The Cooperative Accountant - Spring 2023

By Frank M. Messina, DBA, CPA

EXECUTIVE COMMITTEE

President

Eric Krienert, CPA Moss Adams LLP

By Peggy Maranan, CPA, MBA, Ph.D.

Vice President

Erik Gillam, CPA

Aldrich CPAs +Advisors

By Editor Greg Taylor, MBA, CPA, CVA

PRESIDENT:

Treasurer

*William Miller, CPA (806) 747-3806

By Editor George W. Benson; Jared Kempel, CPA

By Editor Barbara A. Wech, Ph.D.; Juanita Schwartzkopf

By Anita Dennis

Kent Erhardt

Electric Co-op Chapter bmiller@bsgm.com

Bolinger, Segars, Gilbert & Moss, LLP

CoBank, ACB

8215 Nashville Avenue

Lubbock, TX 79423

Secretary

VICE PRESIDENT:

*Nick Mueting (620) 227-3522

Jim Halvorsen

Mid-West Chapter nickm@.lvpf-cpa.com

CLA (CliftonLarsonAllen)

Lindburg, Vogel, Pierce, Faris, Chartered

P.O. Box 1512

Dodge City, KS 67801

Immediate Past President

SECRETARY-TREASURER:

*Dave Antoni (267) 256-1627

David Antoni, CPA

Capitol Chapter dantoni@kpmg.com

KPMG, LLP

KPMG, LLP

1601 Market St. Philadelphia, PA 19103

Executive Committee

IMMEDIATE PAST PRESIDENT:

*Jeff Brandenburg, CPA, CFE (608) 662-8600

April Graves, CPA

Great Lakes Chapter jeff.brandenburg@cliftonlarson

ClifftonLarsonAllen LLP

United Agricultural Cooperative Inc.

8215 Greenway Boulevard, Suite 600

Middleton, WI 53562

*Indicates Executive Committee Member

NATIONAL OFFICE

Kim Fantaci, Executive Director 136 S. Keowee Street

Jeff Roberts, Association Executive Dayton, Ohio 45402

Tina Schneider, Chief Administrative Officer info@nsacoop.org

Krista Saul, Client Accounting Manager

For a complete listing of NSAC’s National Board of Directors and Committees, visit

Bill Erlenbush, Director of Education

Phil Miller, Assistant Director of Education

www.nsacoop.org

From the Editor

Frank M. Messina, DBA, CPA Alumni & Friends Endowed Professor of Accounting

UAB Department of Accounting & Finance

Collat School

of Business

CSB 319, 710 13th Street South Birmingham, AL 35294-1460 • (205) 934-8827

fmessina@uab.edu

Spring brings newness. It brings transformation and change; from darkness to light, from cold to warmth, from grey to bursts of color. Renewed life, new beginnings, and bright, colorful new looks remind us that spring brings life on this earth that renews again and again. We do not remain stuck in any one season or cycle in life indefinitely. Seasons and life changes.

There are times when compromise, cooperation, and collective actions are either necessary or preferable to achieve optimum results for all. Cooperation is difficult under the best of circumstances. There must be a sufficient level of trust and/or respect so that the various factions can occasionally come together towards mutual advantage. No cooperation means slow, and probably flawed, policy development, or a policy vacuum. Contact your government officials and beg for cooperation!!

Remember, we too are always looking for you to share your knowledge since you may have some extra time on your hands (like others continue to do) with us through articles in The Cooperative Accountant. Feel free to contact me (fmessina@ uab.edu) if you have any ideas or thoughts on a potential article contribution. Sharing knowledge is a wonderful thing for all!!! Knowledge can change our world!

That is why we must remember – “The Past is history; the Future is a mystery, but this Moment is a Gift – that’s why it’s called the Present.”

Positively Yours,

Frank M. Messina, DBA, CPA

Articles and other information which appear in The Cooperative Accountant do not necessarily reflect the official position of the NATIONAL SOCIETY OF ACCOUNTANTS FOR COOPERATIVES and the publication does not constitute an endorsement of views or information which may be expressed.

The Cooperative Accountant (ISSN 0010-83910) is published quarterly by the National Society of Accountants for Cooperatives at Centerville, Ohio 45459 digitally. The Cooperative Accountant is published as a direct benefit/ service to the members of the Society and is only available to those that are eligible for membership. Subscriptions are available to university libraries, government agencies and other libraries. Land Grant colleges may receive a digital copy. Send requests and contact changes to: The National Society of Accountants for Cooperatives, 7946 Clyo Road, Suite A, Centerville, Ohio 45459.

“Planning brings promptness and perfection in performance.” – quote from AccountLearn. com (n.d., para. 1)

Introduction

A good audit plan will assist the auditor in “minimizing risks, improving audit efficiency, and meeting its objectives with the least amount of effort” (Financial Crime Academy, n.d., para. 1). A properly prepared audit plan will be designed to ensure risks are identified and appropriate audit strategies are deployed to address all concerning risk areas. Planning an audit includes developing an audit plan and establishing the audit strategy. The strategy includes the planned risk assessment procedures along with planned responses to risks of material misstatement. The audit plan should address overall scope, timing, and direction of the audit. The plan should describe how working papers will be collected, reviewed, and reported. The audit plan is typically more detailed than the overall audit strategy.

Planning runs throughout the thread of any audit effort, as a continuous and iterative

process, and is not limited to one phase of the audit activities. The audit plan is sometimes referred to as an audit program, they are synonymous terms used to describe the action plan that documents what procedures an auditor will follow to validate conformance with required regulation. The objectives for the audit should be clearly defined, and should consider and incorporate the following:

• Management priorities

• Business intentions

• System requirements

• Business structure

• Legal and contractual mandates

• Customer and other interested parties’ expectations

• Risk management vulnerabilities

• Corrective actions from previous audits (Cole et al., n.d., para. 6)

This article will be of interest to internal auditors, external auditors, and those that participate in, manage or are responsible for audits. We identify various types of audits, basic components of an audit plan, the key steps in developing an audit plan, discuss audit plan standards, and provide some

strategies and tips to help achieve successful audits.

Types of audits and audit planning

Page and Pennings (2021) of BeeneGarter LLP, a Michigan-based auditing firm, identify eleven different types of audits:

1. Internal audits

2. External audits

3. Financial statement audits

4. Performance audits

5. Operational audits

6. Employee benefit plan audits

7. Single audits

8. Compliance audits

9. Information system audits

10. Payroll audits

11. Forensic audits (para. 1)

The Financial Crime Academy has identified four types of audit planning:

1. Controls-based audits

2. Process-based audits

3. Risk-based audits

4. Enterprise Risk Management (ERM)-based audits (para. 3)

While these may not be all-inclusive lists, they touch upon a vast majority of audit and audit planning types.

Role of technology in audits

No matter the type of audit or type of planning, the auditor needs to gain an understanding of the Enterprise resource planning (ERP) environment in which the entity operates since so many processes of organizations are automated. ERP refers to the type of software that organizations use to manage day-to-day business activities such as but not limited to accounting, project management, procurement, supply chain operations, risk management and compliance activities. An ERP system can have both benefits and drawbacks when it

comes to audit planning. On one hand, ERP systems increase transparency in business processes and eliminate the need for controls assuring data consistency and accuracy as data is being transferred from one part of the system to another if the system is based upon a single data entry point. Additionally, if the ERP system is one centrally controlled database, the risk of privacy violation can be identified more easily. Integrated ERP systems can provide for more efficient and effective audit planning and execution. On the other hand, the complexity of the ERP system could create additional risk during implementation and operational stages. An integrated system could inhibit the ability of switching to a new system for some individual function, even if the new system has better functionality. Another risk in an ERP system could occur as it relates to system errors or glitches, a system error or glitch in one part of the system could negatively impact other parts of the system. Integrated systems also can pose a challenge to an auditor in that the auditor must gather evidence encompassing the entire system and design the audit plan which considers the integrated nature of the software system.

Advanced technologies are changing audit planning by having a significant positive impact on audit quality. As part of the planning process, the auditor should consider how to incorporate technologies to better assist in increasing the quality of the audit while also attempting to decrease costs. Some of the latest technologies that are being incorporated into audit planning include the following:

• Using bots to analyze entire data sets and spot anomalies,

• Leveraging advanced technology, like artificial intelligence and data visualization, to improve a company’s own internal controls, and

• Employing automation technology to free up auditors to do more meaningful work.

Steps in planning an audit

The audit planning process can be divided into the following three phases: 1) starting the project, 2) conducting a preliminary survey, planning the audit, and conducting risk assessment, and 3) developing the audit program. These steps are then followed by fieldwork and reporting.

Starting the project can include selecting or assigning staff or personnel to the audit. It will also include setting the start date, list the required documents to be gathered by the participants, and coordination and communications between the auditor and those being audited. The auditor will also research any concerns behind the audit request. Finally, the auditor may conduct a meeting with project participants to introduce all involved, explain the audit objective, gain an understanding of communication protocols, and solicit questions or concerns regarding the audit.

The preliminary survey portion of the planning would include researching and obtaining any relevant background information related to the audit objective. This could include reviewing documents available regarding the audit subject matter. These documents could include such things as meeting minutes, organization charts, policies, procedures, regulations, key reports, and relevant literature. It could also include any questionnaires which can collect information about the entity and its practices.

The risk assessment should then be developed to identify the threats associated with the subject matter or activity under audit. As part of this assessment, the threats should be rated to possible impacts and materiality to the subject being evaluated. Additionally, the controls or procedures in place to prevent or mitigate the threat need to be identified so that the auditor can understand the vulnerability of the audit risks

and controls. These should be ranked (i.e. high, medium, low) and specific attributes of any existing controls documented, such as frequency, type of control, or if the control mitigates a fraud risk.

Finally, the auditor should create a field work audit program. This would include documenting audit objectives, scope, methodology, and related concerns. The program would also describe the audit steps, tasks, and procedures to test controls and procedures that are currently in place. The audit program should be tailored to meet the objectives for each specific audit. The type and amount of evidence to be gathered should be enough to obtain sufficient and appropriate evidence to provide a reasonable basis for findings and conclusions. Information gathering often includes inquiry, observation, or inspection of pertinent records and information. O’Reilly (n.d.), of AuditBoard, interestingly challenges the audit industry by noting “when more internal auditors create audit programs that test for control, versus testing controls, our industry will improve by leaps and bounds” (p. 6). This underscores the importance of the auditor in gaining a holistic understanding of the company, its operating environment(s), and really understanding the risks faced by the specific entity being audited.

Audit plan standards

In regards to accounting and auditing standards in the US, the Financial Accounting Standards Board (FASB) is the independent, private- sector, not-for-profit organization that establishes financial accounting and reporting standards for public and private companies and not-for-profit organizations that follow Generally Accepted Accounting Principles (GAAP). FASB is recognized by the US Securities and Exchange Commission (SEC) as the designated accounting standard setter for public companies and is also recognized as authoritative by state Boards

(KPMG, n.d., para.1)

of Accountancy and the American Institute of Certified Public Accountants (AICPA). As such, FASB offers standards in regards to audits of financial reporting.

The International Professional Practices Framework (IPPF) is the conceptual framework that organizes authoritative guidance offered by the Institute of Internal Auditors (IIA). The IIA provides internal audit professionals worldwide with authoritative guidance organized in the IPPF as mandatory guidance and recommended guidance. There are eleven overarching standards and forty-one underlying standards.

The Library of Congress provides several accounting and auditing resource guides for nonprofit organizations which can be obtained from their website. Additionally, they provide resources for standards used by accountants and auditors as part of their work. These include resources published by Financial Accounting Standards Board (FASB), AICPA, and the Public Company Accounting Standard Oversight Board (PCAOB).

The AICPA Statements on Auditing Standards contain standards specifically to address professional audit practices. Gartland (2019) notes some important professional liability standards listed below, along with a brief description of the content of the standard:

• Timing (AU-C §§300.02 and 300. A2) - The information learned during planning should be applied throughout the engagement to achieve appropriate conclusions.

• Risk assessment (AU-C §315) - A holistic view of the various industry, regulatory, internal, and external factors may allow for linkages that might otherwise be lost in the minutiae of performing the engagement. Resources should not be limited solely to the engagement team.

• Team composition (AU-C §300.05) - the level of experience on the team, use

of experts, and scheduling of who will review and when are all variables that can significantly alter the engagement approach and affect its success. (para. 1)

The AICPA has also published auditing standard AU-C § 300: Planning an audit. This is part of the AICPA’s overall set of audit standards set by the Auding Standards Board, a division of the AICPA. The standards are referred to as Generally Accepted Auditing Standards (GAAS). The PCAOB has published AS 2101: Audit Planning. While the PCAOB has oversight over SEC-Registered entities, and not over nonprofit cooperatives, this standard can provide a resource on potential best practices to follow when planning an audit. International Standard on Auditing (ISA) 300, Planning an Audit of Financial Statements, could also be read in conjunction with ISA 200, Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with International Standards on Auditing. Once again, while these standards may not be directly applicable to non-profit cooperatives, the information in the standards could additionally provide further insight into best practices.

For those looking for practical guides on audit planning, the IIA offers a practice guide (titled “Engagement Planning”) which highlights the key steps to perform when planning for an internal audit program. This guide can be located at the IIA website and purchased for a small fee. Additionally, the Committee of Sponsoring Organizations of the Treadway Commission (COSO)’s Internal Control – Integrated Framework provides a guide for creating a comprehensive audit program and can also be found on their website. While this is not an exhaustive list, these are two trusted sources which offer guidance and information on audit planning.

