The Cooperative Accountant - Winter 2022

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

Winter brings a time a year that many enjoy and do not enjoy. The snow, sleet, rain, cold, gloom, increased traffic, hunting, ice fishing, snowmobiling and skiing. It all goes into how you look at life. Do you view your cup – half empty? Or half full? This rhetorically can view you as a pessimist or optimist. However, we literally can be both. Maybe we can have individual optimism, but have social pessimism about our nation or the world. The media and politics seem to be the driving force these days fueling each of our brains. We owe this to our culture, our unique ability to receive, trust and act on stories we get from others. In a way, trusting others is second nature.

So let’s go with our instincts and try to get people to trust each other more and COOPERATE. For that is the reason we are all members of NSAC. Spread the word that cooperation is key!

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.

Dawkins (2022) cites a May 26, 2022 report from the National Student Clearinghouse Research Center which indicates that “undergraduate enrollment declined 4.7% from spring 2021–spring 2022, which follows a 4.9% decline from spring 2020–spring 2021” (Trends in Undergraduate Enrollments section, para. 1). This trend indicates that undergraduate student enrollment has fallen 9.4% in the two years since COVID-19 pandemic began. This decline has been the largest in 50 years. Another important trend relates to the number of potential high school graduates across the country available to enter college. Dawkins points to projections by the Western Interstate Commission for Higher Education (WICHE) noting that the number of high school graduates will peak with the Class of 2025, with expected declines following due to declining birth rates. This decline is expected to continue 12 years past the 2025 graduating class population. These are US projections, with Florida and Texas reported to be the only two states expecting growth in high school graduating classes over this same time period. Further projections are that high school graduates will continue to

Editor & Guest Writer

Peggy Maranan, Ph.D. DEMCO

Director, Finance

16262 Wax Road Greenwell Springs, LA 70739

Phone 225.262.3026 Cell: 239.887.0131 peggym@DEMCO.ORG

diversify due to growing Hispanic, Asian, and multiracial populations.

As it relates to undergraduate accounting majors, Dawkins cites the Illinois CPA Society’s 2021 “A CPA Pipeline Report— Decoding the Decline,” ICPAS President/ CEO Todd Shapiro who stated: “We are witnessing a nationwide decline in not just new CPAs, but also accounting program enrollments.” (Trends in Undergraduate Accounting Major Enrollments section, para. 1). This declining trend is something that should be of interest to accounting regulators and those that have a need to employ accounting-major graduates. Some of the reasons considered for this declining trend include the overall college experience, other professions becoming more attractive, and barriers to earning a Certified Public Accounting (CPA) license. Fewer than half of all accounting graduates sit for the CPA exam, and even fewer pass the exam.

In regard to the CPA license requirements, some concerned about this declining trend in the availability of future CPA’s have suggested changes including dropping the

150-hour course requirement, extending the test taking window from 18 months to possibly four years, and allowing CPA candidates to qualify for the exam instead by apprenticing under another CPA. If the supply of CPA’s continues to decline these may be viable options considered in order to meet the demand for CPA professionals. Other options available for some employers to attract more CPA’s could include an increase of salaries and/or reduction of work hours. Some of the reasons noted in a recent ICPAS (Illinois CPA Society) survey as to why some accountants do not plan to become CPA’s were as follows:

Not seeing value or relevance to their careers (32%),

• Not seeing the return on investment (28%),

• Their employers or prospective employers do not require or support it (28%),

• Other credentials or specialties are more valuable to their careers (28%).

• Time commitment needed to study for and pass the CPA exam—

• workload time commitment (63%)

• personal time commitment (41%)

• Fear of failure (51%, students)

• Difficulty of the CPA exam content (54%, students)

(Dawkins, CPA Exam Trends section, para. 7)

Another trend is that CPA firms have been reporting increasing non-accountant hires over the last few years. This has been due to skills gaps, particularly in the areas of data analysis and technology in addition to the decline in available accountingmajor graduates. The American Institute of Certified Public Accountants (AICPA) and National Association of State Boards of Accountancy (NASBA) have reached out to survey college accounting departments to inquire as to the content of these subject areas in their curriculum and the results of the survey indicated the following:

• Data analytics (64% said yes)

• IT audit (63%)

• IT risks and controls (43%)

• IT governance (41%)

• Predictive analytics (40%)

• Cybersecurity (40%)

• Digital acumen (23%)

• Systems and Organization Control (SOC) engagements (23%) (Dawkins, Trends in Undergraduate Accounting Hiring section, para. 6)

Employers are looking for employees with education and experience with these skills, and higher educational institutions (HEI’s) are encouraged to address the need for this education in their overall program curriculum planning. Advances in technology are introducing new accounting technologies in the space of cloud computing, automated accounting tasks, and blockchain technologies. Data analytics and data visualization skillsets will continue to be an increasing trend desired by employers.

McCabe (2020) wrote in the publication “Accounting Today” regarding the future of accounting education. He cited Portland State University accounting professor Elizabeth Almer as stating:

“From an accounting perspective, more and more businesses are automating routine accounting functions, often carrying out the work in off-site or off-shore shared service centers. All of this means students will not enter the workforce and perform the routine accounting…Employers will instead expect them to analyze and interpret the output from automated processing…This will fundamentally change expectations for entrylevel staff and the way new accountants learn on the job. Therefore, faculty need to start rethinking their curriculum.” (Page 24)

Dawkins et al. (2020) cite a projection by the World Economic Form in their “Future of Jobs Report” (2016, Exhibit 2) listing the “Top 10 Skills in 2020” as follows:

The accounting profession is experiencing this same shifting skill requirement trend. While the number one skill was complex problem solving skills in both 2015 and 2020, notice the shifting increasing importance

UTILITY COOPERATIVE FORUM

Dawkins et al. (2020) cite a projection by the World Economic Form in their “Future of Jobs Report” (2016, Exhibit 2) listing the “Top 10 Skills in 2020” as follows:

Exhibit 2

Top 10 Skills in 2020

2015 2020

Complex problem solving

Coordinating with others

People management

Critical thinking

Negotiation

Quality control

Service orientation

Complex problem solving

Critical thinking

Creativity

People management

Coordinating with others

Emotional intelligence

Judgement and decision making

Judgement and decision making Service orientation

Active listening

Negotiation

Creativity Cognitive flexibility

Source: https://www.weforum.org/agenda/2016/01/the-10-skills-you-need-to-thrive-in-thefourth-industrial-revolution/

(The Future of Work section, para. 2)

of critical thinking and creativity in 2020. Additionally in 2020, the skills of emotional intelligence and cognitive flexibility have been added to the top skills list. This seems to be consistent with what is offered in the Scholarly Community Encyclopedia (n.d.) which cites the International Accounting Education Standards Board (IAESB) “International Education Standard (IES) 4” (2014) stating that “behavioral competencies should be taught first and isolated from other technical skills, to intertwine both types of competencies further on to meet the needs of the labor market” (How Is Accounting Higher Education Preparing section, para. 15).

