Revenue Recognition for Real Estate Companies: New Accounting Rule
February 19, 2015
Real estate companies must exercise more judgment
The Financial Accounting Standards Board (FASB) recently issued new guidance that standardizes when and how every type of company must recognize revenue. The guidance, found in Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers, supersedes existing revenue recognition rules and makes significant changes to the rules for accounting for real estate sales.
Because the new ASU focuses primarily on when the transfer of control of property occurs, revenue will likely be recognized sooner than it has been under the existing guidance.
5 steps … and their issues
The guidance lays out five steps that a business must follow to determine when to properly recognize revenue on its financial statements. Here’s a look at each step and its associated issues particular to revenue recognition for real estate companies:
A good or service is “distinct” if: a) the customer can benefit from the good or service on either its own or together with other resources that are readily available to the customer, and b) the company’s promise to transfer the good or service is separately identifiable from other promises in the contract.
ASU 2014-09 will compel real estate companies to exercise more judgment than is required (or allowed) under the current, more prescriptive standards. It also requires enhanced financial statement disclosures regarding customer contracts.
Real estate businesses should start reviewing their accounting methods now to prepare for the changes. Fortunately, there is time. For nonpublic companies, compliance isn’t required until annual reporting periods beginning after Dec. 15, 2017.
Sale-leaseback rules survive — for now
Sale-leaseback transactions are used for large capital assets — including real estate, office buildings and improvements — to free up cash for the seller. After the property is sold, the seller leases the property back from the buyer for a period of time (typically 10 to 25 years) and the seller retains control of the property. Real estate entities will be relieved to hear that the current accounting rules for most sale-leaseback transactions involving real property were retained in the Financial Accounting Standards Board’s (FASB’s) new revenue recognition guidance.
Although the new revenue recognition standard generally supersedes all other industry-specific guidance, FASB decided that, if the sale of real property is part of a normal, arm’s-length sale-leaseback transaction, the transaction would continue to be evaluated under the existing guidance until FASB and the International Accounting Standards Board complete their joint project on leasing. Your financial advisors are monitoring the joint leasing project. They’ll let you know whether anything changes and can help you comply with the accounting rules for sale-leaseback transactions.
Contact Smith & Howard’s Real Estate Accountants
Have questions on revenue recognition for real estate companies or simply looking for guidance from one of the top real estate accounting firms? Contact Sean Taylor at 404.874.6244 and or simply fill out our form below and we’d be glad to help.
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