on a straight-line basis over the remaining useful life.

Impairment Testing

If a triggering event occurs–an event or conditions that appear to impair goodwill–you should test goodwill for impairment.

Once the triggering event occurs:

Qualitative factors can be assessed to see if impairment has occurred. The qualitative factors are used to determine whether there is more than a 50% chance that goodwill is impaired. If there is (and only if), then compute fair value.

You have the option to bypass the qualitative test and perform a quantitative test for impairment.

The calculation–whether you bypass the qualitative test or not–is compared to the carrying value of goodwill. If the computed amount is less than carrying amount, then you will decrease the carrying amount to fair value–the calculated amount.

To use the alternative standard, an accounting policy election must be made to test for impairment at the entity level or the reporting unit level.

Presentation

Goodwill should be shown as a separate line on the balance sheet, net of amortization.

The amortization or impairment expense should be recognized in continuing operations, unless such expenses are related to a discontinuance of operations–then recognize those expenses within discontinued operations.

Disclosures

Below are a few of the required disclosures (there are others not listed; see the standard for all required disclosures).

The following information shall be disclosed in the financial statements or the notes to the financial statements for each period for which a statement of financial position is presented:

  1. The gross carrying amounts of goodwill, accumulated amortization, and accumulated impairment loss
  2. The aggregate amortization expense for the period

For each goodwill impairment loss recognized, the following information shall be disclosed in the notes to the financial statements that include the period in which the impairment loss is recognized:

  1. A description of the facts and circumstances leading to the impairment
  2. The amount of the impairment loss and the method of determining the fair value of the entity or the reporting unit (whether based on prices of comparable businesses, a present value or other valuation technique, or a combination of those methods)
  3. The caption in the income statement in which the impairment loss is included

Effective Date

The accounting alternative, if elected, should be applied prospectively to goodwill existing as of the beginning of the period of adoption and new goodwill recognized in annual periods beginning after December 15, 2014, and interim periods within annual periods beginning after December 15, 2015. 

Early application is permitted, including application to any period for which the entity’s annual or interim financial statements have not yet been made available for issuance.

The picture above is courtesy of istockphoto.

Variable Interest Entity Alternative Accounting for Private Companies

You will recall that in 2012 the Financial Accounting Foundation, the parent of the Financial Accounting Standards Board,  created the Private Company Council (PCC) to suggest exceptions or modifications to FASB standards; the FASB then endorses the recommended change. I am glad to report that the FASB has issued an alternative to accounting for variable interest entities (commonly referred to as VIEs). Prior standards required the consolidation of certain entities due to leasing arrangements.

FASB Accounting Standards Update No. 2014-07Applying Variable Interest Entities Guidance to Common Control Leasing Arrangements provides an exemption when a private company lessee elects not to apply VIE guidance to a lessor; all of the following must exist (to use the exemption):

  • The private company lessee and lessor are under common control.
  • The private company lessee has a leasing arrangement with the lessor.
  • Substantially all activity between the entities is related to the leasing activity between them.
  • If the private company lessee explicitly guarantees or provides collateral for any obligation of the lessor related to the asset leased by the private company, then the principal amount of the obligation at inception does not exceed the value of the asset leased by the private company from the lessor.

Effective Dates

The standard should be applied for annual periods beginning after December 15, 2014, and for interim periods within annual periods beginning after December 15, 2015. Early application is permissible for all financial statements that have not been issued. The alternative should be applied retrospectively for all periods presented.

Georgia TSPLOST Accounting and Uses

I spoke this afternoon with James Stephens at the Georgia Department of Community Affairs about changes to the Georgia chart of accounts, specifically regarding TSPLOST.

It appears that most governments receiving TSPLOST funds need to set up two new funds:

235 – TSPLOST – Discretionary (25%)

335 – TSPLOST – Capital (75%)

James said that all governments will receive a portion of TSPLOST (25%) from the Georgia Financing Authority; such funds are referred to as discretionary. These monies can be used for:

  • Matching funds for transportation grants
  • Transportation related salaries
  • Transportation maintenance
  • Transportation capital

All of the discretionary revenues must first be recognized as revenue in fund 235 (such accounting will enable the Georgia Financing Authority to account for monies it has submitted to local governments); then if any portion is used for capital, it appears the funds will be transferred out of fund 235 to fund 335 where it will be spent for capital purposes.