The accounting profession is experiencing this same shifting skill requirement trend. While the number one skill was complex problem solving skills in both 2015 and 2020, notice the shifting increasing importance of critical thinking and creativity in 2020. Additionally in 2020, the skills of emotional intelligence and cognitive flexibility have been added to the top skills list. This seems to be consistent with what is offered in the Scholarly Community Encyclopedia (n.d.) which cites the International Accounting Education Standards Board (IAESB) “International Education Standard (IES) 4” (2014) stating that “behavioral competencies should be taught first and isolated from other technical skills, to intertwine both types of competencies further on to meet the needs of the labor market” (How Is Accounting Higher Education Preparing section, para. 15).

business partner. These competencies can be found in the task force report Table 1, found on the next page (page 7): Summary

In a recent study by the Institute of Management Accountants (IMA) task force (2021) they identified an overview of the management accounting competencies that tomorrow’s entry-level accountants will find necessary to serve successfully as a strategic business partner. These competencies can be found in the task force report Table 1, found below:

In a recent study by the Institute of Management Accountants (IMA) task force (2021) they identified an overview of the management accounting competencies that tomorrow’s entry-level accountants will find necessary to serve successfully as a strategic

For the accounting profession to become more attractive to those considering an accounting profession, they will need to see “what is in it for them.” Future accountants will be looking for career path growth, and both personal and career path satisfaction. Job satisfaction will come from belonging to an organization that can provide opportunity to meet their wants and needs. While trained accountants in the past relied on knowledge and experience in traditional accounting, tax, and auditing, the role of accountants in the future is one that has shifted towards a strategic business partner or advisor. Developing soft skills and technology proficiency will continue to be driving factors in the skills required for

TABLE 1: MANAGEMENT ACCOUNTING COMPETENCIES FOR ENTRY-LEVEL ACCOUNTANTS

DOMAIN COMPETENCY

Strategic Management Accounting and Analysis

• Strategic and Tactical Planning

• Decision Analysis

• Budgeting and Forecasting

• Performance Management

Revenue, Cost, and Profitability Management

• Revenue Management

• Managerial Costing

• Profitability Management

Technology, Analytics, and Data Management

• Management Information Systems

• Data Governance

• Data Analytics

• Technology-Enabled Finance Transformation

Professional Ethics

(page 7)

achieving professional success.

• Personal Ethics

• Organizational Ethics

Accounting students and accounting professionals should consider possibly double majoring by gaining an accounting degree and a second degree in areas such as finance, information systems, or data analytics. If an accountant is not able to obtain dual degrees, they should consider other options such as certificate programs or workshops to enhance skillsets. With research, an accountant wishing to expand their skillsets can seek out free or low-cost courses and certificates in data analytics, coding, data visualization, cyber security, and data protection. For example, other professional certifications which could enhance an accountant’s skillsets could include a Certified Information Systems Auditor (CISA) or Chartered Financial Analyst (CFA) designation. Adding additional skillsets will enhance value to an employer and provide more opportunity for personal and professional growth.

Summary

For the accounting profession to become more attractive to those considering an accounting profession, they will need to see “what is in it for them.” Future accountants will be looking for career path growth, and both personal and career path satisfaction. Job satisfaction will come from belonging to an organization that can provide opportunity to meet their wants and needs. While trained accountants in the past relied on knowledge and experience in traditional accounting, tax, and auditing, the role of accountants in the future is one that has shifted towards a strategic business partner or advisor. Developing soft skills and technology proficiency will continue to be driving factors in the skills required for achieving professional success.

that both young and seasoned accountants need in order to be successful. HEI’s need to continually evaluate their accounting programs to update and modernize them to incorporate the skills needed by those that will potentially be hiring those accounting graduates. Faculty at all sizes of HEI’s need to provide their students with greater exposure to market-valued skillsets, smaller HEI’s can no longer limit offerings due to school size and expect robust participation and student enrollment.

Accounting students and accounting professionals should consider possibly double majoring by gaining an accounting degree and a second degree in areas such as finance, information systems, or data analytics. If an accountant is not able to obtain dual degrees, they should consider other options such as certificate programs or workshops to enhance skillsets. With research, an accountant wishing to expand their skillsets can seek out free or low-cost courses and certificates in data analytics, coding, data visualization, cyber security, and data protection. For example, other professional certifications which could enhance an accountant’s skillsets could include a Certified Information Systems Auditor (CISA) or Chartered Financial Analyst (CFA)

Accounting academia and companies needing skilled accountants are advised to come together to help develop the skills

Some of the factors for promoting growth to be considered by HEI’s include promoting accounting programs, evaluating program admission standards, considering updated student course options (both core and elective courses), offering financial support options, and post-graduate job placement programs. Employers need to participate in conversation with academia by offering advice on the relevance of curriculum offerings, quality and qualifications of faculty, recognition of quality educational programs available, potential scholarship or student recruitment opportunities, and potential

internship programs. Accounting educational programs and CPA firms are encouraged to recruit high school students into the profession in order to build that pipeline of potential future hires to meet the on-going and future need for accounting professionals.

