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Special assessments and obligations of tax increment financing entities; revenue recognition for freight carriers and nonutility generators.

Statement on Auditing Standards no. 69, The Meaning of "Present Fairly in Conformity With Generally Accepted Accounting Principles" in the Independent Auditor's Report, identifies Financial Accounting Standards Board emerging issues task force (EITF) consensuses as sources of established generally accepted accounting principles.

This month's column lists 1991 and 1992 EITF consensuses adopted from January 23 through July 23, 1992 (see the sidebar on page 128). In addition, summaries are provided for three of these consensuses: recognition of special assessments and obligations of tax increment financing entities and revenue recognition for freight carriers and nonutility generators. The summaries are presented in order of importance from broad to narrow applicability.

EITF Abstracts, copyrighted by the FASB, is available in soft-cover and loose-leaf versions and may be obtained by contacting the FASB order department at 401 Merritt 7, P.O. Box 5116, Norwalk, Connecticut 06856-5116. Phone: (203) 847-0700.

ISSUE NO. 91 - 10

This issue potentially affects every property owner that is subject to special assessments of any kind from municipalities. Municipalities often finance the construction of certain infrastructure assets (for example, roads, sidewalks, drainage systems and other utilities) for local businesses and then levy special assessments on the entity to cover debt service. Alternatively, a company could form a tax increment financing entity (TIFE) to issue the debt and operate these assets.

Issue no. 91-10, Accounting for Special Assessments and Tax Increment Financing Entities, discusses whether a property owner should record an obligation for special assessments levied by municipalities or for debt issued by TIFEs.

A TIFE is an independent taxing jurisdiction authorized under various state statutes to issue bonds to finance and manage the construction, operation and maintenance of some or all of the infrastructure assets of a real estate development. Usually, the TIFE's debt service and operating costs are recovered through future user fees or tax assessments.

The EITF reached a consensus that if special assessments by either municipalities or TIFEs on individual property owners are for a fixed or determinable amount for a fixed or determinable period, the obligation should be recognized by the owner of the property.

If a company is contingently liable for TIFE debt, recognition of an obligation should be evaluated under FASB Statement no. 5, Accounting for Contingencies. The following factors may indicate that such a contingent liability exists:

* The company must satisfy any shortfall in annual debt service obligations.

* The company pledges its assets.

* The company provides a letter of credit in support of some or all of the TIFE debt or provides other credit enhancements.

The consensus applies whether the company is constructing facilities for its own use or for eventual sale to others. If a company is constructing facilities for its own use or operation, the presence of any of the above factors creates a presumption that the TIFE debt must be recognized as an obligation of the company.

The E ITF abstract for this issue contains examples illustrating the application of this consensus.

ISSUE NO. 91-9

In EITF issue no. 91-9, Revenue and Expense Recognition for Freight Ser vices in Process, the EITF reached a consensus that proscribes freight carriers of all types from recognizing revenue upon receipt of freight from the shipper. This issue arose when the Securities and Exchange Commission staff questioned motor camers' accounting for freight-in-process at the balance sheet date and subsequently requested the EITF to address the subject. In preparation for the EITF meeting, the National Accounting & Finance Council (NAFC) of the American Trucking Associations, Inc., surveyed its members' revenue recognition methods from among the following alternatives:

1. Recognizing revenue when freight is received from the shipper or when freight leaves the carrier's terminal and recognizing expenses as incurred.

2. Recognizing freight as in method 1 above and accruing estimated direct costs to complete delivery of freight-in-transit at the end of each reporting period.

3. Recognizing both revenue and direct costs when the shipment is completed.

4. Recognizing revenue when the shipment is completed and recognizing expenses as incurred.

5. Recognizing revenue based on relative transit time in each reporting period and recognizing expenses as incurred.

The NAFC found the majority of motor carriers recognized revenue when the freight was received from the shipper or when the freight left the carriers terminal (methods 1 and 2). Of that group, some recognized expenses as incurred (method 1); others accrued estimated delivery costs at the end of the reporting period (method 2).

These issues were discussed in a 1980 draft American Institute of CPAs issues paper on revenue recognition in the motor carrier industry. The advisory conclusion in the draft said either method 3 or 5 above was acceptable. Although the AICPA accounting standards executive committee (AcSEC) decided to include the guidance from the draft issues paper in a planned audit guide on the motor carrier industry, the guide was never issued because AcSEC believed the differences among alternatives would not result in material differences m reported net income. However, the SEC staff found that varying accounting methods used for freight-in-process did cause material differences in reported net income in recent quarterly financial statements of certain motor carriers. The staff therefore looked to the EITF for guidance.

The EITF reached a consensus that recognizing revenue when freight is received from the shipper or when freight leaves the carrier's terminal with expenses recognized as incurred is no longer acceptable. Although the motor carrier industry was the focal point of discussion, the consensus was extended to apply to all types of freight carriers.

The EITF minutes do not explain the theoretical basis for the consensus reached. However, during the meetings on this issue, many EITF members expressed concern that substantial performance of the carrier's obligations has not been completed when the carrier takes possession of the shipment. Therefore, revenue has not been earned and should not be recognized.

The EITF was not asked to reach a consensus on a preferable revenue recognition method. However, the SEC observer indicated that a change to method 2 for SEC registrants would not be appropriate because revenue is recognized in advance of performance and liabilities are recognized before incurred.

ISSUE NO. 91-6

EITF issue no. 91-6, Revenue Recognition of Long-Term Power Sales Contracts, is a specialized-industry issue that addresses how nonutility generators (NUGs), often called independent power producers, should recognize revenue for long-term power sales contracts. Long-term power sales contracts that qualify as leases are not covered by this EITF abstract.

Although NUGs perform functions similar to utilities (that is, power generation), FASB Statement no. 71, Accounting for the Effects of Certain Types of Regulation, generally is not applicable because NUGs are not regulated entities.

Contract terms vary widely and may provide for

* Stated prices per kilowatt hour (kwh) that increase, decrease or remain level over the contract term.

* A formula-based price per kwh.

* Billings that are a combination of the above.

The three consensuses reached for this issue address the revenue recognition problems raised by these varied contract terms. The first issue addresses whether revenue for contracts containing scheduled price changes should be recognized based on scheduled prices or ratably over the term of the contract. The EITF reached a consensus that a NUG should recognize revenue based on the lesser of amounts billable under the contract or the amount determined by the kwhs made available during the period times the estimated average revenue per kwh over the term of the contract.

Additional issues discuss how revenue should be recognized if revenues are to be determined or limited by separate, formula-based pricing arrangements. Those consensuses may be found in the EITF Abstracts.

Because of the long-term nature of these contracts, the E ITF had to decide whether these consensuses would be applicable to existing contracts or only to new contracts. The task force members agreed that application of these consensuses would be required for contracts entered into after May 21, 1992 (the consensus date).


The Financial Accounting: AcSEC Update department in the August Journal ("Accounting for Real Estate Syndication Income and Foreclosed Assets," pages 99-102) contained an error in the next to last paragraph. The text should read as follows: "On the adoption date, (a) the carrying amount and (b) fair value minus estimated costs to sell for each foreclosed asset held for sale and in-substance foreclosed asset should be compared. To the extent that the amount of (b) is less than the amount of (a), income from continuing operations for the adoption period should be charged and the carrying amount of the assets should be adjusted through a valuation allowance."
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Publication:Journal of Accountancy
Date:Nov 1, 1992
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