Audit plans should be prepared and executed by competent and qualified personnel. Audit guidelines and best practices can vary from industry to industry. Local, state, and regional auditing certifications may be available depending upon the location. Additionally, there are three internationally recognized certification programs:

• the Certified Internal Auditor designation offered by the Institute of Internal Auditors (IIA)

• the Certified Information Systems Auditor designation offered by the Information Systems Audit and Control Association; and

• International Register of Certificated Auditors membership.

(Cole, Fredsall, & Lutkevich,, n.d., para. 10)

Summary

There are many advantages of audit planning, a list of them is identified by AccountLearn.com and shown below:

1. It provides right means to accomplish audit objectives.

2. It ensures that no important area is left out. All important areas of management receive attention.

3. It helps in identifying potential problems.

4. It ensures timely completion of audit work.

5. It facilitates coordination of the audit work done by auditors and other experts.

6. It helps in improving the quality of audit work.

7. Good planning brings promptness and perfection in audit performance.

(Advantages of Audit Planning section)

Establishing and maintaining a robust audit program will benefit any organization. An on-going effort, year after year, to refine and build upon past audits will provide a level of growth and maturity that allows for the ability to reduce significant threats or identify new ones. Resources on an audit should not be limited solely to the audit team, “colleagues, peers, professional associations, technical standards, prior-year audits, and other engagements can all provide valuable insight” (Gartland, 2017, para.7).

Ultimately, the goals of an organization are outlined and driven by overall company strategic plans. As such, audit program details should be based on an organization’s unique needs. An effective and on-going audit program should be in alignment and support of achieving those company-wide objectives by reducing risks that might prevent successful achievement of these goals. Ultimately, a good audit plan also goes through multiple levels of review and buy-in with responsible staff, management, and/or governing bodies before being finalized and allowing fieldwork to begin.

References

AccountLearning.com. (n.d.). Audit Planning & Developing an Active Audit Plan –Considerations, Advantages. Retrieved February 15, 2023 from the following website: https://accountlearning.com/audit-planning-developing-an-active-audit-plan-considerationsadvantages/

Cole, B., Fredsall, A., & Lutkevich, B. (n.d.). Definition: audit program (audit plan). (Retrieved February 15, 2023 from the following website: https://www.techtarget.com/ searchcio/definition/audit-program-audit-plan

Financial Crime Academy (FCA). (n.d.) Effective Types of Planning: The Steps And Importance Of Planning Category. Retrieved February 15, 2023 from the following website: https://financialcrimeacademy.org/effective-types-of-planning-definition/

Gartland, D. (September 1, 2017). The importance of audit planning. Retrieved February 15, 2023 from the following website: https://www.journalofaccountancy.com/issues/2017/ sep/importance-of-audit-planning.html

Gartland, D. (July 12, 2019). Audit planning standards and risk management. Retrieved February 15, 2023 from the following website: https://www.linkedin.com/pulse/auditplanning-standards-risk-management-antonio/

KPMG. (n.d). The Intersection of Technology and Quality in the Audit. Retrieved February 15, 2023 from the following website: https://audit.kpmg.us/articles/2022/the-intersection-oftechnology-and-quality-in-the-audit.html

O’Reilly, T. (n.d.). Planning an audit from scratch: a how-to-guide. Retrieved February 15, 2023 from the following website: https://www.auditboard.com/download/planning-an-auditfrom-scratch.pdf

Page, R., & Pennings, D. (October 1, 2021). 11 Different Types of Audits That Can Help Your Business. Retrieved February 15, 2023 from the following website: https://beenegarter.com/ different-types-of-audits/

Additional Helpful Resources

AICPA Auding standards. (2021). AU-C Section 300: Planning an audit. Website: https:// us.aicpa.org/content/dam/aicpa/research/standards/auditattest/downloadabledocuments/auc-00300.pdf

COSO. (2013). Guidance on Internal Control. Website: https://www.coso.org/sitepages/ internal-control.aspx?web=1

FASB standards. Website: https://www.fasb.org/standards

Institute of Internal Auditors (IIA) standards. Website: https://www.theiia.org/en/standards/

Library of Congress standards. Website: https://guides.loc.gov/accounting-and-auditing/ united-states/standards

Public Company Accounting Standard Oversight Board (PCAOB) standards. Website: https://pcaobus.org/oversight/standards/auditing-standards

Public Company Accounting Standard Oversight Board (PCAOB). (2022). AS 2101: Audit Planning. Document website: https://pcaobus.org/oversight/standards/auditing-standards/ details/as-2101-audit-planning-2022

By Greg Taylor

FASB ISSUES ASU ON FINANCIAL SERVICES-INSURANCE (TOPIC 944) TRANSITION FOR SOLD CONRACTS

In December 2022, the FASB issued ASU 2022-05 to: reduce implementation costs and complexity associated with the adoption of LDTI (ASU 2018-12 Targeted Improvements to the Accounting for Long Duration Contracts LDTI) for contracts that have been derecognized in accordance with the amendments in this Update before the LDTI effective date. Without the amendments in this Update, an insurance entity would be required to reclassify a portion of the previously recognized gains or losses to the LDTI transition adjustment because of the adoption of a new accounting standard. Because there is no effect on an insurance entity’s future cash flows, such a reclassification may not be a decision useful to investors and other allocators of capital.

Who Is Affected by the Amendments in This Update?

The amendments in this Update affect insurance entities that have derecognized contracts before the LDTI effective date. The LDTI effective dates, as amended by Accounting Standards Update No. 2020-11, Financial Services—Insurance (Topic 944): Effective Date and Early Application, are as follows:

Greg Taylor, Shareholder, D. Williams & Co., Inc.

1500 Broadway, Suite 400 Lubbock, TX 79401 (806) 785-5982

gregt@dwilliams.net

1. For public business entities that meet the definition of a U.S. Securities and Exchange Commission (SEC) filer and are not smaller reporting companies, LDTI is effective for fiscal years beginning after December 15, 2022, and interim periods within those fiscal years. Early application is permitted.

2. For all other entities, LDTI is effective for fiscal years beginning after December 15, 2024, and interim periods within fiscal years beginning after December 15, 2025. Early application is permitted.

What Are the Main Provisions?

The amendments in this Update amend the LDTI transition guidance to allow an insurance entity to make an accounting policy election on a transaction-by transaction basis. An insurance entity may elect to exclude contracts that meet certain criteria from applying the amendments in Update 2018-12. To qualify for the accounting policy election, as of the LDTI effective date both of the following conditions must be met:

1. The insurance contracts must have been derecognized because of the sale or disposal of individual or a group of contracts or legal entities.

2. The entity has no significant continuing involvement with the derecognized contracts.

GENERAL EDITOR

How Do the Main Provisions Differ from Current Generally Accepted Accounting Principles (GAAP) and Why Are They an Improvement?

Currently, the LDTI guidance is required to be applied retrospectively to the earliest period presented or as of the beginning of the prior fiscal year if early application is elected. If the LDTI guidance was applied to contracts that have been derecognized before the LDTI effective date, preparers would have to communicate why previously recognized gains or losses have changed because of the adoption of a new accounting standard. In the Board’s view, that likely would not have provided decision-useful information to investors and other allocators of capital.

When Will the Amendments Be Effective and What Are the Transition Requirements?

The effective dates of the amendments in this Update are consistent with the effective dates of the amendments in Update 2020-11.

The ASU is available at www.fasb.org

FASB ISSUES ASU ON REFERENCE RATE REFORM (TOPIC 848) DEFERRAL OF THE SUSET DATE OF TOPIC 848

In December 2022, the FASB issued ASU 2022-06 to address deferral of the Sunset Date of LIBOR as a reference rate originally set out in ASU 2020-04. At the time that Update 2020-04 was issued, the UK Financial Conduct Authority (FCA) had established its intent that it would no longer be necessary to persuade, or compel, banks to submit to LIBOR after December 31, 2021. As a result, the sunset provision was set for December 31, 2022—12 months after the expected cessation date of all currencies and tenors of LIBOR.

In March 2021, the FCA announced that the intended cessation date of the overnight 1-, 3-, 6-, and 12-month tenors of USD LIBOR would be June 30, 2023, which is beyond the

current sunset date of Topic 848.

Because the current relief in Topic 848 may not cover a period of time during which a significant number of modifications may take place, the amendments in this Update defer the sunset date of Topic 848 from December 31, 2022, to December 31, 2024, after which entities will no longer be permitted to apply the relief in Topic 848.

Who Is Affected by the Amendments in This Update?

The amendments in this Update apply to all entities, subject to meeting certain criteria, that have contracts, hedging relationships, and other transactions that reference LIBOR or another reference rate expected to be discontinued because of reference rate reform.

When Will the Amendments be Effective?

The amendments in this Update are effective for all entities upon issuance of the Update.

The ASU is available at www.fasb.org

FASB ISSUES PROPOSED STATEMENT OF FINANCIAL ACCOUNTING CONCEPTS (CON8) CONCEPTS STATEMENT No. 8, CONCEPTUAL FRAMEWORK FOR FINANCIAL REPORTING

– Chapter 5:

Recognition and Derecognition

On November 22, 2022, the FASB issued a proposed concepts statement chapter regarding recognition and derecognition within the larger conceptual framework for financial reporting. The comment deadline is February 21, 2023.

Some items from the Chapter:

How This Chapter of the Conceptual Framework Would Be Used

P4. This chapter of Concepts Statement 8 would be similar to the rest of the framework in that it establishes concepts that the Board would use in developing standards

of financial accounting and reporting. In particular, this chapter would provide the Board with a framework for conceptual matters relating to the recognition and derecognition of an item in financial statements. This chapter would provide the Board with a framework for developing standards in meeting the objective of financial reporting that enhances the understandability of information to existing and potential investors, lenders, donors, and other resource providers of a reporting entity.

Recognition

RD3. Recognition is the process of incorporating an item in financial statements of a reporting entity as an asset, liability, equity, revenue, gain, expense, loss, or investment by or distribution to owners. A recognized item is depicted in both words and numbers, with the amount included in financial statement totals. For an asset or a liability, recognition involves recording the acquisition or incurrence of the item and later changes in the item (related to measurement), including changes that result in its removal from financial statements (as addressed in paragraphs RD12 and RD13). Because recognition means the depiction of an item in both words and numbers, with the amount included in the totals of financial statements, disclosure of an amount by any other means is not recognition.

Recognition Criteria

RD4. The recognition criteria are intended to provide direction for resolving issues that involve accounting recognition. The reporting entity’s assets, liabilities, equity, and changes in those elements are candidates for recognition in financial statements.

RD5. An item and its financial information should meet three recognition criteria to be recognized in financial statements, subject to the pervasive cost constraint and materiality considerations. Those criteria are:

a. Definitions—The item meets the definition of an element of financial statements.

b. Measurability—The item is measurable and has a relevant measurement attribute.

c. Faithful Representation—The item can be depicted and measured with faithful representation.

RD6. All three criteria are subject to the cost constraint: the benefits from recognizing a particular item should justify the costs of providing and using the financial information. Recognition also is subject to materiality considerations. The cost constraint and materiality are discussed in Chapter 3 of this Concepts Statement.

Element Definitions

RD7. An item must meet the definition of an element in Chapter 4 of this Concepts Statement to be recognized in financial statements. Recognizing an item that does not meet the definition of an element would be inconsistent with the fundamental qualitative characteristic of faithful representation by misrepresenting a reporting entity’s (a) resources, (b) claims to those resources, or (c) changes in those resources and claims during the period.

Measurability

RD8. The asset or liability must be measurable with a relevant measurement attribute to be recognized in financial statements. Measurability must be considered together with both relevance and faithful representation.

RD9. Relevance, as discussed in Chapter 3 of this Concepts Statement, is a fundamental qualitative characteristic. Relevant financial information is capable of making a difference in the decisions made by users. To be relevant, financial information about an item must have predictive value, confirmatory value, or both.

RD10. A relevant measurement attribute for an item being considered for recognition

cannot be determined in isolation. Relevance should be evaluated in the context of the objective of general-purpose financial reporting: providing financial information about a reporting entity that is useful to existing and potential investors, lenders, and other resource providers in making decisions about providing resources to the entity.

Faithful Representation

RD11. Faithful representation, as discussed in Chapter 3 of this Concepts Statement, is a fundamental qualitative characteristic. To be useful, financial information not only must represent relevant phenomena, but it also must faithfully represent the phenomena that it purports to represent. Financial information that is faithfully represented must be complete, neutral, and free from error. To achieve the objective of general purpose financial reporting, an item recognized in financial statements must be depicted and measured with faithful representation.

Derecognition

RD12. Derecognition is the process of removing an item from financial statements of a reporting entity as an asset, liability, or equity. Derecognition should occur when an item no longer meets any one of the recognition criteria in paragraph RD5. For example, an item should not continue to be recognized if it does not meet the definition of an element because continued recognition of that item would violate the definition’s recognition criterion.

RD13. In certain arrangements, an entity may have continuing involvement in the asset, liability, or equity item that is being evaluated for derecognition. The nature and extent of the continuing involvement may influence the derecognition consideration at the standards level. However, that involvement also may create rights and obligations that meet the recognition requirements of paragraph RD5 and should be recognized to faithfully represent the results of the arrangement.