Interestingly, both HEI’s and employers have seen dramatic change in the last few years as it relates to the location of its students or employees. For HEI’s, they have been adjusting to increasing trends of online learning versus in-person learning, and the challenges that brings to the learning environment in being able to accommodate online learning students with a quality experience. Similarly, employers continue to adjust to a trend of an increasing work-athome workforce. This disruption has offered both opportunity and challenge. While offsite participation allows for participation where it might not otherwise be possible, it requires accommodations unique to the off-site experience in order for students and employees to be successful in their goals. Identifying potential future accountants,

References

training existing accounting staff, and upskilling will be critical parts of a CPA firm’s fee growth and revenue strategy. It will also play a key role in a cooperative’s ability to engage qualified accounting staff to deliver on strategic objectives. This could be potentially even more impactful for small and medium-sized cooperatives where accounting professionals take on tasks that are performed by several departments in large companies. For the accounting profession the challenge continues in that there is a changing labor market that desires enhanced decision-making skillsets in a technologically evolving environment. Coupled with labor disruptions exacerbated by the recent pandemic, this is offering a challenge to students, educators, employers, and accounting professionals alike in being able to keep up with evolving professional needs and educational requirements. The opportunities for those interested in working in the accounting profession have never been greater, and demand for qualified accountants is expected to continue to grow.

Dawkins, M. (September/October 2022). An Update on the Future of Accounting Education. The CPA Journal. Retrieved November 18, 2022 from the following website: https://www. cpajournal.com/2022/11/14/an-update-on-the-future-of-accounting-education/

Dawkins, M., Dugan M., Mezzio, S., & Trapnell, J. (October 2022). The Future of Accounting Education. The CPA Journal. Retrieved November 18, 2022 from the following website: https://www.cpajournal.com/2020/10/12/the-future-of-accounting-education/

Institute of Management Accountants (IMA). (2021). Essential Management Accounting Competencies, for all Entry-Level Accountants. Retrieved November 18, 2022 from the following website: https://www.imanet.org/-/media/05d41fa2336145c0bd1fc03c53dc1648. ashx

McCabe, S. (June 2020). The future of accounting education. Accountingtoday.com. Retrieved November 18, 2022 from the following website: https://aaahq.org/portals/0/ newsroom/2020/acctgedeuture-acctgtoday620.pdf

Scholarly Community Encyclopedia. (n.d.). Accounting Higher Education Preparing the Future of Accounting. Retrieved November 18, 2022 from the following website: https://encyclopedia.pub/entry/25017

By Greg Taylor

FASB ISSUES ASU ON LIABILITIES-SUPPLY FINANCE PROGRAMS (SUBTOPIC 405-50)

In September 2022, the FASB issued ASU 2022-04 to: enhance the transparency of supplier finance programs. Stakeholders observed that there is a lack of transparency about supplier finance programs because (1) there are no explicit disclosure requirements in generally accepted accounting principles (GAAP) specific to those programs and (2) a buyer party (described below) may present obligations covered by those programs in the same balance sheet line item as accounts payable or in another balance sheet line item depending on the facts and circumstances of the arrangement.

The amendments in this Update address investor and other financial statement user requests for additional information about the use of supplier finance programs (the programs) by the buyer party to understand the effect of those programs on an entity’s working capital, liquidity, and cash flows.

“Who Is Affected by the Amendments in This Update?

The amendments in this Update apply to all entities that use supplier finance programs in connection with the purchase of goods and services (herein described as buyer parties). Supplier finance programs, which also may be referred to as reverse factoring,

GENERAL EDITOR

Greg Taylor, Shareholder, D. Williams & Co., Inc. 1500 Broadway, Suite 400 Lubbock, TX 79401 (806) 785-5982 gregt@dwilliams.net

payables finance, or structured payables arrangements, allow a buyer to offer its suppliers the option for access to payment in advance of an invoice due date, which is paid by a third-party finance provider or intermediary based on invoices that the buyer has confirmed as valid. Typically, a buyer in a program (1) enters into an agreement with a finance provider or an intermediary to establish the program, (2) purchases goods and services from suppliers with a promise to pay at a later date, and (3) notifies the finance provider or intermediary of the supplier invoices that it has confirmed as valid. Suppliers may then request early payment from the finance provider or intermediary for those confirmed invoices.

What Are the Main Provisions?

The amendments in this Update require that a buyer in a supplier finance program disclose sufficient information about the program to allow a user of financial statements to understand the program’s nature, activity during the period, changes from period to period, and potential magnitude. To achieve that objective, the buyer should disclose qualitative and quantitative information about its supplier finance programs. In each annual reporting period, the buyer should disclose the following information:

1. The key terms of the program, including a description of the payment terms (including payment timing and basis for its determination) and assets pledged as security or other forms of guarantees provided for the committed payment to the finance provider or intermediary

2. For the obligations that the buyer has confirmed as valid to the finance provider or intermediary:

a. The amount outstanding that remains unpaid by the buyer as of the end of the annual period (the outstanding confirmed amount)

b. A description of where those obligations are presented in the balance sheet

c. A rollforward of those obligations during the annual period, including the amount of obligations confirmed and the amount of obligations subsequently paid.

In each interim reporting period, the buyer should disclose the amount of obligations outstanding that the buyer has confirmed as valid to the finance provider or intermediary as of the end of the interim period.

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

Currently, there are no explicit GAAP disclosure requirements that provide transparency to an investor or other user about a buyer’s use of the programs. The amendments in this Update improve financial reporting by requiring new disclosures about the programs, thereby allowing financial statement users to better consider the effect of the programs on an entity’s working capital, liquidity, and cash flows over time.

The amendments in this Update do not affect the recognition, measurement, or financial statement presentation of obligations covered by supplier finance programs.

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

The amendments in this Update are effective for fiscal years beginning after December 15, 2022, including interim periods within those fiscal years, except for the amendment on rollforward information, which is effective for fiscal years beginning after December 15, 2023. Early adoption is permitted. During the fiscal year of adoption, the information on the key terms of the programs and the balance sheet presentation of the program obligations, which are annual disclosure requirements, should be disclosed in each interim period. The amendments in this Update should be applied retrospectively to each period in which a balance sheet is presented, except for the amendment on rollforward information, which should be applied prospectively.

The ASU is available at www.fasb.org

FASB ISSUES PROPOSED ASU ON SEGMENT REPORTING (TOPIC 280)

On October 6, 2022, the FASB issued a proposed ASU to address improvements in reportable segment disclosures. The comment deadline is December 20, 2022.

What Are the Main Provisions?

The amendments in this proposed Update would improve reportable segment disclosure requirements, primarily through enhanced disclosures about significant segment expenses. The proposed amendments in this Update would:

1. Require that a public entity disclose, on an annual and interim basis, significant segment expenses that are regularly provided to the chief operating decision maker (CODM) and included within each reported measure of segment profit or loss (collectively referred to as the “significant expense principle”).

