FASB released Accounting Standards Update (ASU) 2018-15, Intangibles—Goodwill and Other—Internal-Use Software (Subtopic 350-40): Customer’s Accounting For Implementation Costs Incurred in a Cloud Computing Arrangement That is a Service Contract, to clarify that an entity should follow the capitalization guidance in Subtopic 350-40 when determining which implementation costs incurred in a hosting arrangement that is a service contract should be capitalized or expensed. The ASU aligns the requirements for such arrangements with those for developing or obtaining internal use software. In a hosting arrangement, the customer accesses and uses the software on an as-needed basis and does not currently have possession of the software.
Nonprofits use a wide variety of software that is within the scope of ASU 2018-15, including general ledger systems with accounts receivable and accounts payable modules, and payroll systems. Nonprofits also use software to manage specific revenue streams. Examples include membership, donor management, and event management databases, which fall under the associate software management (ASM) and customer relationship management (CRM) categories.
The guidance outlines several project stages and specifies whether the costs incurred during those stages should be capitalized over the term of the hosting arrangement or expensed as incurred. The following table summarizes the requirements and provides examples of such costs:
*Data conversion costs related to purging or cleansing of existing data, reconciling the old data within the new system, creating new data, and converting existing data to the new system must be expensed. However, costs incurred to develop or obtain software that allows either access to or the conversion of old data must be capitalized.
Capitalized costs should be amortized on a straight-line basis over the term of the arrangement, unless a different basis better aligns with the pattern in which the customer (nonprofit) expects to benefit from the software. The term of the arrangement equals the noncancellable period plus periods covered by an option to:
- Extend the arrangement, if the nonprofit is reasonably certain it will exercise that option
- Terminate the arrangement, if the nonprofit is reasonably certain it will not exercise that option
- Extend (or not terminate) the arrangement when the exercise is controlled by the vendor
If a hosting arrangement pertains to computer software with multiple components or modules, such as a membership database with an event registration database, the nonprofit must separately evaluate the costs incurred for each component based on standalone prices. Therefore, nonprofits should ensure they properly track and allocate implementation costs to the appropriate module or component during the application development stage.
Capitalized implementation costs for a hosting arrangement should be presented in the financial statements as follows:
- Statement of Financial Position: Included in the same line item that a prepayment of the fees associated with the hosting arrangement would be presented
- Statement of Activities: Included in the same line item as the expense for fees associated with the hosting arrangement
- Statement of Cash Flows: Classified in the same manner as payments made for fees associated with the hosting arrangement
For non-public business entities, the ASU is effective for annual reporting periods beginning after December 15, 2020, and interim periods within annual periods beginning after December 15, 2021. Early adoption is permitted, including during interim periods. A nonprofit may apply the amendments on a prospective or retrospective basis to all implementation costs incurred after the date of adoption. In the period of adoption, the nonprofit must disclose the following:
- The nature of and reason for the change in accounting principle
- The transition method
- A qualitative description of the financial statement line items affected by the change
- Quantitative information about the effects of the change (retrospective adoption only)
Abigail Frary is a Senior Audit Associate at Johnson Lambert LLP, a national CPA firm with 8 offices in the USA. Abbey works in the firm’s not-for-profit practice, where she serves NFP clients and facilitates training for Johnson Lambert's not-for-profit staff.