A telecom reseller pays a 4% commission on new two-year contracts and also pays a 4% commission, the same rate, on each contract renewal, with renewal commissions clearly calculated on the same basis as the initial one. Historical data shows the 4% renewal rate reflects the same effort and cost structure as the original sale. Under the guidance in ASC 340-40-35-1, how should the reseller amortize the initial commission asset?
- Over the customer's entire anticipated lifetime, because any possibility of renewal always extends the amortization period regardless of the renewal commission rate
- Over one year only, regardless of the contract's actual two-year term, because commissions are conventionally treated as short-term costs
- Over the average of the initial term and all anticipated renewal terms, weighted by the probability of each renewal occurring
- Over the initial two-year contract term only, because the renewal commission is commensurate with the initial commission, so the initial commission relates only to the initial contract and not to future renewals
Why D? And why not the others?
Correct answer: D. Over the initial two-year contract term only, because the renewal commission is commensurate with the initial commission, so the initial commission relates only to the initial contract and not to future renewals
Where a commission paid on renewal is commensurate with the commission paid on the initial contract, the initial commission is understood to relate only to the initial contract, so ASC 340-40-35-1 supports amortizing the initial commission asset over just the initial contract term, here two years, without extending it to cover anticipated renewals; those renewals instead carry their own commensurate commission asset amortized over their own terms. Extending amortization to the customer's entire lifetime regardless of the renewal rate ignores the commensurate-rate test entirely, since that extension applies specifically when renewal commissions are not commensurate with the initial one, not as a universal rule triggered merely by the possibility of renewal. A flat one-year period unrelated to the actual two-year contract term has no basis in the standard, which ties the amortization period to the pattern of transfer of the goods or services the asset relates to, not to a generic convention about commission costs. A probability-weighted average of the initial and renewal terms is not the mechanism the guidance uses either; the standard poses a commensurate-versus-not-commensurate test to decide whether renewals are included at all, not a blended weighted-average period.
Source: FASB Accounting Standards Codification: ASC 340-40-35-1, Other Assets and Deferred Costs — Contracts with Customers