2. Require that a public entity disclose, on an annual and interim basis, an amount for other segment items by reportable segment and a description of its composition. The other segment items category is the difference between segment revenue less the significant expenses disclosed under the significant expense principle and each reported measure of segment profit or loss.

3. Require that a public entity provide all annual disclosures about a reportable segment’s profit or loss and assets currently required by Topic 280 in interim periods.

4. Clarify that if the CODM uses more than one measure of a segment’s profit or loss, at least one of the reported segment profit or loss measures (or the single reported measure, if only one is disclosed) should be the measure that is most consistent with the measurement principles used in measuring the corresponding amounts in the public entity’s consolidated financial statements. In other words, in addition to the measure that is most consistent with the measurement principles under generally accepted accounting principles, a public entity is not precluded from reporting additional measures of a segment’s profit or loss that are used by the CODM.

5. Require that a public entity that has a single reportable segment provide all the disclosures required by the amendments in this proposed Update and all existing segment disclosures in Topic 280.

How do the Main Provisions Differ From Current Generally Accepted Accounting Principles (GAAP), and Why Would They be an Improvement?

Currently, Topic 280 requires that a public entity disclose certain information about the

entity’s reportable segments. For example, a public entity is required to report a measure of segment profit or loss that the CODM uses to assess segment performance and make decisions about allocating resources. Topic 280 also requires other specified segment items and amounts, such as depreciation, amortization, and depletion expense, to be disclosed under certain circumstances. The amendments in this proposed Update would not change or remove those disclosure requirements.

The amendments in this proposed Update also would not change how a public entity identifies its operating segments, aggregates those operating segments, or applies the quantitative thresholds to determine its reportable segments.

The amendments in this proposed Update would improve financial reporting by requiring incremental segment information on an annual and interim basis for all public entities to enable investors to perform more decision-useful financial analyses.

When Would the Amendments be Effective and What are the Transition Requirements?

The amendments in this proposed Update would be applied retrospectively to all prior periods presented in the financial statements. Upon transition, the segment expense categories and amounts disclosed in the prior periods would be based on the significant segment expense categories identified and disclosed in the period of adoption. The Board will determine the effective date and whether early application would be permitted after it considers stakeholders’ feedback on the proposed amendments.

The proposed ASU, including questions for respondents, is available at www.fasb.org

FASB ISSUES PROPOSED ASU ON BUSINESS COMBINATIONS – JOINT VENTURE FORMATIONS (SUBTOPIC 805-60)

On October 27, 2022, the FASB issued a

proposed ASU to address Recognition and Initial Measurement Issues arising with the formation of joint ventures. The comment deadline is December 27, 2022.

Why Is the FASB Issuing This Proposed Accounting Standards Update?

The amendments in this proposed Update address the accounting for contributions made to a joint venture upon formation in a joint venture’s separate financial statements. The objectives of the proposed amendments are to (1) provide decision-useful information to investors and other allocators of capital (collectively, investors) in a joint venture’s financial statements and (2) reduce diversity in practice.

Generally accepted accounting principles (GAAP) do not provide specific authoritative guidance on how a joint venture, at its formation, should recognize and initially measure assets contributed and liabilities assumed (including the assets and liabilities of businesses contributed). Rather, GAAP explicitly provides that transactions between a corporate joint venture and its owners are outside the scope of Topic 845, Nonmonetary Transactions, and that the formation of a joint venture is outside the scope of Topic 805, Business Combinations. In the absence of specific guidance, practice has been influenced by various sources, including speeches given by the U.S. Securities and Exchange Commission (SEC) staff. As a result, there is diversity in practice in how a joint venture accounts for the contributions it receives upon formation— while some joint ventures initially measure their net assets at fair value at the formation date, other joint ventures account for their net assets at the venturers’ carrying amounts.

To reduce diversity in practice and provide decision-useful information to a joint venture’s investors, the Board decided to require that a joint venture apply a new basis of accounting upon formation. By applying a new basis of accounting, a joint venture,

upon formation, would recognize and initially measure its assets and liabilities at fair value (with certain exceptions that are consistent with the business combinations guidance).

The amendments in this proposed Update do not amend the definition of a joint venture (or a corporate joint venture), the accounting by an equity method investor for its investment in a joint venture, or the accounting by a joint venture for contributions received after its formation.

Who Would Be Affected by the Amendments in This Proposed Update?

The amendments in this proposed Update would affect the accounting for contributions received upon formation by entities that meet the definition of a joint venture or a corporate joint venture, as defined in the Master Glossary of the Codification. Additionally, existing joint ventures would have the option to apply the guidance retrospectively.

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

The Board expects that requiring a joint venture to recognize and initially measure its assets and liabilities using a new basis of accounting upon formation would reduce diversity in practice and provide decisionuseful information to a joint venture’s investors.

Because the Codification does not contain specific guidance for the accounting by a joint venture for net assets contributed upon formation, there is diversity in practice. Stakeholders have observed that, today, a joint venture may recognize and initially measure its net assets upon formation at the carrying amounts of the venturer that contributed those net assets, and, in certain circumstances, a joint venture may recognize and initially measure its net assets at fair

value upon formation.

Feedback from practitioners indicated that (1) there is a lack of clear guidance for the accounting by a joint venture entity and (2) the factors used by the joint venture entity to determine when its net assets should be recognized and initially measured at fair value are nonauthoritative and outdated. Generally, practitioners supported requiring that a joint venture initially measure the contributions at fair value upon formation, citing that the formation of the joint venture is a change-in-control event that should trigger a new basis of accounting. Feedback from preparers indicated that the venturers are usually, but not always, the primary users of a joint venture’s financial statements. Feedback from preparers generally supported fair value measurement, observing that fair value (1) is more relevant than the venturers’ carrying amounts at the formation date and (2) would reduce equity method basis differences (any difference between the venturer’s cost and underlying equity in net assets of the joint venture).

