ASC 606 is the new revenue recognition standard. After reading this post, you will understand its purpose, and how to remain compliant with financial standards.

We’ll cover the following:

  • Recognizing Revenue
  • The Reason For ASC 606
  • ASC 606 A New Standard
  • ASC 606 Applicability
  • ASC 606 Implementation
  • ASC 606 Amortization
  • ASC 606 Differences
  • ASC 606 FAQs

Recognizing Revenue

As per Generally Accepted Accounting Principles (GAAP), there are 4 criteria for revenue recognition.

  1. It’s reasonably easy to collect payment
  2. There is some type of financial agreement
  3. A product / service is being delivered
  4. The cost of the product / service can be quantified

As per Generally Accepted Accounting Principles (GAAP), different rules (accounting methods) can be used to determine the timing of revenue recognition. The key point is that you should recognize revenue when each customer-facing obligation is met.

  • Cost – revenue recognition occurs upon completion of a project / service
  • Sales – revenue recognition occurs upon delivery of a project / service
  • Contract – recognition occurs upon completion of a project / service
  • Payment – recognition occurs upon each payment / installment
  • Etc.

Within the same GAAP framework, additional accounting methods are available to identify the timing of revenue recognition. Other methods exist which are based on asset appreciation, customer deposits, accruals, percentage completed, etc. Each accounting method is designed to fit a specific business scenario. A different accounting method may be more advantageous to you (in terms of financial reporting), or simply more natural based on your business model. Once you select an accounting method, make sure to use it consistently.

The Reason For ASC 606

First, some definitions. The non-profit organization known as FASB (Financial Accounting Standards Board) is responsible for defining normalizing rules used by most accounting professionals. Within their naming convention, ASC means “Accounting Standard Codification”. ASC 606 establishes a new set of rules used to recognize revenue. ASC 606 focuses on revenue recognition from contracts with customers.

ASC 606 ensures that financial reporting obligations are clearly described and implemented in a consistent way. Note that “contract” just means an “obligation” or “commitment” to a customer. It does not have to be a traditional paper contract. For example, if you sell online subscriptions, this is considered a contract even if no contract was negotiated.

ASC 606 – A New Standard

Previous revenue recognition standards were somehow inconsistent and subject to interpretation. ASC 606 offers improved normalization and some clarity. ASC 606 makes it easier to prepare financial statements, track historical financial performance, and comply with tax requirements. Companies can now recognize revenue in a more logical and consistent way.

ASC 606 – Applicability

It’s very simple. If you sell any type of products or services, ASC 606 applies to you. The new standard was created in 2014, first deployed in 2017, and now applies to all private and public organizations. This includes both for-profit and charitable organizations. Virtually all organizations are subject to ASC 606.

ASC 606 – Implementation

Here are the 5 steps required to implement ASC 606. Each step comes with specific rules beyond the scope of this blog post. This step-by-step approach allows companies to methodically analyze revenue, and generate a logical revenue recognition schedule.

ASC 606 – Amortization

Once revenue has been recognized (i.e. you have clear timelines regarding each obligation, and the timing of revenue recognition), you may need to amortize revenue based on contract durations. For example, if you sell appliance repair services for 2 years, you may need to progressively recognize revenue (ex: half now, half later).

ASC 606 – Differences

Let’s contrast ASC 606 with the previous standard. There is more transparency with ASC 606. For example, if an organization receives revenue from different sources, additional disclosures are required. Also, it’s easier to “follow the money”. For example, let’s say that you signed a contract with a customer. As this contracts converts into actual revenue, there is more traceability regarding when the obligation started vs. when revenue was realized.

In addition, with ASC 606, organizations have to provide more concrete details about their contracts and more generally performance obligations to customers. Although ASC 606 is clearer than its predecessor, it remains subject to interpretation when it comes to specific business models, such as cloud-based applications or subscription-based businesses. There are still different subtle ways to interpret ASC 606.

In Conclusion

After reading this post, ASC 606 should be clearer to you. ASC 606 has significant impact on accounting and book-keeping. Sometimes, the calculations required to recognize and amortize revenue can be complex. That’s why you should use an incentive compensation management solution to automate this process.

Sales Cookie makes it possible to calculate sales commissions, choose an amortization strategy, and generate an ASC 606 revenue recognition schedule. Visit us online to lean more about how you can automate your sales commissions and remain compliant with ASC 606.

==== ASC 606 FAQ ====

What Is ASC 606?

ASC 606 is a new accounting standard used to consistently identify when revenue from contracts with customers should be realized.

Why Was ASC 606 Created?

ASC 606 was created to normalize the timing of revenue recognition across companies, and therefore improve financial reporting.

What Is A Contract Under ASC 606?

ASC 606 has a concept of contracts, which more generally are “performance obligations” to customers. A contract means that there is an agreed upon price in exchange for delivery of a product or service – i.e. an “obligation” to perform.

How Do I Implement ASC 606?

To ensure ASC 606 compliance:

  1. Choose an accounting method to realize revenue
  2. Follow the following 5 steps for your chosen method
    1. Identify each contract with a customer
    2. Identify your performance obligations
    3. Determine each transaction price
    4. Allocate the transaction price
    5. Recognize revenue when each obligation is met
  3. Use tools to help you automate the process

What Changed With ASC 606?

ASC 606 requires additional disclosures regarding contracts with customers, and more accuracy as to the timing of realized revenue. This results in:

  1. Increased transparency
  2. Increased traceability
  3. Improved normalization

Does ASC 606 Apply To My Business?

ASC 606 now applies to all organizations:

  1. Private companies
  2. Public companies
  3. For-profit companies
  4. Non-profit organizations

When Was ASC 606 Codified?

The Financial Accounting Standards Board introduced ASC 606 in 2014, as a way to improve Generally Accepted Accounting Principles.

What Does ASC 606 Mean?

The meaning of ASC 606 is “Accounting Standard Codification”, and is a set of guidelines proposed by the Financial Accounting Standards Board to improve Generally Accepted Accounting Principles.

What Does Revenue Recognition Mean?

Let’s say you sell some type of hardware for $2000. Customers pay you $1000 upfront, and another $1000 upon installation (which could be months later). You can recognize revenue in two parts (i.e. at different points of time). The timing is based on how you deliver products or services.

Which Criteria Apply To Revenue Recognition?

There are 4 criteria for revenue recognition:

  1. It’s reasonably easy to collect payment
  2. There is some type of financial agreement
  3. A product / service is being delivered
  4. The cost of the product / service can be quantified

When Should Revenue Be Recognized?

A contract with a customer represents a form of obligation. When some event indicates that the obligation will be fulfilled (with agreed upon payment incoming), revenue can be recognized. Different accounting methods can be used depending on the business scenario to determine the appropriate timing.

What Are Revenue Recognition Accounting Methods?

Different accounting methods clarify when revenue should be recognized, depending on the business scenario, such as:

  • Cost Completed – revenue recognition occurs upon completion of a project / service
  • Sales Completed – revenue recognition occurs upon delivery of a project / service
  • Contract Completed – recognition occurs upon completion of a project / service
  • Payment Completed – recognition occurs upon each payment / installment

How Can I Recognize Revenue Collected Over Longer Periods Of Time?

There is a standard accounting method called the “percentage of completion method”, which allows you to recognize revenue progressively. This means you can recognize revenue based on progress made towards delivery of a service or product. This assumes your contracts have a clear timeline of deliverables.

What Is Unrecognized Revenue?

Unrecognized revenue is also known as unearned revenue. It represents revenue received before obligations to your customers have been met. For example, this could be an advance payment (with the expectation that a performance obligation will be met later).