The proposed CON8 Chapter 5, including questions for respondents, is available at www.fasb.org

RECENT ACTIVITIES OF THE PRIVATE COMPANY COUNCIL

The Private Company Council (PCC) met on Thursday, December 15 and Friday, December 16, 2022. Below is a summary of topics addressed by the PCC at the meeting:

• Technical Issues Committee (TIC): PCC members reported on the issues discussed with the TIC during their annual PCCTIC Liaison meeting. PCC members shared observations on a variety of topics including the implementation of Topic 842, Leases, and common control arrangements, stock compensation disclosures, accounting for software costs, joint venture formations, and taxes paid by pass-through entities. PCC members thanked the TIC for the insightful dialogue.

• Leases (Topic 842): Common Control Arrangements: The PCC discussed the post-implementation review activities related to Topic 842, Leases, including the proposed Accounting Standards Update to improve accounting guidance for arrangements between entities under common control. PCC members were supportive of the proposed practical expedient that would allow nonpublic entities to use written terms and conditions of an arrangement between entities under common control to determine whether a lease exists. Some members discussed the degree of formality required in documenting agreed upon terms and conditions, with those members observing that entities have latitude to use reasonable judgment when deciding how the terms and conditions of the arrangement are conveyed in writing. Under the proposed Update, leasehold improvements associated with arrangements between entities under

common control would be amortized by the lessee over the economic life of the leasehold improvements as long as the lessee controls the use of the leased asset. PCC members discussed the judgment required under current GAAP to determine the owner of improvements made by a lessee to the leased asset in a common control lease for purposes of determining whether the lessee capitalizes those improvements as leasehold improvements. Those PCC members acknowledged that the issue with that determination is not unique to common control arrangements or the adoption of Topic 842 (that is, that same determination also was being made under Topic 840, Leases).

• Accounting for Government Grants, Invitation to Comment: The PCC reviewed a summary of the feedback received in response to the Invitation to Comment—Accounting for Government Grants by Business Entities: Potential Incorporation of IAS 20, Accounting for Government Grants and Disclosure of Government Assistance, into Generally Accepted Accounting Principles. Overall, PCC members were supportive of a project that would result in the development of accounting guidance for recognition, measurement, and presentation of government grants with IAS 20 as a starting point. Given the pervasiveness of government grants, some PCC members noted that IAS 20 permits different recognition, measurement, and presentation based on the type of grant, which could result in a workable solution to account for various types of grants. Some PCC members stated that there are challenges with certain aspects of IAS 20, such as applying the reasonable assurance threshold for recognition. PCC members discussed how additional examples could be helpful when accounting for

various types of government grants. PCC members who are users emphasized the need for conservatism and consistency in the accounting, in addition to understanding the predictability and risk related to future cash flows.

• Revenue—Implementation Issues: The PCC discussed the post-implementation review activities completed to date for Topic 606, Revenue from Contracts with Customers. PCC members were generally supportive of the revenue standard. PCC members also observed some ongoing implementation challenges for private companies in the following areas: insufficient familiarity with Topic 606, especially by smaller companies/ firms; disclosures about opening contract balances; and principal versus agent determination in service transactions.

• Scope Application of Profits Interests Awards: Compensation—Stock Compensation (Topic 718): The PCC reviewed the Board’s recent decision to add a project to its technical agenda that would add illustrative examples to the Codification to demonstrate how an entity would apply the scope guidance in Subtopic 718-10, Compensation—Stock Compensation—Overall, to determine whether a profits interest or similar award should be accounted for by applying Topic 718. A proposed Update is expected to be issued in the first quarter of 2023 with a 60-day comment period. PCC members expressed support for the project and related Board decisions on the illustrative examples and transition. Some PCC members suggested that the FASB increase communication about the project with smaller entities who may not be aware of the proposed guidance.

• Accounting for and Disclosure of Software Costs: The PCC reviewed and discussed recent outreach and

the alternatives being explored by the staff for future consideration by the Board. Many PCC members supported the initial development cost model. One PCC member supported a model that would expense all software development costs, while other PCC members acknowledged the lack of a conceptual basis in that model. PCC members discussed the challenges with distinguishing between maintenance and enhancements, tracking software development activities, and determining a useful life for software with continued enhancements under a capitalization model. PCC members who are users supported increased transparency about software costs and highlighted that their focus is to predict future cash flows.

• Accounting for and Disclosure

SOYOUNG HO (SEC matters) and DENISE LUGO (FASB, AICPA matters), WHO WRITE THESE SUMMARIES FOR THOMSON REUTERS

February 3, 2023 - FASB: Crypto Accounting Proposal Coming by end of March 2023 amid slight sector rebound from lows

The FASB on Feb. 1, 2023, said the public will get 75 days to comment on a proposal on accounting for cryptocurrencies, provisions aimed at reflecting the underlying economics of Bitcoin and other tokens on the balance sheet.

of

Crypto Assets: The PCC reviewed the Board’s recent decisions on scope, measurement, presentation, and disclosure. One PCC member commented on the Board’s decision to exclude disclosure about the nature and purpose of crypto asset holdings. In contrast, another PCC member observed that users of private company financial statements have access to management that allows them the opportunity to ask questions about the nature and purpose of crypto asset holdings.

• Other Business: The FASB chair congratulated PCC members on the 10year anniversary of the PCC and the PCC chair thanked outgoing PCC members, Zubin Avari and Yan Zhang.

The next PCC meeting is scheduled for Tuesday, April 25, 2023, and is expected to be virtual.

THE FOLLOWING ARE SELECTED TOPICS FROM THE DAILY ACCOUNTING HIGHLIGHTS PUBLISHED BY THOMSON REUTERS – FULL ATTRIBUTION TO

The proposal will build the first explicit standard on crypto assets in U.S. GAAP and is expected to be issued by the end of March. A final standard will be published by year-end, according to the discussions.

FASB members affirmed that the guidance will be narrowly drawn for fungible tokens, deemed to be intangible assets, secured through cryptography on a blockchain or distributed ledger, and do not provide the asset holder with enforceable rights to or claims on underlying goods, services, or other assets.

“I think investors asked us ‘with cryptocurrency can you give us fair value information?’ and we’re providing that,” FASB member Gary Buesser said. “‘The old accounting doesn’t work, this accounting gives me much better information – I get units, I get cost basis, fair value, the market it trades in,’ that’s the vast majority of what investors need,” he said. “‘It gives me an insight into what the company owns and what the value is and what they paid for it’ and this is to me an example of where we operate in a really quick manner and provide the market with what it wants, and this is a win-win for investors.”

The FASB’s work on the proposal finishes at a time when the crypto sector is experiencing a slight rebound, mirroring the stock market which has been rallying,

market watchers said. But in relation to the health of the crypto sector, there is still a lot of pain and uncertainty and a push for regulation. Furthermore, enthusiasm for cryptocurrencies, including popular tokens like Bitcoin and Ethereum, has waned due to bankruptcies and scandals like FTX which created hesitancy among those who previously were quick to dabble.

For the FASB, developing the proposal is a landmark achievement, coming after years of pressure from the crypto sector which said that current accounting rules do not necessarily reflect the underlying economics of crypto assets. Tokens today must be accounted for as intangible assets and reported on the balance sheet at historical cost. Those assets are deemed to be impaired when the price drastically drops but that loss cannot be recovered in financial reports when the price rebounds.

The proposal aims to eliminate those concerns by enabling tokens to be measured at fair value under Topic 820, Fair Value Measurement. An entity should recognize certain costs incurred to acquire crypto assets such as commissions as an expense unless there is some kind of industry guidance that would suggest otherwise for those entities, the board decided last year. Companies should present crypto assets separately from other intangible assets on the balance sheet because they have different measurement requirements. This presentation approach would result in a prominent display of crypto assets, providing investors with clear and transparent information about the fair value of crypto assets within the financial statements.

January 27, 2023 – AICPA Digital Asset Reporting Guide Punts on Lending Transactions

A working group of the AICPA—which develops a practice aid related to crypto accounting—decided not to directly address a recent position taken by the Securities and

Exchange Commission’s (SEC) Office of Chief Accountant (OCA) about how firms should account for crypto lending arrangements.

During an AICPA accounting conference in December last year, now-SEC Chief Accountant Paul Munter said that OCA staff views it as a “crypto lending receivable” for a lack of a better term. And the SEC staff’s views came amid a series of crypto implosions and scandals last year, most notably FTX. The crypto platform had a lack of trustworthy financial information, compromised systems integrity and concentrated control of the business with allegedly fraudulent related-party transactions and loans.

In response to a question by Thomson Reuters at the sidelines of the conference on Dec. 12, 2022, about how the message will be spread to a wider audience, Munter said that “my expectation is that they [the AICPA] will be putting out something as well.”

Because there is no official accounting guidance dedicated to crypto, regulators and standard-setters have been either issuing interpretive guidance or working on narrow standard-setting projects. The AICPA first issued Practice Aid—Accounting for and Auditing of Digital Assets in December 2019 and has been regularly updating the guide as questions were raised and solved by the technical working group. And in January 2022, the panel added a chapter about crypto asset lending and borrowing.

Now, in its latest update, published on Jan. 25, 2023, it does not give an answer about how it should be accounted for even though the guide is in the form of question and answer (Q&A). Instead, after providing an example, it just states: “NOTE: Q&A 25 was discussed during the Office of the Chief Accountant’s Current Project session at the 2022 AICPA & CIMA Conference on Current SEC and PCAOB Developments. Consultation with your professional adviser or the SEC staff is recommended for such fact patterns.”

AICPA Practice Aid: Simple Example

Q&A 25 gives a simple example of a lender lending 100 units of crypto asset ABC for a term of six months to a borrower. The borrower will pay a fee in total of six units of ABC for borrowing ABC during the sixmonth loan period, paying one unit of ABC each month in arrears during the term. The working group notes that this is typically known as an interest payment. At the end of the six months, the borrower is required to deliver 100 units of ABC back to the lender. The practice aid also assumes the following:

• ABC is an intangible asset under the FASB’s ASC 350.

• The ownership of loaned ABC is transferred to the borrower, and the borrower now has the right to transfer, encumber or pledge the crypto asset in any way it chooses.

• The borrower is not required to post collateral to the lender.

• The borrower has identified its functional currency as the U.S. dollar under FASB ASC 830, Foreign Currency Matters.

Because Q25 lacks an answer about how that example should be accounted for, at least to a former top accountant of the SEC, it was an unfortunate move by the AICPA, to put it mildly.

“What a non-answer but in reality, the correct and best answer,” said Lynn Turner, who served as the SEC’s chief accountant from 1998 to 2001.

But what really troubles him is the notion that the example is about a lending activity.

“This is a scam as this is in no way a ‘lending’ transaction. The ‘lender’ is giving up any and all control of the digital coin to the ‘borrower,’” said Turner who currently serves on the Public Company Accounting Oversight Board’s advisory groups. “To call it anything other than a sale is ridiculous. A better word to describe such a ‘lender’ is ‘fool.’”

SEC OCA Thinking: Crypto Asset Loan Receivable

The note in AICPA guide’s Q&A 25 is referring to a subsequent panel at the AICPA conference in December where Jonathan Wiggins, senior associate chief accountant in SEC’s OCA, better explained the staff’s views using a simple scenario.

An entity loans a crypto asset. At the end of the loan, the borrower must return the same type and quantity. During the period that the loan is outstanding, the borrower has the right and ability to use the loan at its sole discretion, including the ability to sell or pledge the asset to a third party. The lender would be compensated with a fee, which is typically a percentage of the assets lent during the period of the loan. In addition, in certain arrangements, the loan terms may require the borrower to pledge collateral to the lender.

For this basic fact pattern, the staff believes that “it would be appropriate for the lending entity to derecognize the crypto assets that it lends to the borrower. This is because once the lending entity has lent those crypto assets to the borrower, the entity no longer has the right to the economic benefit of the lent crypto assets until they are returned by the borrower, and therefore the lending entity does not control those crypto assets during that time period,” Wiggins explained. “Concurrent with derecognition of the crypto assets, the staff believes that it would be appropriate for the lending entity to recognize an asset that is reflective of its right to receive the crypto assets back from the borrower at the end of the loan period.”

The SEC staff refers loosely to such an arrangement as a crypto asset loan receivable, and it would be measured at inception and at subsequent reporting based on fair value of the lent crypt assets with changes in fair value reflected in gains and losses.

“Under certain accounting frameworks that

may result in the recognition at inception of the loan the gain or loss in other gains and losses, it would be calculated as the difference between the carrying value of the crypto assets and the fair value of the lent crypto assets at inception of the loan,” he said. “Importantly, though, when I referred to gains and losses, the staff believes that these would be presented separately from revenue in the income statement. Because the lending transaction exposes the entity to credit risk of the borrower, the staff believes it would be appropriate for the lending entity to recognize at inception and at each subsequent reporting date an allowance for expected credit losses. And in recognizing that allowance for credit losses, the lending entity would look to the principles in” the FASB’s current expected credit losses (CECL) standard.

In the meantime, these types of arrangements do not really happen in the banking industry, but SEC officials say that they have seen them on crypto platforms or exchanges. And lending arrangements tend to be short-term, usually lasting six months.

January 18, 2023 – FASB Plans to Require More Detailed Disclosures of Income Statement Expenses

The Financial Accounting Standards Board (FASB) last week made some significant decisions to provide investors more insight into corporations’ income statement expenses.

This is part of the board’s ongoing disaggregation standard-setting project, and the decisions made during a meeting held on Jan. 11, 2023, while unanimous, are tentative at this juncture. A proposal is expected sometime in the first half of this year.

Under the board’s tentative plans, companies must disclose costs incurred that are expensed as incurred. And they must disclose costs incurred that are capitalized as inventory.

For costs expensed as incurred, companies

will have to provide specific income statement expense line items of labor costs; depreciation of property, plant and equipment; amortization of intangible assets; and inventory expense.