In response to the feedback received, the Board decided to require that a joint venture, upon formation, apply a new basis of accounting. As a result, a newly formed joint venture would initially measure its assets and liabilities at fair value (with certain exceptions that are consistent with the business combinations guidance). That approach is consistent with other new basis of accounting models in GAAP, such as freshstart reporting in accordance with Topic 852, Reorganizations. It is also broadly consistent with the accounting outcome that would result from treating the joint venture entity as the acquirer of a business within the scope of Subtopic 805-10, Business Combinations— Overall. The amendments in this proposed Update would require that a joint venture apply the following key adaptations from the business combinations guidance upon formation:

1. A joint venture is the formation of a new entity without an acquirer. The formation of a joint venture is the creation of a new reporting entity, and none of the assets and/or businesses contributed to the joint venture are viewed as having survived the combination as an independent entity—that is, an accounting acquirer would not be identified. The proposed amendments would require that a newly formed joint venture apply a new basis of accounting upon formation, which would result in the joint venture entity initially measuring its identifiable assets and liabilities in accordance with the business combinations guidance.

2. A joint venture would measure its identifiable net assets and goodwill, if any, at the formation date. The joint venture formation date is the date when an entity initially meets the definition of a joint venture.

3. Initial measurement of the joint venture’s total net assets would be equal to the fair value of 100 percent of a joint venture’s outstanding equity interests. The proposed amendments would require that a joint venture measure its total net assets upon formation as the fair value of the joint venture entity as a whole. The fair value of the joint venture entity as a whole would equal the fair value of 100 percent of a joint venture’s outstanding equity interests immediately following formation (including any noncontrolling interest in the net assets recognized by the joint venture).

4. Measurement period adjustments would be prohibited. The proposed amendments would prohibit a joint venture from applying the measurement period guidance in Subtopic 805-10 to the amounts recognized upon formation.

5. A joint venture would be required to provide relevant disclosures. The purpose

of the disclosures would be to help a user of a joint venture’s financial statements to understand the nature and financial effect of the joint venture formation in the period in which the formation date occurs. Joint venture disclosure requirements upon formation would be different from the requirements for business combinations.

Many of the amendments in this proposed Update other than the addition of Subtopic 805-60, Business Combinations— Joint Venture Formations, are proposed conforming amendments that would exclude a newly formed joint venture from applying areas of GAAP that do not apply to business combinations.

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

The effective date will be determined after the Board considers stakeholders’ feedback on the amendments in this proposed Update. The Board decided that joint ventures formed after the effective date would apply the proposed guidance prospectively to their formation transactions. Additionally, joint ventures formed before the effective date of the guidance would have an option to elect to apply the guidance retrospectively.

The proposed ASU, including questions for respondents, 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 2: The Reporting Entity

On October 18, 2022, the FASB issued a proposed a concepts statement chapter regarding identification of the reporting entity within the larger conceptual framework for financial reporting. The comment deadline is January 16, 2023.

Some items from the Chapter: Description of a Reporting Entity RE4. A reporting entity is a circumscribed area of economic activities that can be represented by general purpose financial reports that are useful to existing and potential investors, lenders, and other resource providers in making decisions about providing resources to the entity.

RE5. A reporting entity has three features: a. Economic activities of the entity have been conducted. b. Those economic activities can be distinguished from those of other entities. c. The financial information in general purpose financial reporting faithfully represents the economic activities of the entity in the circumscribed area and is useful in making decisions about providing resources to the entity.

RE6. In making resource allocation decisions, resource providers identify a circumscribed area of economic activities that they need to evaluate when considering providing resources. Identifying the economic activities of a circumscribed area is necessary for the reporting entity to faithfully represent its financial information in general purpose financial reporting. General purpose financial reports, including a full set of financial statements, that faithfully represent the economic activities of a circumscribed area enable the reporting entity to achieve the objective of general purpose financial reporting.

RE7. Identifying the reporting entity in a specific situation requires considering the boundary of the economic activities that have been conducted. The existence of a legal entity is not necessary to identify the reporting entity. The reporting entity can include more than one entity, or it can be a portion of an entity.

The proposed CON8 Chapter 2, 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, September 22 and Friday, September 23, 2022. Below is a summary of topics addressed by the PCC at the meeting:

•

Targeted Improvements to Income Tax

Disclosures: PCC members discussed the two areas of income tax disclosures that the Board is considering for potential improvements (specifically, income taxes paid and rate reconciliation). PCC members who are users noted that disaggregated income tax information would help them better understand a company’s tax risks and opportunities, assess trends, or highlight areas where to ask management for more information. Some PCC members who are preparers noted that although information about income taxes paid by jurisdiction is readily available, they question the relevance of disclosing such information. Those PCC members also expressed concern that while a quantitative rate reconciliation could be provided, it would create undue costs compared to the narrative disclosures currently required for private companies. PCC members agreed that it is important to assess the costs and benefits of those potential improvements for private companies.

under common control. Most PCC members were supportive of the practical expedient that would allow private companies and not-for-profit entities that are not conduit bond obligors, on an arrangement-by-arrangement basis, to use written terms and conditions to (1) determine whether an arrangement is a lease, and, if so, (2) classify and account for that lease. Under the practical expedient, an entity would not have to determine whether the written terms and conditions are legally enforceable. However, if no written terms and conditions exist, an entity would continue to use enforceable rights and obligations to apply Topic 842, which is consistent with the requirements for all other arrangements. One PCC member expressed concern that written terms alone may not reflect the economic substance of the lease. PCC members also discussed specific challenges when accounting for leasehold improvements in arrangements between entities under common control, including the determination of an appropriate lease term, and the need for sufficient disclosures to provide decision-useful information to financial statement users.

•

Leases (Topic 842): Common Control

Arrangements: FASB staff highlighted the Board’s recent decision to add a project to its technical agenda (tentative decisions here) to address the following issues related to arrangements between entities under common control: (1) what terms and conditions an entity should consider for determining whether a lease exists and, if a lease does exist, the classification and accounting for that lease, and (2) accounting for leasehold improvements associated with leases between entities

• Accounting for and Disclosure of Software Costs: FASB staff summarized the Board’s recent decision to add a project on software costs to its technical agenda and potential alternatives being explored by the staff. Some PCC members expressed concerns that significant judgment may be required to identify capitalizable software costs, such as labor costs. PCC members also noted that additional disclosures about software costs may be decision useful. PCC members expressed mixed views on whether a principles-based model for capitalization or an alternative to expense all software costs would be operable or more relevant. Some PCC members asserted that

software costs are not a prevalent issue for private companies and that it may be difficult for preparers to determine a useful life for certain software assets.