If your government is receiving LMIG funds from the state of Georgia, such funds can be accounted for in the general fund provided such monies are used for road maintenance (e.g., patching roads). If the LMIG funds are used for capital purposes, they should be accounted for in 335.

The TSPLOST-Capital funds should be accounted for in fund 335. The TSPLOST-Capital funds and LMIG funds can both be accounted for in fund 335, provided the LMIG funds are being used for capital purposes.

How can my local government use the TIA discretionary proceeds?

Per the Georgia State Financing and Investment Commission Financing and Investment Division (in their Transportation Investment Act FAQ), the 25% discretionary funds can be used as follows:

Code Section 48-8-249 (e) provides “ proceeds shall be used by the local governments only for transportation projects as defined in paragraph (10) of Code Section 48-8-242 and may also serve as the local match as required for state transportation projects and grants.”   

Code Section 48-8-242 (10) provides “Project means, without limitation,  any new or existing airports, bike lanes, bridges, bus and rail mas transit systems, freight and passenger rail, pedestrian facilities, ports, roads, terminals, and all activities and structures useful and incident to providing, operating, and maintaining the same.  The term shall also include direct appropriations to a local government for the purpose of serving as a local match for state and federal funding.”

GASBS 63 and 65 (Deferred Outflows and Deferred Inflows) – A Summary

It’s time to pay closer attention to two standards issued by the Governmental Accounting Standards Board (GASB):

  • Statement No. 63 – Financial Reporting of Deferred Outflows of Resources, Deferred Inflows of Resources, and Net Position
  • Statement No. 65 – Items Previously Reported as Assets and Liabilities

What are the effective dates for Statements 63 and 65?

  • GASBS 63 is effective for periods beginning after December 15, 2011; earlier application encouraged
  • GASBS 65 is effective for periods beginning after December 15, 2012; earlier application encouraged

It is best to implement GASBS 63 and 65 at the same time.

What is the purpose of these changes?

To put it succinctly, GASB is using one of its conceptual statements (specifically Concepts Statement 4) to make revisions to reporting requirements (to include deferred outflows and deferred inflows).

Prior to GASBS 63 and 65, debit balances were reported on the statement of net position (balance sheet) as assets; similarly, all non-equity credits were reported as liabilities. The new standards add deferred outflows and deferred inflows to the mix.

All debit balances in the statement of net position will be reported as:

  • Assets
  • Deferred Outflows

Assets represent present service capacity to the government; deferred outflows (e.g., prepaid bond insurance) represent the consumption of net position applicable to future reporting periods.

Liabilities represent amounts to be paid; however, some amounts previously reported as liabilities (e.g., deferred property taxes) involve no future payment. Consequently, with the implementation of GASB 63, all non-equity credits in the statement of net position will be reported as:

  • Liabilities
  • Deferred Inflows

The difference in liabilities and deferred inflows is primarily resources that are going out and resources that are coming in. Liabilities normally represent a future surrender of resources; deferred inflows do not.

What are the main points of GASBS 63?

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This statement distinguishes assets from deferred outflows of resources and liabilities from deferred inflows of resources.

Additionally, many of your financial statement titles (e.g., Statement of Net Position), categories (e.g., Assets and Deferred Outflows of Resources), and notes will change. Net Assets will now be labeled Net Position.

The five elements of the statement of net position are:

  1. Assets
  2. Deferred Outflows of Resources
  3. Liabilities
  4. Deferred Inflows of Resources
  5. Net Position

The three categories of net position are:

  1. Net Investment in Capital Assets
  2. Restricted
  3. Unrestricted

Note – The requirement to change to a statement of net position (rather than a statement of net assets) – a GASBS 63 change – occurs one year earlier than the requirements of GASBS 65; you are required to change the term net assets to net position even though you may not have any deferred outflows or inflows until GASBS 65 is implemented – possibly a year later. Again it is easier to simply implement both GASBS 63 and 65 at the same time (both can be early adopted).

What are the main points of GASBS 65?

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  • It identifies the specific items to be categorized as deferred inflows and deferred outflows.
  • It clarifies the effect of deferred inflows and deferred outflows on the major fund determination.
  • It limits the use of the term deferred in financial statements.