In addition, depending on how discussions go in the future, companies might have to provide even more disaggregated information.

“The Board indicated that it will discuss at a future meeting whether other types of depreciation, amortization, or depletion other than depreciation of property, plant, and equipment and amortization of intangible assets should be disclosed,” according to a summary of the meeting provided by the FASB.

As for costs capitalized to inventory, the U.S. accounting standard-setter decided that the required categories for greater disaggregation should be: purchases of inventory, including all classes of inventory; employee compensation; depreciation of property, plant and equipment; and intangible asset amortization.

More details about the decisions made last week can be found here, including the definition of employee compensation, disaggregation of residual expenses and costs incurred and selling expenses.

The board also decided the additional disaggregated information can be provided in notes to financial statements.

The FASB’s summary of the meeting provides an example expense disaggregation for better illustration of what could be required if the decisions were finalized.

Questions about Cost-Benefits

In the meantime, the FASB’s latest decisions come amid intense push by some investors who have been especially vocal in recent years that they want more information provided to them about a company’s operation and financial performance. They have also been telling SEC Chair Gary

Gensler that in the past several years, the accounting rule maker had been ignoring investor views while taking on more projects that simplify accounting for the benefit of companies.

The SEC oversees the FASB. And Gensler has been more receptive to investor demand than his predecessor, Jay Clayton, who put a greater emphasis on capital formation and business-friendly rules.

If the FASB ends up proposing and adopting the rules on disaggregated income statement expenses, some investors will likely be happy. By contrast, companies will face more burden in preparing their financial statements. And at least to a former chairman of the FASB, this would be an unfortunate outcome.

“Users of financial statements have been asking for more details such as in the FASB’s added segments disclosures now out for comment,” Dennis Beresford, who chaired the FASB from 1987 to 1997, said in reference to an October 2022 proposal that would finally require more detailed information about a reportable segment’s expenses, which investors have been asking for a very long time. This one, Beresford welcomed it. “It’s a proposed amendment of Statement 131, [Disclosures about Segments of an Enterprise and Related Information], which was the last one issued while I was there—now over 25 years ago.”

By contrast, “this other project asks for even more breakdowns of companies’ income statements,” Beresford explained. “Frankly, I’m not sure how analysts and investors would use this added information, and I suspect companies will say it’s difficult and costly to produce.”

January 18, 2023 – Top 5 Accounting Rules to Hit Companies’ Books This Year, Including Issues to Watch For

Several of the FASB’s significant accounting standards take effect for the first time this year for businesses, including new rules

for reporting life and annuities insurance contracts which took the board more than a decade to create.

The rules come into effect at a time of economic speculation about inflation, recession, interest rates and the Ukraine situation, among other issues, accountants said.

Especially key is Accounting Standards Update (ASU) No. 2018-12, Financial Services—Insurance (Topic 944): Targeted Improvements to the Accounting for LongDuration Contracts, which large public insurance companies have to adopt starting Jan. 1, 2023. The standard was issued in 2018 but the effective date was deferred twice.

“This is a completely wholesale system software change,” Michael Monahan, Senior Director of Accounting Policy for the American Council of Life Insurer’s (ACLI), said on Jan. 5.  “The old systems were siloed and they didn’t talk to each other; the new system – and it’s all new; it’s a brand new chassis and the systems are integrated – they talk to each other,” he said. “It’s a huge benefit for everybody involved.”

Companies should expect the initial cost to be expensive, Monahan said. “I did hear from a lot of people it was very expensive.”

A major effort was made to educate not only financial statement preparers but investors in the insurance sector. “We were signaling to investors and other users of financial statements where we were heading and what they should expect and what do we think that the impact’s going to be,” Monahan explained. “So that mitigates the surprises because in the last couple of quarters we’ve been telling them ‘this is coming, this is coming – it’s here’ and as we get closer and closer to the implementation date you get finer and finer data.”

Some of the issues that companies will need to pay close attention to include areas in the standard around how to create market risk benefits when a company has benefits that move as the market moves, and in

relation to liability per policy benefit.

“Working with the experts, we were able to get those huge issues into a manageable place. Was it perfect? No. Is it workable? Yes,” said Monahan. “The last thing that we did, we spent at least a year on this –were disclosures because that’s where the investors get their information,” he said. “We worked on a forum where companies can bring their ideas or their challenges because at the end of the day if every company does something differently to get to the same information, that’s not helpful to investors.” He noted that since private companies do not have to implement the rules until 2025, they have a great opportunity to learn from large filers this year.

Four Other Accounting Rules to Hit

Outside of the insurance sector, others in the accounting profession flagged four other ASUs that take effect this year, offering the following insights:

• ASU No. 2022-04, Liabilities–Supplier Finance Programs (Subtopic 40550): Disclosure of Supplier Finance Program Obligations. This standard is a disclosure-only standard, focused on entity agreements with finance providers to settle its obligation with a supplier. Financial statement users will be provided with better information about the nature of the arrangement, the activity during the period and the potential magnitude of the program on the company’s operations.  One challenge for companies might be ensuring that their controls are operating at the right level of precision to capture the new information – particularly the quantitative information, Angie Storm, a partner in KPMG LLP’s professional practice group, said on Jan. 6.   Another relates to the idea that companies that engage in supplier finance programs may do so with lots of different intermediaries and thus “there may be a question about how much disaggregation or aggregation

to do in the footnote,” she said.  “There’s going to be some judgment there on just the presentation of the disclosure.”    Also notable is the scope of the guidance. “There are some indicators in the standard as to what’s in scope because that could be tricky depending on the individual details of the contract,” said Storm. “So I think companies will be spending some time thinking through whether their arrangement meet those indicators.”

• ASU No. 2021-08, Business Combinations (Topic 805): Accounting for Contract Assets

and

Contract Liabilities

from Contracts with Customers.  The guidance is important for companies involved in acquisitions, accountants said.  The standard requires companies to measure contract assets and liabilities acquired in a business combination as if they had originated the contract.  That is a departure from the current requirement where companies measured those contract assets and liabilities at fair value. “And it’s a pretty big change because what is happening today with the current requirement is that when companies are fair valuing those contract assets or liabilities, they’re typically doing a very complex calculation that results in a fair value hair cut because of the discounting,” said KPMG’s Storm.  “And so if a company acquires a contract liability for $100 worth of services it then has to provide, then the fair value of that $100 is likely less because that money will be coming in over time and the services will be performed over time,” she said. The standard can impact revenues in a good way.  “Post-acquisition revenue figures will increase,” Storm explained.  “What we’ve been hearing is this is being received pretty positively in terms of the effects and providing more transparent and more intuitive results in the revenue line.”

• ASU No. 2016-13, Financial Instruments— Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, was already adopted by public companies but takes effect on Jan. 1 this year for private companies.  Essentially, any private company that has receivables (e.g., trade A/R, notes receivables), investments in held-to-maturity debt securities, or contract assets will have to apply ASC 326 this year.  “The biggest thing is forecast,” Mike Lundberg, National Director of Financial Institutions and Partner at RSM US LLP, said.  “The foundational change with CECL is we’re going from under the old incurred model we were looking at current conditions and under CECL we’re making forecasts of future conditions,” he said.  “In times of instability or uncertainty it’s likely that we’re going to be looking to shorten that forecast period.”  Companies should be mindful of the importance of disclosure of the methodology and the approach so that investors can make informed comparisons.  “If you’re looking at two entities and one has a higher reserve than the other, you’d want to understand why,” said Lundberg. The impact of inflation is also something that companies should look at.  “In the U.S., most of the accountants have not worked in an inflationary environment,” he said.  “So that’s something that’s going to have an impact on credit quality that we maybe didn’t have built into the initial models.”

• ASU No. 2022-01, Derivatives and Hedging (Topic 815): Fair Value Hedging—Portfolio Layer Method. It enables financial institutions to create macro level portfolios of assets of a mixture of prepayable, nonprepayable type instruments into one large portfolio and then place hedges against those over time or all at the same time to fit with their interest rate hedging needs.  “This is a strategy that would be used by

institutions that are liability sensitive – they want to protect themselves against rising interest rates and they’re in a position where their liabilities price faster than their assets,” Eri Panoti, a managing director at Chatham Financial, said.  Entities should also pay attention to the rule’s transition requirements, Panoti said. The new guidance prohibits allocation of the basis adjustment while an entity is in an active hedging relationship, which means that institutions do not have the ability to allocate to the individual assets.  “So think of a closed portfolio of fixed rate loans. They cannot allocate gains and losses associated with the hedge to the individual loans while the hedge is active,” she said.  Once the hedge is no longer active whether it’s electively designated or terminated or just fails hedge accounting, then at that point institutions have the ability to allocate that lifetime gain or loss and amortize it through earnings.  “So that’s the biggest change in terms of the accounting impact and that would require – for institutions that were doing that – an adjustment now that the guidance is effective.”   The standard also bridged the gap between hedge accounting and the CECL standard to clarify that an entity is prohibited from including hedge accounting impact in the credit loss calculations.  Also notable is that it provides a one-time ability to transfer securities from held-to maturity (HTM) to available-for-sale (AFS).  “The caveat here is that it needs to be done in the first 30 days which means that they would have those assets once they get moved from held to maturity and available for sale, they have to be part of a hedge within 30 days of transfer,” Panoti said.  “So that’s something to keep in mind.”

Special Mention: Leases and Pension Disclosures

Accountants mentioned two other standards

– lease accounting and pension disclosures – as worth highlighting.  Though ASC 842, Leases, officially took effect in 2022 for private companies, many will actually really adopt this year, Adam Brown, national managing partner, accounting and auditing at BDO, said.  “There was a lot of optimism and denial in the system around ‘this will be delayed; this will deferred’ and so at least in some places private companies have not done a lot of implementation of the leasing standard yet,” he said.

Similarly, ASU 2018-14, Compensation— Retirement Benefits—Defined Benefit Plans—General (Subtopic 715-20): Disclosure Framework—Changes to the Disclosure Requirements for Defined Benefit Plans, was issued in 2018 but private companies had to adopt in 2022 and many will do so this year.  The new disclosures provide the weighted average interest crediting rate for cash balance plans which is simply the amount of interest being earned.   An entity would also disclose the reasons behind any significant gains or losses related to changes in the benefit obligation of a pension plan.   “The standard was finalized several years ago,” said Brown.   “We’ve got interest rate movements now, so I can envision disclosures about the Fed rates changing and impacting some of these disclosures.”

January 12, 2023 – Uncertain Tax Positions Reporting Changes Finalized With Revisions

While this item relates to tax compliance the issue arose due to FASB FIN 48 concerning uncertain tax positions and how they are to reported in financial statements. Interesting to note the various issues and how the IRS has made use of FIN 48 – which was entirely predictable.

The IRS has revised its draft changes to uncertain tax position (UTP) reporting rules for tax year 2022 after receiving pushback from stakeholders, but the agency mostly kept a controversial new requirement intact.

On December 22, the IRS released final revisions to Form 1120, Schedule UTP, and instructions to be used during the upcoming tax filing season. A draft of the revised schedule was made available October 11. For more on the draft form and instructions, see IRS Makes Changes to Uncertain Tax Positions Reporting (10/12/2022).

Schedule UTP has been used since September 2010 by certain corporations to report information about tax positions affecting their income tax liabilities. Taxpayers expected to submit the schedule are those that file Forms 1120, 1120-F, 1120-L, or 1120-PC, have assets equal to or exceeding $10 million, and have recorded a liability for unrecognized tax benefits in audited financial statements.

Pursuant to the revised Schedule UTP, taxpayers must also now cite “authoritative sources” contrary to their taken position, such as IRS guidance or legal precedent. This requirement drew criticism during the public comment period. The IRS’ revised statement on the Schedule UTP changes acknowledged that the draft instructions included citations for guidance not published in the Internal Revenue Bulletin (IRB).

“In response to comments, however, that section of the instructions has been revised to list only published IRB guidance and court decisions,” the agency said.

December 19 comments on the draft changes submitted by C. Wells Hall, chair of the American Bar Association’s Tax Section, opposed the addition of the contrary authorities column. According to the ABA, “requiring taxpayers to disclose their conclusion that a tax position is contrary to specific legal authority raises significant privilege concerns because that conclusion may reflect an assessment of the hazards of the tax position or legal analysis of the arguments against the tax position.”

The Tax Secti on’s comments continued that requiring “the taxpayer to have his tax adviser identify for disclosure contrary

authorities of any kind risks invading the privilege and essentially turns taxpayer’s counsel into an advocate against her client.”

Jan Lewis, chair of the American Institute of Certified Public Accountants’ Tax Executive Committee, recommended in comments sent to IRS leadership November 18 that the agency delay the implementation of the new Schedule UTP by a year (tax year 2023 instead of retroactively to tax year 2022) to allow time for additional guidance an alleviate the “significant burden” put on taxpayers and practitioners.

Lewis and the AICPA also raised issue with the contrary authorities requirement, writing that it conflicts with the IRS’ socalled policy of restraint because “disclosure of the tax position analysis as it relates to estimates of potential tax liabilities for ASC 740 purposes and related documentation in essence amounts to a disclosure of tax accrual workpapers.”

“This is inconsistent with longstanding IRS position on tax accrual workpapers,” Lewis’ comments continued. “Historically, the IRS has demonstrated administrative sensitivity and restraint by not routinely seeking tax accrual workpapers for examination purposes.”

The AICPA recommended scrapping the requirement altogether.