• Profits Interests: PCC members provided input about (1) potential illustrative examples to clarify how an entity would apply the existing scoping guidance in Topic 718, Compensation—Stock Compensation, to various profits interest awards and (2) potential transition guidance for those examples. Overall, PCC members were supportive of the illustrative examples and the staff’s approach to align those examples with the current scoping guidance in Topic 718. Some PCC members suggested that the FASB staff consider whether additional fact patterns should be incorporated into the examples. Overall, PCC members were supportive of a prospective transition method with qualitative disclosures. A few PCC members indicated that retrospective application should be a permitted transition method.

• Accounting for and Disclosure of Crypto Assets: FASB staff summarized the Board’s decisions to add a project on crypto assets to its technical agenda and to establish the scope of the project. FASB staff provided an overview of current practices for accounting for crypto assets under Topic 350, Intangibles—Goodwill and Other. Some PCC members questioned whether the scope of the project, which excludes nonfungible assets, will sufficiently address the need for standard setting in this area. FASB staff and Board members noted that the project’s scope would represent a significant portion of crypto asset market capitalization. PCC members were generally supportive of including public and nonpublic entities within the project’s scope.

• Conceptual Framework: The Reporting Entity; Recognition and Derecognition: FASB staff provided an overview of the Conceptual Framework and its role in standard setting. FASB staff summarized recent decisions on two of the Board’s current Conceptual Framework projects: (1) the reporting entity and (2) recognition and derecognition.

• Stock Compensation Disclosures: FASB staff and members of the stock compensation disclosures working group provided the PCC with an update on the working group’s progress. The working group has met twice since the June 2022 PCC meeting to analyze the user relevance of the current disclosure requirements and the cost and complexity to prepare and audit those disclosures. The working group will conduct outreach with various types of private company financial statement users to solicit feedback on an illustrative example.

• Other Business: A PCC liaison meeting will be held with members of the Risk Management Association (RMA) on October 13, 2022. RMA members who are expected to participate in the liaison meeting represent lenders and creditors to private companies.

The next PCC meeting is scheduled for Thursday, December 15, and Friday, December 16, 2022.

THE FOLLOWING ARE SELECTED TOPICS FROM THE DAILY ACCOUNTING HIGHLIGHTS PUBLISHED BY THOMSON

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

November 9, 2022 - FASB Chair: Crypto Accounting Proposal Coming in First Half of 2023

A FASB proposal on the accounting for cryptocurrencies will be issued during the first half of next year to solicit public feedback, chair Richard Jones told an industry conference on Nov. 8, 2022.

“It’s probably not as broad as some would like,” Jones said at the Corporate Financial Reporting Insights Conference hosted by Financial Executives International in New York. “But when we look at the population and we look at the transactions that are out there and look where the accounting and the economics probably aren’t the best, this is the area that we heard that it was important to focus on – narrow our focus,” he said. “It’s something we can complete.”

About two months ago the board decided to limit the guidance to 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.”

Further, the tokens would be measured at fair market value as that reflects the underlying economics of those transactions, the board agreed.

Next, decisions will be made on three more areas to complete the proposal: presentation, disclosure and transition.

“Presentation – think of it as not only where in the income statement but income statement and other comprehensive income,” Jones said. “I’ll just share I’d be surprised if it’s not the income statement but it will take the four board members to decide where that will go.”

The project was added to the FASB’s technical agenda in May after the board heard that current accounting rules do not necessarily reflect the underlying economics of crypto assets. Cryptos such as Bitcoin and Ethereum, are today 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 most important thing was scoping because in the current environment everything is digital,” Jones said. “And as we looked at that it came down to what I’d commonly call plain vanilla on crypto assets.”

Jones’ remarks were part of a FASB panel with David Gonzales, Vice President – Senior Accounting Analyst at Moody’s Corp., moderated by Holly Grennan, Senior Director, Global Technical Accounting & Policy at Nike, who asked about the project.

“Is this a particular area of interest for investors as well?” Grennan also asked.

“As with everybody, it’s a very big area of interest, we’ve seen the comment letters, we do get a lot of questions about it from investors. Just to be fair I cover corporate entities – so nonbanking entities at Moody’s and it’s not very pervasive,” Gonzales responded. “I think there isn’t a lot of issue with the idea that the accounting doesn’t work for these types of assets to not have them at fair value, and I think the FASB has done a really good job of putting out the major fires that we’re going to deal with all of the complications [involving digital assets],” he said.

November 8, 2022 - SEC Acting Chief Accountant: ‘I worry about the mindset of auditors’ Summary: During a financial reporting conference, SEC Acting Chief Accountant Paul Munter said he is concerned about the auditor’s mindset today when it comes to detecting fraud.

During a financial reporting conference, SEC Acting Chief Accountant Paul Munter said he is concerned about the auditor’s mindset today when it comes to detecting fraud in explaining why he issued a public statement on the issue a month ago.

“Oftentimes when you have a conversation with audit leadership about the responsibility for fraud, you first hear about an expectation gap, which then tends to lead into a conversation of what auditors are not responsible for before you get into a conversation about what auditors are responsible for,” Munter said during the Corporate Financial Reporting Insights Conference hosted by the Financial Executives International in New York on Nov. 7, 2022.

“And what that does is, that affects the auditor’s mindset, and it affects the auditor’s ability to approach issues and approach risk in an unbiased fashion,” Munter said in response to a question about his October 11 statement. “And if auditors are not approaching that in an unbiased fashion, that inhibits their ability to fulfill their professional responsibilities with respect to the detection of fraud.”

This comes in part as some estimate that auditors detect only a fraction of corporate frauds. But the PCAOB’s audit inspections have also found problems.

“Auditors have a responsibility to detect material misstatements in the financial statements, whether caused by error or fraud,” he said, explaining that the staff has spent a lot of time thinking about it.

“If you look at inspection reports that the PCAOB has issued over the last several years, you find things where auditors haven’t done an appropriate job of risk assessment, particularly with respect to fraud risk, or they haven’t taken those fraud risks and adequately incorporated them in the audit plan,” he said. “Or they have an action on them and have had red flags and have not followed up on those red flags.”

In terms of the timing of the statement, he said that it was largely driven by today’s uncertain economic environment, which means that there is likely to be an elevated fraud risk.

“So, it was intended to be, again, not new,” he emphasized. “We weren’t changing what the auditor’s responsibilities are. It was intended to be a reminder of what the auditor’s responsibility are, and a reinforcement of the need to be unbiased, maintain appropriate level of professional skepticism in the context of an audit.”