What are some examples of specific items to be categorized as deferred inflows and deferred outflows?

  • The gain or loss from current or advance refundings of debt (the gain or loss will no longer be netted with the related debt but will be shown separately as a deferred outflow or a deferred inflow)
  • Prepaid insurance related to the issuance of debt
  • Property taxes received or accrued prior to the period in which they will be used

How should debt issuance costs be treated?

Debt issuance costs should be expensed when incurred. GASB concluded that debt issuance costs do not relate to future periods, and, therefore, should be expensed.

If your government has debt issuance costs (recorded as assets), you will need to remove them as you implement these standards (using a prior period adjustment).

How should cash advances related to expenditure-driven grants be recorded?

Cash advances from expenditure-driven grants should be recorded as unearned revenue (a liability). The key eligibility requirement for an expenditure-driven grant is the use of funds (which does not occur until funds are spent). Any grant funds received prior to meeting eligibility requirements will be shown as a liability. It is improper to use the word deferred for this line item; for example, deferred revenue is not appropriate. The more appropriate title is unearned revenue.

How do these standards affect the determination of major funds?

Assets should be combined with deferred outflows of resources and liabilities should be combined with deferred inflows of resources for purposes of determining which elements meet the criteria for major fund determination.

Lease Accounting – A Seismic Shift

Given that the comment deadline for FASB’s proposed lease standard is September 13, 2013, I’m thinking that approval will soon be forthcoming.

This standard, if passed, will be a seismic shift in accounting.

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Here are a few general observations:

  • Companies making leasing decisions today need to understand the proposed standard – now; operating leases signed today will likely become lease liabilities in the near future.
  • This standard has the potential to change the way companies do business. Less leasing and more purchasing. If the company is going to record a liability anyway, why not just borrow and buy.
  • Debt covenants may need to be revised once the standard is effective (or before then). Companies with operating leases will probably see their debt to equity ratios adversely impacted as present operating leases become liabilities.
  • Creditors need to consider how the new lease accounting will impact their lending decisions.
  • EBITDA will increase for type A (e.g., equipment) leases since you will add back interest and amortization to earnings; not so for type B (e.g., building) leases (which will be recognized as lease expenses).

Now let’s take a look at the proposed lease standard itself.

The Two Ts: Term and Type

The first important T: Term.

The proposed standard has two important Ts – term and type, with term being the more important of the two (at least in my opinion). A lease with a term of more than twelve months will be booked as lease liability while a lease with a term of twelve months or less will be expensed in the year paid.

So the term of the lease will drive whether a lease is recorded as a liability.

Under the proposed standard, you will simply ask, “is the lease term more than twelve months?” If yes, then book the lease liability (using the present value of the lease payments). In addition, you will book a right-to-use asset (again using the present value of the lease payments).

The second important T: Type.

The standard spells out two types of leases:

  • Type A (Other than Property Leases)
  • Type B (Property Leases)

Think of type A as equipment and type B as buildings or land; the critical determinant of classification, however, is whether the lessee will consume a significant portion of the asset (regardless of whether the underlying asset is equipment or a building). If the lessee will consume a substantial portion of the asset, then the arrangement will be a Type A lease.

Balance Sheet

The lessee will record:

  • A right-to-use asset
  • A lease liability

The initial recording of the right-to-use asset and the lease liability will be the same for Type A and Type B leases, and the computation of both the asset and liability will largely be the present value of future lease payments.

The right-to-use asset will be amortized over the life of the lease; this asset will be presented separately on the balance sheet.

The lease liability will:

* grow (through the unwinding of the discount) and
* decrease as payments are made

The liability will be presented separately on the balance sheet.

Income Statement

In the income statement, type A leases will have:

  • Interest expense
  • Amortization expense
  • Higher expense recognition in the early stages of the lease

In the income statement, type B leases will have:

  • Lease expense (equal to the interest and amortization expenses added together)
  • Straight-line lease expense (similar to operating leases today)

Closing Remarks

Again, this is a simplified overview of the lease standard, but hopefully you’ve found it helpful (even if you felt a few tremors).

At this time, there is no effective date for the standard though I expect FASB to provide one soon.

How About You?

Are you and your clients ready for the change in lease accounting?