“The draft Schedule UTP may violate the IRS’s policy of restraint,” echoed law firm Steptoe & Johnson, LLP in its November 30 tax controversy newsletter. “Requiring corporations to report the incremental amount of each uncertain tax position, along with more detailed descriptions for each position, seems to constitute a request for a portion of the tax accrual workpapers.” IRS Announcement 2010-76 has more information on the IRS’ policy of restraint and the agency said in its revised statement that the policy will remain “in effect.”

For more information on reporting uncertain tax positions, see Checkpoint’s Federal Tax Coordinator ¶S-4460

December 22, 2022 – PCAOB Issues Second Proposal to Modernize Rules on Audit Confirmation Process

While this article concerns PCAOB rules, the impact of those rules usually trickles down to the AICPA ASB and ultimately impacts auditing standards for Private Companies and Not-for-Profit entities.

More than a dozen years after the Public Company Accounting Oversight Board (PCAOB) issued a rule proposal on audit confirmations, the board on Dec. 20, 2022, voted unanimously to issue another proposal for comment. Confirmation is a technique that auditors use to obtain or verify information about a company by inquiring about a source outside the company. It is intended to make sure that the information in the financial statements is accurate.

The proposal would better reflect today’s business environment and the increasing use of sophisticated technology that was not available when the current standard was written three decades ago. The standard would also strengthen confirmation procedures to better help prevent fraud.

The proposal covers five main areas: auditors would need to confirm a company’s cash and cash equivalents held by third parties; the existing requirement would also cover accounts receivable with some differences; negative confirmation would be insufficient; more illustrative examples when alternative procedures can be performed; and more clarity on the role of internal auditors in the confirmation process.

The standard in question is Auditing Standards (AS) No. 2310, The Confirmation Process, and the PCAOB wants to replace it in its entirety with a new standard, AS 2310, The Auditor’s Use of Confirmation. AS 2310 requires auditors to maintain control over the confirmation requests and responses during the confirmation process.

But AS 2310 is an old AICPA standard that became effective in 1992 when electronic communications were far less advanced

than are today. For example, existing AS 2310 references fax, which most businesses stopped using more than a decade ago. After the PCAOB was established two decades ago, the board on an interim basis adopted AICPA standards that auditors of public companies must use. Over the years, the PCAOB revised some of the interim standards while others have remained unchanged, such as AS 2310.

The PCAOB first issued a concept release in 2009 and followed up with a proposal in 2010 in Release No. 2010003, Proposed Auditing Standard Related to Confirmation. But there was some pushback by audit firms at the time, saying the proposal was too prescriptive. And the project got set aside, and the PCAOB for a decade focused on other standards until the most recent board took over. Erica Williams, who became PCAOB chair in early 2022, said that it is the board’s priority to update old standards and set an ambitious standard-setting agenda in the spring, which includes this project.

“It is so critical to ensure our confirmation standard is fit for purpose in today’s capital markets to ensure investors receive the protection they deserve,” Williams said. “And that is why I support strengthening and modernizing our requirements for the auditor’s use of confirmation. I look forward to receiving input from all our stakeholders.”

Proposal In Detail

In terms of cash confirmation, the proposal allows the auditor not to confirm every single cash account that the audit client has as it could have hundreds or even thousands of accounts with financial institutions. But the auditor would have to understand the client’s cash management and Treasury function. And as part of risk assessment, the auditor must determine which accounts they believe should be confirmed.

In terms of accounts receivable, the PCAOB is proposing a requirement for confirmation. Board officials said that the

proposal would allow an auditor not to send confirmation for accounts receivable under certain situations. This flexibility would be provided when the auditor determines that an alternative procedure would work better. But the auditor must obtain at least as persuasive evidence that they would expect to obtain through confirmation procedures.

PCAOB officials said that they are providing this flexibility because auditors have various tools related to testing. But the new proposed standard would require auditors to communicate the alternative method to the audit committee and explain why they decided to choose another method to confirm the information.

As for negative confirmations, existing standards allow it. This is when the auditor sends out confirmation, and the other party agrees that it is accurate and just does not respond. But the auditor cannot just assume that it is confirmation. Today, there is an overwhelming amount of communication, and the communication could be easily lost. Thus, the auditor would be required to do something else to verify the information.

The proposed standard would also include some examples of alternative procedures that an auditor could perform regarding  accounts receivable, accounts payable and terms of transactions or an agreement with thirdparties.

The existing standard has some suggested alternative procedures, but they are largely about receivables and revenue transactions. Thus, other examples of procedures would be illustrated in the proposal.

In addition, the proposed standard would ban certain activities that internal audit could perform: identifying account balances to confirm, sending out and receiving back the confirmation.

But an auditor can get administrative help from internal auditors, such as preparation of the confirmation requests and doing checks to look for differences in confirmation responses.

Section 174 and Capitalization of Research and Development Costs

By Jared Kempel, CPA

McDermott Will & Emery LLP 444 West Lake Street, Suite 4000 Chicago, Illinois 60606-0029

tel: (312) 984-7529

fax: (312) 984-7700

e-mail: gbenson@mwe.com

Jared Kempel, CPA Manager

Baker Tilly US, LLP

4807 Innovate Lane P.O. Box 7398 Madison, WI 53707-7398

Tel: (608) 240-6743

Historically, expenditures related to research and experimental activities were deductible as paid or incurred to taxpayers, with only a few exceptions. This changed at the end of 2017 when the Tax Cuts and Jobs Act of 2017 (TCJA) modified the rules for deduction and amortization under Section 174. These modifications, which came with a delayed effective date, were made to help satisfy the budget reconciliation requirements needed for enactment of the TCJA. Specifically, the modifications stated that taxpayers could no longer deduct research expenses for taxable years beginning after December 31, 2021. Instead, these expenditures will need to be capitalized and deducted ratably over a 60-month period (for domestic expenses), beginning with the midpoint of the year in which they were incurred or paid. After the TCJA was signed into law up through the end of 2022, there was widespread belief that the effective date of this unfavorable provision would be delayed. To date, however, no such legislation has been passed. As such, many questions exist around the applicability and implementation of these provisions.

e-mail: jared.kempel@bakertilly.com

One of the biggest challenges faced by taxpayers when implementing these recent changes is the task of identifying the appropriate costs to capitalize under Section 174. This will be especially challenging for taxpayers who currently do not have a method in place for identifying and tracking R&D expenses. This would be common for many taxpayers who have never claimed the Research Credit under Section 41 since, historically, the research expenses were fully deductible under both Sections 174 and 162 of the Internal Revenue Code. Furthermore, most guidance that currently exists relating to these expenses is focused on identifying qualifying costs for purposes of the Research Credit and not for a deduction under Section 174.

Treas. Reg. §1.174-2 defines research or experimental expenditures as “representing

TAXFAX EDITOR

George W. Benson Counsel

GUEST WRITER

research and development costs in the experimental or laboratory sense” and “for activities intended to discover information that would eliminate uncertainty concerning the development or improvement of a product. Uncertainty exists if the information available to the taxpayer does not establish the capability or method for developing or improving the product or the appropriate design of the product. The ultimate success, failure, sale, or use of the product is not relevant to a determination of eligibility under Section 174.” “Product” is defined as “any pilot model, process, formula, invention, technique, patent or similar property, and includes products to be used by the taxpayer in its trade or business as well as products to be held for sale, lease or license.”

The broad nature of definition under §1.174-2 leaves room for interpretation when trying to specifically identify appropriate costs. For taxpayers who already claim the Section 41 Research Credit, the eligible costs used for claiming the credit generally would be includable for 174 purposes. Section 41 costs represent wages for qualified services, certain supplies used during the qualified activities and 65% of contract research expenses. While this level of overlap between Sections 41 and 174 is helpful, it is not all-encompassing. Additional expenses exist that need to be considered and potentially included for 174 purposes but not for Section 41 purposes. Typically, these could be indirect costs that still relate to R&D activities in some fashion, such as utilities, payroll taxes, contract research above the 65% limit required by Section 41, depreciation, legal fees and others. In order to identify all appropriate 174 costs in a reasonable and accurate manner, it is likely that the process will require cross-functional efforts from taxpayers, especially those with larger, complex operations. Expenses (once identified) will also need to be separated between domestic and foreign related. This distinction is required because the changes to Section 174 also state that domestic costs

are to be amortized over five years, while foreign costs receive a 15-year amortization period.

Rev. Proc. 2023-8 added a new change (designated change number 265) to the list of automatic method changes to use what the procedures refer to as the “required Section 174 method.” 2023-8 states that “such change shall be applied only on a cutoff basis for any research or experimental expenditures paid or incurred in taxable years beginning after December 31, 2021, and no adjustments under section 481(a) shall be made.” In lieu of filing Form 3115, a statement must be attached to the 2022 federal income tax return that includes the following information:

1. The name and employer identification number or social security number, as applicable, of the applicant that has paid or incurred specified research or experimental expenditures after December 31, 2021;

2. The beginning and ending dates of the first taxable year in which the change to the required § 174 method takes effect for the applicant (year of change);

3. The designated automatic accounting method change number for this change (see section 7.02(8) of this revenue procedure);

4. A description of the type of expenditures included as specified research or experimental expenditures;

5. The amount of specified research or experimental expenditures paid or incurred by the applicant during the year of change; and

6. A declaration that the applicant is changing the method of accounting for specified research or experimental expenditures to capitalize such expenditures to a specified research or experimental capital account, and amortize such amount over either a 5-year period for domestic research or 15-year period for foreign research (as applicable) beginning

with the mid-point of the taxable year in which such expenditures are paid or incurred in accordance with the method permitted under § 174 for the year of change. Also, the declaration must state that the applicant is making the change on a cut-off basis.

It is important to note that the aforementioned guidance is only applicable for changes made in the first tax year beginning after December 31, 2021. Any changes made in years after the first taxable year beginning after December 31, 2021 will require different procedures and include both a modified Section 481(a) adjustment and filing of Form 3115. Rev. Proc. 2023-8 covers this in more detail. Additionally, limited transition relief is provided to comply with these amendments.

There is hope that additional technical guidance will be issued to assist taxpayers with the task of identifying appropriate Section 174 costs and implementing these changes on a prospective basis. Absent further guidance, however, it is important that taxpayers act swiftly to establish a sufficient plan for identifying these costs across the business to ensure proper compliance with these new rules, given the current available information.

legal justification for the claimed result and found none.

The Tax Court recently decided a case involving a variation of the scheme apparently adopted by a farmer and his wife “[a]fter seeing an advertisement in a farming magazine.” Donald and Rita Furrer v. Commissioner, T.C. Memo. 2022-100 (2022). The Furrers lost.

Charitable remainder trusts (“CRTs”) are a standard vehicle often used for personal financial and estate planning. The rules for the taxation of CRTs in general are contained in Section 664. Special rules applicable to CRATs are contained in Section 664(c). In general, an individual forming a CRAT retains the right to receive a fixed amount each year from the trust for a period of years. After that period, the trust’s remaining assets go to charity. The amount going to charity must have a value that is at least 10 percent of the initial fair market value of all property placed in the trust.

The Tax Court Deflates a Farmer’s Scheme to Avoid Tax on His Crop

By George W. Benson

Three years ago, the IRS released AM 2020006 (February 11, 2020), which analyzed a scheme being marketed to farmers as a way to avoid tax on appreciated farm assets including crops through the use (or, in the IRS view, abuse) of a charitable remainder annuity trust (a “CRAT”). The memorandum concluded that the scheme did not work and outlined a number of arguments that IRS could use to attack it. The memorandum quoted extensively from the promotional materials used to market the scheme for a

Typically, no tax is due when a CRAT is formed, and property is contributed to the CRAT (even if the property is appreciated). The CRAT takes a basis equal to the basis of the property in the hands of the transferor. When the CRAT sells the contributed property, it also pays no tax. However, the income beneficiaries are taxed on the payments they receive from the CRAT in accordance with rules contained in Section 664(b). The payments are taxed as income to the extent of any income of the trust. Any remaining amount is treated as a return of corpus. If the trust is properly structured, the settlor is generally entitled to an up-front charitable deduction equal to the fair market value of the remainder interest dedicated to charity.

In 2015, the Furrers set up a CRAT and contributed 100,000 bushels of corn and 10,000 bushels of soybeans which they had grown on their farm. The CRAT then reasonably promptly sold for $469,003. The Furrers were the income beneficiaries of the CRAT, and three qualified charities

were the remaindermen. The CRAT used most of the proceeds to purchase a Single Premium Immediate Annuity (SPIA) from an insurance company. The SPIA was designed to generate a sufficient stream of future payments to allow the CRAT to make required future distributions to the Furrers. The CRAT distributed the remaining proceeds to the charitable beneficiaries.

In 2016, the Furrers set up a second CRAT and engaged in a similar series of transactions. They contributed 111,335 bushels of corn and 31,064 bushes of soybeans to the second CRAT. The second CRAT then reasonably promptly sold the crops for $691,827. The CRAT purchased a second SPIA from the insurance company and distributed remaining cash in the amount of $69,294 to the charitable remaindermen.

The Furrers did not report any gain on the contribution of crops to the CRATs, and the CRATs did not report any gain on their sales of the crops. The Furrers initially claimed charitable contributions in the amount of the cash payments made by the CRATs . Later, during the course of the audit they claimed an increased amount “equal to the proportion of the FMV of the donated crops that was destined to the charitable remaindermen.” The Furrers did not include any of the annual distributions that they received from the CRATs in their income for tax purposes, other than the portion reported as interest income from the SPIAs as shown on the Forms 1099-R issued by the insurance company to the trustee of the CRATs.

