Revenue Recognition in Higher Education
Nelia Kruger, CPA, MSA
26 September 2018
In June 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers, later codified as Accounting Standards Codification (ASC) Topic 606. The ASU called for a major overhaul of revenue recognition standards across all entities and became effective for public entities with fiscal years starting after December 15, 2017. According to FASB, a public entity is any one of the following: (1) a public business entity, (2)
a not-for-profit entity that has issued, or is a conduit bond obligor for, securities that are traded, listed, or quoted on an exchange or an over-the-counter market, (3) an employee benefit plan that files or furnishes financial statements to the SEC.” All other entities must implement the ASU beginning July 1, 2019.
ASU 2014-09 is a product of the convergence project of FASB and IAS. Each organization acknowledged that guidance was either limited and thus difficult to implement in all situations; insufficient for certain products or arrangements or unnecessarily specific making them more complex to implement. The purpose of this ASU was to clarify the principals for recognizing revenue and to adopt a common revenue standard for US GAAP and IFRS by:
• Removing inconsistencies and weaknesses in revenue requirements
• Providing a more robust framework
• Improving comparability of revenue recognition practices across entities, industries etc.
• Providing more useful information through enhanced disclosures
• Simplifying financial statement preparation
To further clarify issues affecting not-for-profit entities, the FASB issued ASU 2018-08, Clarifying the Scope and the Accounting Guidance for Contributions Received and Contributions Made, an amendment to Topic 958 – Not for Profit Entities in June 2018. The purpose of this amendment was to provide guidance in determining whether resource providers and resource recipients are participating in an exchange transaction, or if the transfer of funds is a contribution, by evaluating whether
the resource provider is receiving commensurate value in return for the resources transferred. The amendments in this update should be applied on a modified prospective basis, however, retrospective application is permitted. For resource
recipients involved in public markets, including over-the-counter exchanges, the amendments are effective for periods beginning after June 15, 2018. For all other resource recipient entities, it is effective for annual periods beginning after December 15, 2018. The effective date for resource providers involved in public markets is periods beginning after December
15, 2018. All other resource providers should apply the amendment to periods beginning after December 15, 2019. Early adoption is permitted.
The new definition of revenue recognition is the fundamental piece of the entire ASU. 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.” To properly recognize revenue under the new standard, one must apply the following five steps:
Step 1: Identify the contract with the customer
Step 2: Identify the performance obligations
Step 3: Determine the transaction price
Step 4: Allocate the transaction price
Step 5: Recognize revenue
Step 1: Identify the Contract with the Customer
The institution must first identify its contracts. Contracts create enforceable rights and obligations between the institution and the customer (students, government agencies, vendors). The easiest example for institutions is tuition and related fees,
where the institution has an enrollment agreement that both parties agree to price, payment and other related terms. It’s advisable for every institution to create an inventory of all revenue streams in detail and the various types of contracts associated with them so an initial evaluation of the institutions’ current revenue process can be created.
Step 2: Identify the Performance Obligations
The next step involves asking “What distinct good or service is being assured in exchange for the contract?” identified in step 1. Education is the primary performance obligation of an institute; however, the enrollment agreement may detail the various charges such as tuition, fees, books, room, etc. which may be able to be bundled into one performance obligation. For example, from a student’s point of view, can the student achieve a degree without their lab fees? By bundling all the related revenue streams, the institution can treat other revenue streams commensurate with tuition.
Step 3: Determine the Transaction Price
The third step is determining the transaction price. Simply stated, the transaction price is the price that the institution is expecting to receive for its transfer of goods or services. Published rates and fees, as well as financial aid, is used to calculate the transaction price. If a student is doing nothing in return for a particular type of financial aid, the amount of that aid is recorded as a reduction to revenue when revenue is recognized. If a student performs a service in exchange for a reduction of tuition, that amount would be recorded as an expense.
Step 4: Allocate the Transaction Price
This step takes the transaction prices established and allocates them to specific performance obligations previously identified. Thankfully for institutions, amounts charged are usually very explicitly stated in the enrollment agreement.
Step 5: Recognize Revenue
Finally, the institution can begin recognizing the revenue in the amount determined in steps 3 and 4 as the performance obligations in step 2 are met. It’s important for the institution to know whether a performance obligation occurs at a point
in time or over time which affects how the revenue can be recognized. Recognizing when the student receives the benefit is the key to understanding when the institution is able to recognize revenue.
The ASU is evidence of FASB’s progress toward a more principles-based method of revenue recognition and getting away from the traditional rules-based methods. Not only does this help the U.S. continue to align with the IFRS, but also helps entities become more comparable around the global, helping accounting professionals to align their thought processes.
Overall, the changes necessary to comply with the new ASU will likely not cause a significant change to the institution’s statements other than receivables and the related deferred revenues will be netted to show related revenue items together. Footnotes to the financials, on the other hand, will require a significant amount of qualitative and quantitative disclosures. This additional information will help readers understand the institution’s revenue and the judgments that led to the amounts recorded and reported. This is why it is essential for an institution to thoroughly document the 5 step process and all judgments made. Preparations now are absolutely necessary to ensure a smooth implementation.
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