Times of Uncertainty and Financial Reporting

Earlier during the fireside chat at the conference, Munter also discussed what it means to have high quality financial reporting practices in an economic environment that has a lot of uncertainties such as geopolitical problems, including the conflicts in Ukraine, high interest rates, supply chain challenges and even the war on talent.

“So, that brings with it some additional challenges from a financial reporting perspective, certainly, compliance with GAAP or if you happen to be a foreign private issuer with IFRS is obviously a starting point to high quality financial reporting, and applying it to your facts and circumstances,” he said.

However, when there is a heightened uncertainty, it also means that there will be more pressures on judgments and estimates that are embedded in the financial reporting process, such as current expected credit losses (CECL) because companies may not have all the information, they would like to make the impairment assessments of what the future might look like.

“So, it’s really important to think about not only making the best estimate obviously in the current circumstances, given the information you have, but whether there needs to be additional disclosure. And whether I will call it historical critical estimates and policies need to be revised in light of the current circumstances,” he said.

He said companies should keep in mind the FASB’s ASC 275, Risks and Uncertainties and ASC 255, Changing Prices.

In particular, Munter noted that many may not have dealt with ASC 275, which was issued as SFAS No. 33 at a time when inflation rates were also high. The inflation rate today is the highest even in 40 years.

At the time, inflation rates were about 8 percent, which peaked at 14 or 15 percent before going down.

“But the FASB issued guidance that initially required disclosure and … then as inflation abated, changed it to optional guidance,” he said. “But that still exists.”

In addition, he said companies have to think about information that are outside the financial statements.

“Given some of these uncertainties, what does that mean in terms of potential future trends for MD&A [management’s discussion and analysis] and things of that variety?” Munter said. “So, I would, I would urge folks to keep in mind that the fact that in a time of heightened uncertainty, there might be some additional disclosures that might be needed above and beyond those that would be necessary in a more stable environment.”

November 4, 2022 - No Plans for Completely Converged Accounting Standards, SEC Acting Chief Accountant Signals

Summary: In response to a question at a conference about some investors wanting to use completely converged accounting standards between the U.S. GAAP and IFRS as capital travels beyond geographical boundaries, SEC Acting Chief Accountant Paul Munter signaled that a single set of worldwide accounting standards is not on the horizon, however.

During a financial reporting conference, SEC Acting Chief Accountant Paul Munter, while not expressly saying so, indicated that there is no work being carried out to require U.S. public companies use IFRS or file certain supplemental information using IFRS.

This had been an ongoing debate for several years in the past, especially when the agency was headed up by Christopher Cox, Mary Schapiro and then Mary Jo White. But there was an abrupt change in course when Jay Clayton became chairman of the SEC in 2017 when he told Thomson Reuters in December 2018 that “that’s not a focus of mine.”

The SEC chair sets the agency’s regulatory agenda.

In particular, Munter was responding to a question about what his views are on the importance of having a complete convergence of accounting standards between U.S. GAAP set by the FASB and IFRS set by the IASB.

“So, intellectually, it seems to me it is obvious that if we had one global standard, the global cost of capital would have to be less than if we had two sets of accounting standards. I understand that,” Munter said on Nov. 3, 2022, during the Accounting for an Ever-Changing World conference, a joint conference of the FASB, the IASB and “The Accounting Review,” a publication of the American Accounting Association.

“But it depends on if we take a glass half empty or a glass half-full approach. And by that I mean if we go back 15, 16 years ago at the SEC, we were receiving filings under about 74 different GAAPs,” Munter explained. “Now, those were all reconciled to U.S. GAAP [but with] 74 different frameworks coming in.”

Today, there are two: U.S. GAAP and IFRS.

“While it’s not ideal, it’s way better than it was not too many years ago,” Munter added. “My personal perspective is you have to acknowledge that we’re in an imperfect world but recognize the tremendous achievements that have been made.”

With his remarks, it seems that IFRS has not been on current Chairman Gary

Gensler’s radar, following Clayton’s nonpriority on IFRS. Gensler became the head of the agency in April 2021.

But Clayton’s predecessor White told Thomson Reuters that it was a “high priority” for her when she became chair of the SEC in 2013.

Under her watch, the U.S. capital markets regulator revived the long dormant consideration of international accounting rules, and she urged her successor to continue the work on IFRS when she left the agency. It was an unusual move for a departing chair to urge a successor on any regulatory issues.

“I remain firmly convinced of the importance for U.S. investors of high-quality, globally accepted accounting standards, and I believe that the commission must continue to pursue such standards as one of its highest priorities,” White said in a public statement issued in January 2017.

Clayton’s stance to set aside consideration of IFRS for domestic public companies came amidst waning interest in using global accounting standards.

The SEC had batted around the idea of international accounting standards for over 30 years and was instrumental in the 2001 establishment of the IASB. But under the leadership of White and Mary Schapiro from 2009 to 2012, the SEC’s support for IFRS had already stalled.

After Schapiro had been at the SEC for a year, she authorized in 2010 the publication of Release No. 33-9109, Commission Statement in Support of Convergence and Global Accounting Standards, which reviewed the SEC’s actions with regard to IFRS and the challenges the agency faced in adopting a rule that would expand the use of international reporting standards in the U.S.

A series of staff reports were released during the next two years that expanded

on the statement and outlined some difficulties that would be encountered if U.S. companies were to use IFRS more extensively.

Schapiro stepped down five months after the final report was issued and never made an IFRS rule a priority during her tenure.

White had far more interest in IFRS than Schapiro, and she appointed James Schnurr, a former Deloitte & Touche LLP partner who was a strong advocate of IFRS, as chief accountant. Schnurr said several times during his 18-month tenure that he was working on a rule proposal, but the effort went nowhere. An option Schnurr floated in December 2014, which would allow U.S. public companies to supplement their U.S. GAAP financials with IFRS information garnered little support publicly.

Moreover, in April 2016, White hinted at no overall support on the commission. She said it would be important for the commission to reach a consensus and speak with one voice.

“We are still talking about it. But I think it’s important to get there. We are a three-person commission now,” White told Thomson Reuters at the time. “It might be more optimal to have a five-person commission to speak on it, but obviously the timing of that is uncertain.” The SEC had been functioning with two vacancies for more than three months at the time. Republican Daniel Gallagher stepped down in October 2015, and Democrat Luis Aguilar left two months later.