In short, under this reporting, no one reported gain from the sale of the crops, and the Furrers claimed charitable contributions for a portion of the gain. The only income reported was interest that the insurance company reported on the Forms 1099-R. The Tax Court did not agree with this reporting. The analysis in the Tax Court opinion is more focused than that in AM 2020-006 which outlined a number of different approaches (some of which were

alternative approaches) to attack the scheme. In a footnote, the Tax Court noted that the Government had, “[f]or purposes of this litigation,” not challenged the validity of the CRATs (as it had done, among other things, in AM 2020-006).

The Tax Court began by observing that the crops contributed to the CRATs had no basis since the Furrers were cash basis taxpayers and expensed growing costs. Thus, the CRATs had no basis in the crops. When the crops were sold, the CRATs had income in the amount of the proceeds. That income was not immediately taxable to the CRATs, but later it caused the Furrers to be taxed on the distributions that they received from the CRATs. They erroneously failed to include those distributions in income.

The Tax Court observed: “Petitioners argue that they ‘should not be double taxed on income from the sale of the asset and then taxed on the annuity proceeds purchased from the sale of the assets.’ No double taxation exists: Petitioners paid no tax when transferring appreciated crops to the CRATs, and the CRATs paid no tax on their gain from selling the crops. There is a single level of taxation, expressly mandated by section 664(b)(1), when proceeds from sale of the crops are distributed to petitioners. Petitioners seek to avoid any taxation whatever on the income generated by the sale of their ordinary income property. The Code does not permit that result.”

This represents a straight-forward application of the CRAT rules to the arrangement. While the Furrers made arguments in support of their position, the Tax Court characterized them as “unpersuasive” and “implausible.” The Tax Court observed that they had cited “no legal authority to support their position, and there is none.”

The Tax Court also denied the charitable deductions claimed by the Furrers in their entirety (both the original and increased amounts claimed). First, it outlined how

the Furrers had not met the substantiation requirements for noncash gifts. As it observed, those requirements are strict and have been strictly applied by the courts. Second, the Tax Court viewed the Furrers as effectively claiming a deduction for the contribution of zero basis crops to the charities, something for which no charitable deduction is allowed.

The opinion indicates that penalties were asserted by the IRS, but dropped because the agent had not obtained the required supervisory approval. So participants in similar schemes should take no comfort from the absence of penalties.

The Inflation Reduction Act of 2022 and Cooperatives

By George W. Benson

Set forth below, is a short summary of provisions contained in the recently enacted Inflation Reduction Act of 2022, P.L. 11758 (August 16, 2022) (“IRA”) of particular interest to Subchapter T cooperatives.

A. Corporate alternative minimum tax.

It is unlikely that any cooperative will be subject to the new 15% corporate alternative minimum tax (“CAMT”) at least so long as the threshold remains at $1 billion of average annual adjusted financial statement income. To assure this remains true even if the $1 billion threshold is someday reduced, Section 56A(c)(7) provides that adjusted financial statement income “shall be reduced by the amounts referred to in section 1382(b) (relating to patronage dividends and per-unit retain allocations) to the extent such amounts were not otherwise taken into account in determining adjusted financial statement income.”

Notice 2023-7 (December 27, 2022) provides interim guidance with respect to the CAMT. It includes nothing specific to cooperatives. It does confirm that computation of the tax will be quite complicated.

B. Excise tax on corporate stock repurchases.

This new 1% excise tax applies only to a “covered corporation” defined as “any domestic corporation the stock of which is traded on an established securities market (within the meaning of section 7704(b) (1)).”1 See, Section 4501. Cooperatives that are “covered corporations” (because, for instance, they have preferred stock traded on an established securities market) will need to study this provision and forthcoming regulations to determine whether it might be so broad to sweep in not only redemptions of their preferred stock, but also redemptions of their written notices of allocation and per-unit retain allocations and how (if it sweeps those in) issuances of written notices of allocation and per-unit retain allocations should be treated. This new provision is not well thought out and many questions have risen as to its scope. The Treasury has been granted broad authority to implement this provision through regulations and other guidance addressing, among other things, “special classes of stock and preferred stock.”

Notice 2023-2 (December 27, 2022) provides interim guidance but does not address issues of interest to cooperatives. At this point, no special exceptions are provided for preferred stock. The Notice does provide guidance with respect to the application of the tax to various kinds of corporate transactions. It also provides that the tax will be reported on Form 720 (Quarterly Federal Excise Tax Return) for the first full

1 Note that “established securities markets” include national, regional and local exchanges as well as “[a]n interdealer quotation system that regularly disseminates firm buy or sell quotations by identified brokers or dealers by electronic means or otherwise.” See, Section, 7704(b). This could sweep in companies that would not otherwise consider that they have issued securities traded on an “established securities market.” Notice 2023-2 provides no further guidance as to the scope of this additional inclusion.

quarter after a corporation’s taxable year end and that the tax will be due at that time. It states that no extensions will be granted for reporting or paying the tax and that the IRS is developing an additional form for reporting the tax that taxpayers will be required to attach to the Form 720. A draft of that form has been released. See, Form 7208 (Excise Tax on Repurchase of Corporate Stock).

Notice 2023-2 solicits comments, including whether there are “circumstances under which special rules should be provided for redeemable preferred stock or other classes of stock or debt” and whether for purposes of the netting rule there are circumstances where “the fair market value of stock issued or provided [should] be an amount other than the market price of such stock in determining the amount of a covered corporation’s issuances.”

C. Dramatically increased IRS funding.

The IRA authorized an additional $80 billion of funding for the IRS over 10 years. Compared to the IRS annual budget for operations, this is a large amount of funding. This will affect all taxpayers including cooperatives for years to come. Note, this funding is not guaranteed. Subsequent Congresses could undo what was done in the IRA. Interestingly, in the Omnibus Bill (see Item 11), Congress made a small decrease to the House-proposed fiscal 2023 IRS budget for operations. This did not affect the portion of the IRA-approved funding applicable to 2023.

One of the first acts of the Republicans in the House of Representatives after they assumed control in 2023 was to pass a bill revoking the IRA-approved increased funding. So long as Democrats control the Senate and the Presidency, this bill has no chance of becoming law.

D. Energy credit provisions.

The IRA contains a wide variety of continued, enhanced and new credits intended to incent development of “green” energy and improve

energy security. All cooperatives should study the new credits to determine the extent to which they can benefit from them. This short summary will cover only provisions unique to cooperatives.

Direct payment of certain credits. Generally, the new credits are not refundable. However, for certain taxpayers an election may be made which effectively makes many of the credits refundable to the extend they exceed the tax otherwise due. See, Section 6417.

Section 6417(d)(1)(A)(vi) provides that “any corporation operating on a cooperative basis which is engaged in furnishing electric energy to persons in rural areas” is eligible to make such an election. So is “any organization exempt from the tax imposed by subtitle A.” Section 6417(d)(1)(A)(i). These should make rural electric cooperatives exempt under Section 501(c)(12) or taxed under preSubchapter T cooperative tax law eligible for direct pay.

Query, are Section 521 cooperatives eligible to make such an election by reason of Section 6417(d)(1)(A)(i)? Section 521(a) provides that a Section 521 cooperative “shall be considered an organization exempt from income taxes for purposes of any law which refers to organizations exempt from income taxes.” Treas. Reg. § 1.1381-2(a) (1) provides: “For purpose of any law which refers to organizations exempt from income taxes such an association [i.e. a Section 521 cooperative] shall, however, be considered exempt under section 501.”

In addition, direct pay is also available for five years for all taxpayers (including nonexempt Subchapter T cooperatives) for the clean hydrogen (Section 45V), carbon sequestration (Section 45Q) and advanced manufacturing (Section 45X) credits.

Ability to monetize many credits. Credits that are not refundable may be assigned. See, Section 6418. This should allow nonexempt Subchapter T cooperatives to

monetize many of the new credits they earn. Also, traditional structures involving tax equity partners for monetizing credits and depreciation benefits continue to be available.

By Barbara A. Wech

Once made, the election is irrevocable. Cooperatives are responsible if they pass through more credit than they in fact earn.

Ability to pass-through credits. For cooperatives, the default rule is that credits cannot be passed through. However, over the years, Congress has authorized cooperatives to pass some credits through to patrons. Credit pass-through provisions have taken two forms. Some require a cooperative to pass through any credit it cannot use. Others permit a cooperative to choose whether to pass credit though.

• Historically, a Subchapter T cooperative has been required to pass-through any Section 48 energy credit which it cannot use. See, Section 50(d)(3), which applies to credits described in Subpart E of Part IV of Subchapter A of the Code. Section 48 has been extended through the end of 2024. In addition, it has been enhanced in certain respects (for instance, adding energy storage technology, qualified biogas property and microgrid controllers).

• The new Section 48E clean energy investment credit is made part of Subpart E. As a result, Section 50(d)(3) applies, and a Subchapter T cooperative is required to pass through any Section 48E credit it cannot use.

• The new Section 45Y clean electricity production credit includes a passthrough provision. See, Section 45Y(g) (6). The provision is limited to farmer cooperatives (defined as “a cooperative organization described in section 1381(a) which is owned more than 50 percent by agricultural producers or by entities owned by agricultural producers”). The passthrough is at the option of the cooperative and is made by sending a written notice to patrons during the payment period.

• A similar pass-through provision is contained in the new Section 45Z clean fuel production credit. See, Section 45Z(f) (5).

• Changes have been made to the Section 179D energy efficient commercial buildings deduction. One modification is to allow “any organization exempt from tax imposed by this chapter” to allocate the deduction to the person primarily responsible for designing the property in lieu of the owner of such property. See, Section 179D(d)(3)(B)(iii). Arguably this provision applies to Section 521 cooperatives. See, the discussion of Section 521 cooperatives and the direct payment provisions above.

Credit pass-through provisions have not been widely used, but, in appropriate situations, they give cooperatives yet another avenue for benefiting from some credits.

Biodiesel and alternative fuel. The credits for biodiesel and renewable diesel used as a fuel (Section 40A(a)) and for biodiesel mixtures used as a fuel (Section 6426(c)) were scheduled to lapse at the end of 2022. They have been extended to December 31, 2024. The credits for alternative fuel (Section 6426(d)) and alternative fuel mixtures (Section 6426(e)) expired at the end of 2021. They have been retroactively reinstated and extended to December 31, 2024. For guidance as to how to claim credits affected by the retroactive reinstatement, see Notice 2022-39 (September 13, 2022). For all credits, comparable changes have been made to Section 6427(e)(6).

After 2024, credits for fuel production will be governed by the new Section 45Z clean fuel production credit. This new credit is intended to be technology-neutral. It will

apply to transportation fuel that meets certain standards and that is produced and sold in 2025, 2026 and 2027.

E. Reinstatement of superfund tax on crude oil and imported petroleum products

The Infrastructure Investment and Jobs Act, P.L. 117-58 (November 15, 2021), reinstated the superfund excise tax on taxable chemicals and chemical substances. See, “The superfund excise tax on taxable chemicals and chemical substances is back” in the Summer, 2022 TAXFAX Column.

The Infrastructure Act did not reinstate the superfund excise tax on crude oil and imported petroleum products, reserving that to be used as a “pay-for” in later legislation.

The IRA has now reinstated the Section 4611 superfund tax for crude oil and imported petroleum products effective January 1, 2023.

This tax is imposed on crude oil received at a United States refinery and petroleum products entered into the United States for consumption, use, or warehousing. Section 4611(a)(1) and (2). The refinery is liable for the tax on crude oil received at the refinery. Section 4611(d)(1). The person entering the petroleum product into the United States is liable for the tax on imported products. Section 4611(d)(2).

In contrast to the excise tax on chemicals and chemical substances, there is no refund of any tax paid with respect to domestic crude oil if that oil or products produced from that oil are exported. In fact, crude oil used in or exported from the United States, that was not previously taxed, is subject to tax. Section 4611(b)(1). The person liable for the tax is the person using or exporting the crude oil, as the case may be. Section 4611(d)(3).

The old tax rate was 9.7 cents per barrel. The new rate is 16.4 cents per barrel, which will be adjusted for inflation.

Here, as in the case of the excise tax on chemicals and chemical substances, it is expected that persons subject to the tax will attempt to pass the additional cost on to their customers.

Consolidated Appropriations Act, 2023

By George W. Benson

In December, Congress passed, and the President signed, an omnibus appropriations bill officially known as the Consolidated Appropriations Act, 2023, P.L. 117-328 (December 29, 2022) (the “Omnibus Bill”).

This sprawling 4,155 page bill includes many things, but it does not contain a tax title. From a tax perspective, this is the most notable feature of the bill.

Democrats had hoped that the bill would reinstate on a temporary or permanent basis the enhancements (including refundability) to the child tax credit made in the COVID relief bills. These enhancements were temporary and lapsed at the end of 2021. Republicans (and businesses) hoped that the bill would restore the deduction for research expenses and the ability to add amortization, depreciation, and depletion back for Section 163(j) purposes, both of which lapsed at the end of 2021. They also hoped to defer the beginning of phase-out of bonus depreciation scheduled to start in 2023.

However, a deal could not be reached. There was not even a traditional extenders provision covering more routine items in the Omnibus Bill.

