A company pays an 8% commission on a nine-month initial services contract. Renewal commissions on this type of contract are historically far lower than 8% and are not commensurate with the initial commission, and the company's own data shows customers of this type reliably renew for several additional years beyond the initial nine months. The company wants to apply the practical expedient in ASC 340-40-25-4 to expense the commission immediately, reasoning that the initial contract itself is only nine months long. Is this reasoning correct?
- Yes, because the practical expedient in 25-4 looks only at the length of the initial written contract, never at anticipated renewals
- Yes, but only because nine months rounds down to approximately one year for purposes of applying the expedient
- No, because the expedient in 25-4 turns on the amortization period of the asset that would otherwise be recognized, and here the non-commensurate renewal commissions mean that period extends across the anticipated renewals to several years, not just the nine-month initial term
- No, because the practical expedient in ASC 340-40-25-4 was fully superseded and is no longer available under current guidance
Why C? And why not the others?
Correct answer: C. No, because the expedient in 25-4 turns on the amortization period of the asset that would otherwise be recognized, and here the non-commensurate renewal commissions mean that period extends across the anticipated renewals to several years, not just the nine-month initial term
The practical expedient in ASC 340-40-25-4 permits expensing incremental costs of obtaining a contract only if the amortization period of the asset that would otherwise be recognized is one year or less; that period is determined the same way any amortization period is determined under 35-1, which means that when renewal commissions are not commensurate with the initial commission, the relevant period extends to include the anticipated renewals rather than stopping at the initial contract's stated length. Because this company's reliable multi-year renewal pattern combined with non-commensurate renewal commissions pushes the true amortization period to several years, the nine-month length of the initial written contract alone does not make the expedient available, so the reasoning is incorrect. Looking only at the initial contract's stated length ignores that the expedient's one-year test concerns the asset's amortization period as a whole, which the standard requires to be evaluated including anticipated renewals in exactly this kind of situation. There is no rounding convention that treats nine months as approximately one year for this purpose, and the practical expedient in 25-4 remains part of current ASC 340-40 guidance; it has not been superseded.
Source: FASB Accounting Standards Codification: ASC 340-40-25-4 and 35-1, Other Assets and Deferred Costs — Contracts with Customers