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Journal entry — FASB proposes guidance on a customer’s accounting for fees paid in a cloud computing arrangement

Published on: Aug 20, 2014

The FASB issued a proposed ASU1 today that would amend ASC 350-402 to provide guidance on a customer’s accounting for fees paid in a cloud computing arrangement.3 This is now the third proposal released under the FASB’s new simplification initiative, which is intended to reduce the costs and complexity of financial statement preparation.

Under current U.S. GAAP, there is guidance on a vendor’s accounting for fees in a cloud computing arrangement but not on a customer’s accounting. As a result, some diversity in practice has occurred. For example, entities’ views may differ about whether and, if so, when such arrangements are accounted for under ASC 340-10 (other assets and deferred costs), ASC 350-30 (general intangibles), or ASC 350-40 (internal-use software).

The proposed ASU would require a customer to perform the same assessment that vendors currently perform under ASC 985-605; that is, the customer would determine whether the arrangement contains a software license element. If so, the customer would account for the related fees paid as an internal-use software intangible under ASC 350-40; if not, the customer would account for the arrangement as a service contract.

The customer would perform the assessment by using criteria that mirror those currently used by a vendor. Thus, the arrangement would contain a software license element if both of the following apply:

  • “The customer has the contractual right to take possession of the software at any time during the hosting period without significant penalty.”4
  • “It is feasible for the customer to either run the software on its own hardware or contract with another party unrelated to the vendor to host the software.”

On the basis of its outreach, the FASB concluded that these criteria are widely understood and effective in assessments performed by vendors and that the customer’s assessment should be aligned with the vendor’s.5 Further, the FASB believes that a customer’s use of specific criteria to determine whether an arrangement is within the scope of ASC 350-40 will reduce uncertainty related to the accounting for such arrangements and, ultimately, the effort entities expend developing accounting policies.

The proposed ASU would be effective for public business entities in interim and annual periods beginning after December 15, 2015; for other entities, the effective date would be deferred. Early adoption would be permitted for all entities. An entity adopting the proposed ASU could apply it either prospectively to new cloud computing arrangements or retrospectively. The comments on the proposed ASU are due by November 18, 2014.

Editor’s Note: The proposed ASU provides guidance only on whether a license in a hosting arrangement is within the scope of ASC 350-40 (i.e., whether the fees paid under the license would be accounted for as internal-use software). It does not prescribe how to account for arrangements deemed to be service contracts (i.e., those that do not constitute internal-use software). Since many cloud computing arrangements will not qualify for accounting under ASC 350-40, questions will remain about arrangements that are service contacts. For example, entities may question whether analogizing to ASC 350-30 and accounting for an arrangement as an intangible is appropriate and entities that incur implementation costs associated with the hosting arrangement may struggle to determine whether such costs might be capitalized and, if so, on what basis.

Some entities may already analogize to the assessment currently required of a vendor under ASC 985-605 in determining the accounting treatment for fees paid in hosting arrangements. However, those entities may not have applied all elements of ASC 350-40 to arrangements that contain a license. For example, they may not have:

  • Separately accounted for all elements under the arrangement (e.g., license, training, implementation, support), as required under ASC 350-40-30-4, which could affect the portion of the overall fees accounted for within the scope of ASC 350-40.
  • Considered the criteria in ASC 840-10 by analogy (i.e., the operating versus capital lease test) in determining whether the license cost should be capitalized as an in-substance purchase, as required under ASC 350-40-25-16. This could affect the recognition, classification, and presentation of amounts associated with the license throughout the financial statements as well as the pattern of expense recognition (due to accretion of the liability under capital lease accounting).


1    FASB Proposed Accounting Standards Update, Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement.

2    For titles of FASB Accounting Standards Codification references, see Deloitte’s “Titles of Topics and Subtopics in the FASB Accounting Standards Codification.”

3    The proposed ASU states that “[e]xamples of cloud computing arrangements include software as a service, platform as a service, infrastructure as a service, and other similar hosting arrangements.”

4    An entity would also consider both potential costs to be incurred and decreases in functionality in determining whether a “significant penalty” is present.

5    FASB Accounting Standards Update No. 2014-09, Revenue From Contracts With Customers, removes the requirement for a vendor to assess these criteria for revenue recognition purposes; however, ASU 2014-09 preserves these criteria for use by the vendor in evaluating whether the software development activities are within the scope of ASC 985-20 (i.e., costs of software to be sold, leased, or marketed) or ASC 350-40.

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