A. IRS funding.

The bill authorizes $12.32 billion of discretionary funding for the IRS for the September 30, 2023, fiscal year. This is $275 million less than the fiscal year 2022 level (and considerably less than what the President and Democrats had wanted). While Republicans hailed this as a “win,” the IRS has no shortage of funding for 2023. The cut is largely achieved by not providing any funding for business systems modernization. But, as the Senate Committee on Appropriations observed when it released the bill shortly before the Senate vote, “[f]unds have not been provided for business systems modernization since funds are available for that activity from

unobligated balances in the American Rescue Plan.” In addition, the Senate Committee on Appropriations stated:

“The Inflation Reduction Act provided nearly $80 billion in multi-year funding to transform the IRS. This investment will result in an IRS that provides first-class service to taxpayers, including small businesses and an IRS that enforces tax laws ensuring that all Americans pay their fair share of taxes. This multiyear funding is meant to supplement, not supplant, annual discretionary funding.”

Appropriations bills often have numerous provisions directing the IRS to do or to refrain from doing various things. This one is no exception. For example, the Omnibus Bill:

• Prohibits use of funds made available under the bill “to target citizens of the United States for exercising any right guaranteed under the First Amendment to the Constitution of the United States.”

• Prohibits use of funds made available under the bill “to target groups for regulatory scrutiny based on their ideological beliefs.”

• Places certain limitations on funding used by the IRS for conferences

• Requires the IRS to “maintain an employee training program, which shall include the following topics: taxpayers’ rights, dealing courteously with taxpayers, cross-cultural relations, ethics, and impartial application of tax law.

• States that funds made available under the act “shall be available for improved facilities and increased staffing to provide sufficient and effective 1-800 help line service for taxpayers.”

• Prohibits use of funds “in contravention of section 6103 … (relating to confidentiality and disclosure of returns and return information).

• Permits the IRS to use funds to “utilize direct hire authority to recruit and appoint qualified applicants, without regard to any

notice or preference requirements, directly to positions in the competitive service [sic] to process back-logged tax returns and return information.”

• Prohibits use of Treasury or IRS funds “to issue, revise, or finalize any regulation, revenue ruling, or other guidance not limited to a particular taxpayer relating to the standard which is used to determine whether an organization is operated exclusively for the promotion of social welfare for purposes of section 501(c) (4) …” and a direction that the standards and definitions as in effect on January 1, 2010 shall apply to be used in making such determinations.

• Permits use of funds “to provide passenger carrier transportation and protection between the Commissioner of Internal Revenue’s residence and place of employment.”

B. SECURE2 2.0 Act of 2022 – retirement and benefits changes.

The Omnibus Bill contains a bipartisan retirement package known as the SECURE 2.0 Act of 2022. It is designed to expand the SECURE Act of 2019 to improve retirementsavings opportunities.

The SECURE 2.0 Act contains over 90 provisions to promote savings, boost incentives for businesses and offer more flexibility to those saving for retirement. Some of the areas affected include: changes to required minimum distributions, automatic plan enrollment and escalation, allowance of matching contributions for elective deferred student loan repayments, emergency savings accounts, expansion of Roth account contributions, allowance of small financial incentives to encourage plan participation, increased catch-up contribution limits, improved coverage for part-time employees, automatic cash-out changes, hardship withdrawal changes, disaster withdrawal

2 “SECURE” is an acronym for “Setting Every Community Up for Retirement Enhancement.”

changes, penalty-free distributions for the terminally ill and victims of spousal abuse, creation of a “lost and found” database to reunite missing participants with their retirement plan funds, and federal matching contributions for qualifying low-income individuals (replacing the Saver’s Credit).

A discussion of those provisions is beyond the scope of this article. It should be obvious from the list that the SECURE 2.0 Act is broad in scope. Suffice it to say that it promises to be, at least in the short-term, a full-employment act for benefits advisors.

C. New limitations placed on charitable contributions of conservation easements.

The SECURE 2.0 package includes one traditional tax provision designed to raise revenue to offset the cost of a new tax benefit for first responders. This revenue raiser places limitations on charitable contributions of conservation easements.

Section 170(h) allows a deduction for charitable contributions of conservation easements that meet the requirements of that section equal to fair market value. It is generally agreed that such contributions should be encouraged. However, the IRS and many in Congress have been concerned that Section 170(h) has been abused. In recent years, “abusive syndicated conservation easements” have been included in the IRS’s annual “dirty dozen” list, published to discourage taxpayers from participating in schemes that the IRS has identified as abusive. See, most recently, IR2022-125 (June 10, 2022), which provides:

“Abusive

Easements: In syndicated conservation easements, promoters take a provision of the tax law allowing for conservation easements and twist it by using inflated appraisals of undeveloped land (or, for a few specialized ones, the facades of historic buildings), and by using partnership arrangements devoid of a legitimate business purpose. These

abusive arrangements do nothing more than game the tax system with grossly inflated tax deductions and generate high fees for promoters.

The IRS urges taxpayers to avoid becoming ensnared in these deals sold by unscrupulous promoters. If something sounds too good to be true, then it probably is. People can risk severe monetary penalties for engaging in questionable deals such as abusive syndicated conservation easements.

In the last five years, the IRS has examined many hundreds of syndicated conservation easement deals where tens of billions of dollars of deductions were improperly claimed. It is an agency-wide effort using a significant number of resources and thousands of staff hours. The IRS examines 100 percent of these deals and plans to continue doing so for the foreseeable future. Hundreds of these deals have gone to court and hundreds more will likely end up in court in the future.”

This kind of transaction was designated as a listed transaction (which has reporting, penalty and other implications for promoters and participants) in Notice 2017-10, 20174 I.R.B. 544. That notice was recently held invalid by the Tax Court on the grounds that the IRS did not comply with the Administrative Procedures Act when it was issued.3 The IRS disagrees and has filed a motion for reconsideration, which is currently pending. In addition, soon after the decision, the Treasury/IRS proposed regulations designating certain syndicated easement deals as listed transactions as a back-stop in the event it is unable to get the decision reversed.4

The underlying problem with abusive conservation easement cases is usually one of valuation of the easement for purposes of the charitable deduction.

However, in litigation the IRS often asks for summary judgment on the grounds that the contribution fails to meet one or more

Syndicated Conservation

3 Green Valley Investors, LLC v. Commissioner, 159 T.C. No. 5 (November 9, 2022), reviewed by the full court with two judges dissenting, motion for reconsideration currently pending.

game the tax

of Section 170(h)’s technical requirements, reserving the right to raise the valuation issue at trial if its request is unsuccessful.

For instance, the IRS has often argued that the deed creating the easement does not assure that easement will be protected “in perpetuity” (one of the requirements of Section 170(h)) because language in the deed regarding sharing of proceeds in the event the easement is extinguished is inconsistent with the regulations. Some courts (including the Tax Court) have agreed with the IRS.5 However, the Eleventh Circuit Court of Appeals concluded that the regulation relied upon by the IRS is invalid.6

The omnibus bill adds a new limitation to Section 170(h). New Section 170(h) (7) provides that a charitable easement contribution by a partnership, S corporation or other pass-through entity will not be treated as a “qualified conservation contribution” if the amount of the “contribution claimed exceeds 2.5 times the sum of each partner’s relevant basis in the partnership.” For this purpose, the “relevant basis” is the portion of a partner’s basis in the partnership attributable to the property subject to the charitable easement (not including any basis attributable to a partner’s share of partnership indebtedness pursuant to Section 752). This basis limitation is intended to prevent partners from stuffing (i.e., contributing unrelated assets) to inflate basis.

There are exceptions for family partnerships and for contributions after a partnership has owned the underlying property for at least three years. Also, the limitation does not apply to contributions to preserve certified historic structures providing new reporting rules for such contributions are met.

The omnibus bill stiffens penalties and reporting requirements for contributions running afoul of Section 170(h)(7). It provides that there is no “reasonable cause” exception for penalties for such contributions, and it eliminates advance supervisor approval for the assertion of penalties. It treats transactions running afoul of Section 170(h)(7) as “listed transactions” for statute of limitations purposes, potentially extending the normal statute of limitations.

The changes are prospective, and there is “no inference” language for contributions made in prior years. Thus, the change will not affect the many pending cases, including the dispute over the validity of Notice 2017-10.

The omnibus bill provides certain donors with a window to correct certain errors in deeds creating the conservation easements. Within 120 days of the date of enactment, the Treasury/IRS is required to “publish safe harbor deed language for extinguishment clauses and boundary line adjustments.” Qualifying taxpayers will then have a 90-day window to amend existing deeds to bring them into compliance. This relief is not available to everyone. In general, taxpayers who engaged in transactions Congress considers abusive cannot correct prior deeds. Moreover, depending upon what the safe harbor deed language provides, some eligible donors might decide not to take advantage of the safe harbor.

Does the new limitation strike a proper balance between cracking down on abusive transactions while still encouraging legitimate contributions? Some think not, arguing that that the provision is too broad and will discourage some legitimate contributions. Only time will tell.

4 See, Notice of Proposed Rulemaking re Syndicated Conservation Easement Transactions as Listed Transactions, 87 FR 75185 (December 8, 2022). The preamble reiterates the Treasury/IRS disagreement with the Tax Court and states that they will continue “to defend the validity of Notice 2017-10 and other notices identifying transactions as listed in circuits other than the Sixth Circuit.”

5 Oakbrook Holdings LLC v. Commissioner, 28 F.4th 700 (6th Cir. 2022), cert. den. (January 9, 2023).

6 Hewitt Associates v. Commissioner, 21 F.4th 1336 (11th Cir. 2021).

EDITOR

Barbara A. Wech, Ph.D.

Department of Management, Information Systems, and Quantitative Methods

University of Alabama at Birmingham

COLLAT School of Business

710 13th St. South

Department of Management, Information

Systems, & Quantitative Methods

Birmingham, Alabama 35233 bawech@uab.edu

GUEST WRITER

Juanita Schwartzkopf

Focus Management Group

6585 N. Avondale Ave. Chicago, IL 60631 773.724.2082 Office | 773.724.2083 Fax

Looking back over the past two and a half years, one industry that has experienced significant change and stress is food processing and manufacturing. This sector has been impacted by all the challenges experienced since March of 2020 - shutdowns, work from home, hybrid work environments, testing requirements, plant restructuring requirements, labor shortages, PPP loans, other government stimulus programs, changing consumer preferences, supply chain issues, ongoing labor issues, and inflation. Additionally, this sector is feeling the impact of commodity price fluctuations.

income statement performance concerns, and trends to watch for in the food processing sector.

www.focusmg.com j.schwartzkopf@focusmg.com

This article will examine price fluctuations, income statement performance concerns, and trends to watch for in the food processing sector.

Price Fluctuations

Price Fluctuations

Looking back over the past two and a half years, one industry that has experienced significant change and stress is food processing and manufacturing. This sector has been impacted by all the challenges experienced since March of 2020 - shutdowns, work from home, hybrid work environments, testing requirements, plant restructuring requirements, labor shortages, PPP loans, other government stimulus programs, changing consumer preferences, supply chain issues, ongoing labor issues, and inflation. Additionally, this sector is feeling the impact of commodity price fluctuations.

This article will examine price fluctuations,

To provide context for the level of price changes, let’s look at several ingredients needed in the food processing sector. In the graph below the St Louis Fed shows the PPI for flour from the 1980s to 2022, with the base value of 100 in June of 1983. The current prices have reduced from the 304 peak value

To provide context for the level of price changes, let’s look at several ingredients needed in the food processing sector. In the graph below the St Louis Fed shows the PPI for flour from the 1980s to 2022, with the base value of 100 in June of 1983. The current prices have reduced from the 304 peak value in May 2022 but remain at levels much higher than the 2010 to 2020 range between 190 and 220.

in May 2022 but remain at levels much higher than the 2010 to 2020 range between 190 and 220.

In addition to the overall inflation in food input costs shows in the St Louis Fed graphs, the commodity prices for inputs are showing tremendous fluctuations. The graph below was prepared by macrotrends.net and represents the cost per bushel of corn from 1960 to today. The significant fluctuations from just over $3.00 per bushel to over $8.00 per bushel show the wide range of costs food processors have been dealing with during the past 30 months.

The PPI for shortening, cooking oil and margarine is shown in the next graph (above), with 1982 representing a value of 100. This ingredient peaked at 444.5 in May 2022. The price has been above the July 2008 peak of 330.0 since April of 2021.

The next graph (top of next page) was prepared by tradingeconomics.com and shows sunflower oil peaking in March of 2022, with the price now returning to 2021 levels. This graph also underscores the variations in pricing for this widely used ingredient.

These four graphs show the uncertainty of input costs the food processors have been experiencing over the past two and a half years.

Areas to consider when evaluating financial performance of food processors

Gross Margin Issues: Input Costs & Sale Prices

In addition to the overall inflation in food input costs shows in the St Louis Fed graphs, the commodity prices for inputs are showing tremendous fluctuations. The graph below was prepared by macrotrends.net and represents the cost per bushel of corn from 1960 to today. The significant fluctuations from just over $3.00 per bushel to over $8.00 per bushel show the wide range of costs food processors have been dealing with during the past 30 months.

In addition to the overall inflation in food input costs shows in the St Louis Fed graphs, the commodity prices for inputs are showing tremendous fluctuations. The graph below was prepared by macrotrends.net and represents the cost per bushel of corn from 1960 to today. The significant fluctuations from just over $3.00 per bushel to over $8.00 per bushel show the wide range of costs food processors have been dealing with during the past 30 months.

The fluctuations displayed in the graphs for flour, shortening, corn, and sunflower oil underscore the gross margin uncertainty in financial performance for food processors. Companies typically do not have direct correlation between sales prices and key commoditybased input costs.

Contract analysis is one of the most important analytical tools and tracking mechanisms food processors need to establish. Knowing the key terms of contracts, including the ability to increase prices, the ability to pass through costs, and the automatic renewal options are important both for customer contracts and supply contracts.

Customer profitability analysis

top paying states for food processing are Montana ($19.48 mw), North Dakota ($19.27 mw), Illinois ($19.09 mw), New Mexico ($18.52 mw), and Washington ($18.29 mw).

Inflationary pressures in food processing are being experienced throughout the income statement. For example, the August PPI and CPI reported year over year price changes in several important utility and transportation / warehousing categories noted below.

These four graphs show the uncertainty of input costs the food processors have been experiencing over the past two and a half years.

Inflationary Pressures

August 2022 PPI for Energy: 25.9%

Areas to consider when evaluating financial performance of food processors

Gross Margin Issues: Input Costs & Sale Prices

August 2022 CPI for Electricity: ............... 15.8%

August 2022 CPI for Natural Gas: ............ 33.0%

The fluctuations displayed in the graphs for flour, shortening, corn, and sunflower oil underscore the gross margin uncertainty in financial performance for food processors. Companies typically do not have direct correlation between sales prices and key commodity-based input costs.

Contract analysis is one of the most important analytical tools and tracking mechanisms food processors need to establish. Knowing the key terms of contracts, including the ability to increase prices, the ability to pass through costs, and the automatic renewal options are important both for customer contracts and supply contracts.

is key. Evaluating options to renegotiate contracts to ensure the ability to pass through cost increases and decreases is an important evaluation. Companies have adjusted contracts to tie prices to an easily identifiable index, with examples being tying to a CPI or commodity price source for a specific input, tying to the overall CPI or PPI or a subset of those indices, or a specific industry index such as a trucking industry index. This helps ensures margin performance for the processor, and supply for the customer. Companies have agreed to more frequent price adjustments and have agreed to mechanisms for both increases and decreases.

Operating Expenses

Labor expenses are a large portion of the cost structure for most processors. Geographic differences in labor availability impacts different plants and companies in varying ways. The US Bureau of Labor Statistics compiles occupational employment and wages by industry sector. The most recent data available is for May of 2021. For food processing, hourly wages per person ranged from $11.46 to $20.26, with an hourly mean wage (“mw”) of $16.16. The five states with the highest employment level in food processing workers were California ($17.16 mw), Texas ($15.74 mw), North Carolina ($16.63 mw), Tennessee ($16.37 mw), and Georgia ($13.22 mw). The

August 2022 PPI for Transportation and Warehousing: .......................................... 17.8% While companies have already experienced inflation in many of the costs on the income statement, this trend should be expected to continue given that costs are continuing to increase, and the fall and winter heating season will further impact energy costs.

Trends to Watch For

Industry experts have identified these trends as ones to watch for in the food processing sector.

• Shifting consumer behavior in terms of what they eat, and where they eat.

• Commodity prices changes impacting sales and cost of goods sold.

• Automation changes.

• Inflation.

• Labor issues.

• Supply chain.

In addition to the price fluctuations already discussed, let’s consider the first trend noted above – shifting consumer behavior.

The next graph was prepared by tradingeconomics.com and shows sunflower oil peaking in March of 2022, with the price now returning to 2021 levels. This graph also underscores the variations in pricing for this widely used ingredient.

TCA SMALL BUSINESS FORUM

Consumers responded to the pandemic shutdowns and remote work with changes to where they ate and what they ate. This caused food processors to need to respond with changes to packaging and delivery mechanisms. With remote work and return to work, trends are changing again.

The increased cost of food is also changing consumer habits. The August CPI for inflation in food costs was 11.4%, with the CPI for food at home being 13.5% and the CPI for food away from home being 8.0%. One change in consumer habits in response to these inflationary pressures is that consumers are moving to lower cost alternatives to the traditional brand names, as happened during the inflationary period in the 1970s. During the 1970s the trend toward store brands took hold and flourished. Recent grocery trends are showing a return to store brands as consumers respond to continuing inflation.

Processors have tried to maintain per package pricing by reducing package sizes – shrinkflation. For example, the number of tissues in a box of Kleenex has dropped from 65 to 60 and Chobani Flips yogurt individual package sizing has been reduced from 5.3 ounces to 4.5 ounces.

Labor issues mean processors are looking for ways to reduce the amount of labor required and the cost per unit of the labor. More automation is being considered by nearly all food processors, and the wait time for equipment is being extended. Return on investment analysis is key to these decisions. Companies are consolidating to lower cost geographic regions if possible, and considering the tradeoff between manufacturing labor costs and shipping costs.

Supply chain concerns have caused food processors to hold more raw material inventory and packaging inventory to ensure manufacturing lines are not idled due to lack of materials. Transportation issues have caused food processors to hold more raw material and finished goods inventory levels to ensure manufacturing lines are able to operate and that customer orders can be fulfilled. These changes impact working capital investment and

line of credit structures.

What should lenders consider?

Financial performance analysis is key to success in this environment. Analytical tools addressing customer profitability, customer contract review, supplier contract review, hedging opportunities, labor cost analysis, and energy costs are critical to success. If a processor is preparing a robust analysis and responding to the findings in the analysis, they have a higher probability of success.

Weekly cash flow reporting, including a weekly BBC reporting, is key to cash management and understanding impacts on working capital and the line of credit structure. A weekly cash flow is always an important financial management tool, but with the price fluctuations and increased working capital needs this cash flow tool should be used by every company, to improve the likelihood of success.

Contract summaries should be requested – contracts with customers and contracts with vendors.

If hedging is used, hedging strategies and the hedging position could be reported monthly.

Strategic planning related to locations, labor availability and mix, and automation should be periodically requested and updated.

A financial forecast through 2023 which allows sensitivity analysis and performance risk review for changing commodity prices is an important management tool.

The Future

Food processors have been whipsawed in multiple directions during the pandemic –consumer preferences and behavior changes began impacting financial performance on day 1 of the pandemic. As consumers were returning to work, inflation began to further impact consumer purchasing dynamics.

Analysis is key to developing alternative approaches to managing financial performance. The processors that are focused on working capital management and profitability analytics increase their likelihood of success.

By Anita Dennis 17 February 2023

In 2021, 37% of UK retirees accelerated retirement because of COVID-19, according to UK-based global investment company abrdn Plc. In the US, the number of retirees aged 55 and older grew by 3.5 million in 2020 and 2021, nearly twice as fast per year than between 2008 and 2019, according to the Pew Research Center in the US.

This loss of experienced workers can be a significant threat to a finance team for multiple reasons. Not only can turnover be costly and disruptive, but retiring professionals also take with them decades of experience. This ranges from knowledge about the organisation’s inner workings to first-hand involvement in dealing with re-emerging threats such as higher inflation and the potential for a domestic or global recession, which may be an unfamiliar challenge to younger employees. It can leave finance teams less equipped to respond to both risks and opportunities.

Actions to deal with the risk of departures

However, organisations can take a number of steps to prevent or mitigate the problem.

Plan for transitions before they happen

Succession planning should be part of the corporate culture, said Amy West, CPA, CGMA, executive vice-president and CFO

of AHRC New York City, an agency that works with people with developmental and intellectual disabilities. West, who is also chair of the AICPA & CIMA not-for-profit conference, suggested that succession planning, which is often undertaken for the CEO or board chair, should be done for any critical staff function throughout an organisation.

Before key players leave, “ideally, you have already been investing in the professional development of your employees,” said Jason Flanders, global executive director of management resources practice at Robert Half, a global recruitment firm.

Succession planning includes allowing emerging leaders, when possible, to take on new roles and skills while their predecessors are still on the job. Jeffrey Parkison, CPA, CGMA, became director of treasury and financial planning and analysis at City Utilities, in the US city of Springfield, Missouri, three months before the outgoing director retired. During those three months, Parkison regularly met with the outgoing director to learn about his experiences, to ask questions, and to share ideas. As the organisation was undertaking a debt financing, the retiring director was able to walk Parkison through how it had been handled in the past.

People may feel threatened when their organisation plans for their departure, West said. But companies can reassure workers

Retiring professionals can take decades of experience with them when they leave, but finance leaders can take steps to prevent the loss of corporate knowledge.

about important contributions they have made and explain that succession planning ensures they can share their experience and leadership abilities with following generations.

Reconsider the hierarchy

Following World War II, organisations were traditionally structured in chronological hierarchies — with young people coming in at a designated entry level and retiring after they had moved up the pyramid. Organisations should try to break out of that mid-20th-century pattern, advised Kim Chaplain, associate director for work at the Centre for Ageing Better in London. In fact, those entry-level jobs may be perfect for more experienced workers who are seeking to downsize their responsibilities as they head toward retirement.

To better match workers’ preferences and abilities, an organisation might also consider mixing job content rather than having everyone at the same level in the hierarchy doing the same thing. “There should be more consideration of how work is packaged and how retiring workers want to work,” Chaplain said. This can lead to a more agile hierarchy and greater retention of institutional knowledge.

Similarly, while the person next in line on the organisational chart usually fills an open slot, Flanders advised organisations not to overlook other promising employees. “Look for people who display the skills necessary to thrive in higher positions, regardless of their current title,” he said. In addition, when a talented person moves up into a critical role, be aware of the talent gap that they leave behind and what it will take to fill it.

Rethink the value-add

Rather than focusing on an employee’s departure, organisations can consider the chance to rethink their teams.

“While there is a loss of specialised expertise in the short term, some companies have taken the opportunity to restructure functions to more closely reflect what their customers want,” said Chand Panditharatne,

FCMA, CGMA, finance director at pharmaceutical company A. Menarini Australia

Pty Ltd. in Sydney. “When a vacancy does occur, we must take a step back and evaluate rationally where the value-add is required,” he said. “Organisations can look at the quiet heroes who may not have got a look-in before in a crowded field.”

Document and share knowledge

At Volvo Financial Services in North Carolina in the US, finance team members kept a record of how projects are handled so that information was available to incoming team members or new leaders, said Alyssa May, formerly a finance manager at the company and now a finance business partner at H.B. Fuller, an adhesives producer in the US. “If someone has been involved, for example, in building a KPI dashboard or advising on an IT project, they are strongly encouraged to document how it was done,” she said. That includes describing the goal, explaining whose work was affected, detailing how the project progressed, and listing any underlying assumptions, nuances, or exceptions to be aware of. That documentation is saved on a shared system, not on an individual employee’s computer, and updated as needed.

Volvo Financial Services also cross-trains employees. “[We] made it part of the culture that we all [knew] how to do each other’s tasks,” May said. “The goal is that individual knowledge becomes business knowledge. Employees work as a team to mitigate losses.”

Critical areas are emphasised. In the accounting and finance department, a new team member or someone taking over a job may shadow someone through the entire process of monthly close, for example.

Job rotation can also help workers expand their knowledge and experience, while mentoring can help them enhance soft skills, Flanders said.

Employing cross-functional teams is another way to retain knowledge about important tasks or projects. Parkison, for example, has led strategic planning efforts with City Utilities’ director of information technology and chief

legal counsel. He also serves on a health plan committee that includes representatives from human resources, legal, IT, and operations. Such teamwork can ensure that knowledge of a project’s purpose and history does not reside solely in one department. In addition, his organisation reviews its cash balance target every three years. Disaster-and-contingency reserves are reviewed every five years. Cash balances are monitored monthly, but to maintain a more holistic, long-term view on a recurrent basis, the three- and five-year periods have been right for his organisation. Leaving too much time between reviews could mean that people with long-term knowledge of the organisation would not be involved. Including a range of experience levels in such critical projects ensures the team will have some historical perspective as well as new ideas from more recent hires.

Ask for feedback

May recommended that if a finance team’s leadership is not certain what options experienced workers are considering, it is a good idea to start a conversation to gauge their engagement and satisfaction. Reviewing compensation for valuable, experienced people is another smart step to ensure their pay remains competitive.

“You never want to learn what could have made someone happy in an exit interview,” May said.

Focus on flexibility

Chaplain’s organisation has found that experienced workers often leave because of a lack of flexibility, possibly driven by health issues, the need to care for relatives, or a desire for a less demanding schedule. When job postings mention flexibility and examples of what that means, they are more likely to appeal to both newer and more experienced people, she said.

Organisations should consider new ways to hold on to the talent they have. When faced with the retirement of a key person, they might consider offering them contract assignments or part-time work to hold on to

their knowledge. And both new and veteran employees might respond to the chance to do something new and different. “I have seen opportunities being given to individuals to develop in areas they would otherwise have had no exposure to,” Panditharatne said.

Address age bias

As workers grow older, their access to opportunities in the labour market can diminish because of age bias, Chaplain said. This can motivate people to retire early. At the same time, individuals may not seek out jobs or promotions because they assume they will not be chosen because of their age.

Organisations should review their employment data to see if they are losing older workers and use surveys or exit interviews to find out why. They can also review their recruitment and retention data to understand age demographics at different levels or teams. It’s in their best interest to address bias if they find it, Chaplain said.

“When organisations try to make hiring processes more age-friendly, they broaden their entire talent pool,” she said.

Chaplain suggested that employers simply describe the job and what it involves. “By scrutinising their job adverts and removing age bias from the language they use, they improve recruiting across the board.”

Set the right tone

The tone at the top is also an important element in holding on to people. If leaders of the organisation and the finance team can articulate a clear vision and strategy, it will be easier for employees to understand how best to work together to fill any gaps, May said.

When faced with the retirement of a key person, organisations might consider offering them contract assignments or part-time work to hold on to their knowledge.

Anita Dennis is a freelance financial writer based in the US. To comment on this article or to suggest an idea for another article, contact Oliver Rowe at Oliver.Rowe@aicpa-cima.com.