The lack of interest in IFRS contrasts sharply to about 15 years when the FASB was working with the IASB in an ultimately failed attempt to completely converge U.S. GAAP and IFRS. Many financial reporting professionals expected the SEC to either switch U.S. companies to IFRS or at least allow them the option of using the IASB’s standards instead of U.S. GAAP.

Section 501(c)(12) Like Organizations and PLR 202232017

By Christopher R. Duggan

In PLR 202232017 (August 12, 2022) (the “Ruling”), the IRS ruled that an unincorporated association providing insurance and safety support to mutual water companies in state X did not qualify as a tax-exempt organization under Code Section 501(c)(12). Section 501(c)(12)(a) provides that organizations shall be exempt from federal income tax if they are “[b] enevolent life insurance associations of a purely local character, mutual ditch or irrigation companies, mutual or cooperative telephone companies, or like organizations; but only if 85 percent or more of the income consists of amounts collected from members for the sole purpose of meeting losses and expenses.” The Ruling held that the association was not a like organization to any of the entities described in Section 501(c) (12).

TAXFAX EDITOR

George W. Benson Counsel

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

GUEST WRITERS

Christopher R. Duggan

Dorsey & Whitney LLP

50 South Sixth Street, Suite 1500 Minneapolis, MN 55402-1498 tel: (612) 340-7888 fax: (612) 340-2868 e-mail: duggan.chris@dorsey.com

Teresa H. Castanias, CPA

1500 E. Split Rock Drive Ivins, UT 84738 tel: (916) 761-8686 e-mail: tcastanias@aol.com

The paramount purpose of the association was clearly providing insurance to its members. The association’s formation document provides that “the parties to this agreement desire to join together for the purpose of purchasing insurance or reinsurance at reduced rates” and to provide support and services “in order to reduce risk liabilities.” The formation document also states that the association will “further the technical, managerial, and financial capacity” of its members, but this objective was obviously not the focus of the association. All members of the association were required to belong to a business league for mutual water companies, and this business league assisted with the formation of the association “to provide insurance products” to its members. Apparently nothing in the formation documents limited the geographical scope of the association’s activities or membership, and it operated throughout the state where it was located.

As the Ruling points out, the regulation under Section 501(c)(12) provides that The phrase “of a purely local character” applies to benevolent life insurance associations,

and not to the other organizations specified in section 501(c)(12). It also applies to any organization seeking exemption on the ground that it is an organization similar to a benevolent life insurance association. An organization of a purely local character is one whose business activities are confined to a particular community, place, or district, irrespective, however, of political subdivisions. If the activities of an organization are limited only by the borders of a State it cannot be considered to be purely local in character.

Treas. Reg. § 1.501(c)(12)-1(b). In addition, the Ruling cites Revenue Rulings and court cases suggesting that “like organizations” under Section 501(c)(12) must be mutual or cooperative organizations that provide a public utility-type services, often regulated or requiring significant built infrastructure.

The Ruling holds that the association was not a “benevolent life insurance association of a purely local character” because its activities “are conducted throughout the state” of the association. This conclusion appears determinative of the Ruling’s outcome. The Ruling further held that the association was not a “like organization” to any of the non-insurance entities mentioned in Section 501(c)(12). The Ruling offers little close analysis here because the association’s focus on offering “customized insurance solutions” and miscellaneous services differs significantly the services offered by telephone cooperatives and mutual ditch or irrigation organizations. The Ruling insisted that the qualification of an entity for Section 501(c)(12) status turns solely on the activities of the applicant, not its members.

The only potential hope for Section 501(c) (12) qualification of insurance organizations like the association is to draft formation and governing documents to restrict membership and activities a particular region or district within a state. We do not know if such restrictions were even possible in this case.

Changes to Section 118, Capital Contributions

By Teresa Castanias, CPA

Historically, contributions to the capital of a corporation, whether or not by shareholders, were generally not taxable to the corporation. See, former Section 118. Where the contributor was a nonshareholder and the contribution was property, the corporation took a zero basis in the property. Section 362(c)(1). If the nonshareholder contribution was money, the corporation was required to reduce basis in assets by the amount of cash received. Section 362(c)(2).

These rules changed as a result of the passage of the Tax Cut and Jobs Act of 2017. For contributions made after December 22, 2017, three types of nonshareholder contributions are now taxable:

• Contributions in aid of construction or any other contribution as a customer or potential customer.

• Contributions by civic groups.

• Contributions by any governmental entity with the following exception. For contributions made after December 31, 2020, a special rule applies to contributions to the capital of water and sewage disposal utilities.

These items are carved out by new Section 118(b). No change was made to the language of Section 362(c). However, the special basis rules contained in that section apply only to “contributions to capital” and, since Section 118(b) provides that the carved-out nonshareholder contributions are not regarded as “contributions to capital of the taxpayer,” Section 362(c) should no longer apply to nonshareholder contributions that are taxable.

Previously, nonshareholder contributions to capital were not included in the gross income of a corporation unless the payments to the corporation are for goods or services. This exception generally applied to payments made to induce a particular course of action

by the corporation. Contributions to capital by nonshareholders have always been considered rare, and were more likely to be treated as payments than as contributions. Some nonshareholder contributions included: Federal Aviation Authority grants1, Smart Grid Investment grants2, Rural Utilities Service of the Department of Agriculture grants3 under the Broadband Initiatives Program or Broadband Technology Opportunities Program of Department of Commerce, and several others related to the transportation industry or clean coal initiatives.

Under prior law, contributions to a corporation by nonshareholders to induce the corporation to take a particular course of action could be treated as contributions to capital if the benefit to the contributing nonshareholder was sufficiently indirect and intangible. For example, the location of a factory in a particular community may have qualified for this. The IRS took the position that inducement contributions by anyone other than a governmental agency or civic group are includable in the corporation’s gross income. The IRS also applied five criteria to government subsidies that could be categorized as contributions to capital:

• The contribution becomes a permanent part of the corporation’s working capital structure.

• The contribution is not compensation for goods or services provided to the corporation by the government agency.

• The contribution is bargained for.

• The contribution foreseeably results in benefit to the government agency in an amount commensurate with its value.

• The asset contributed ordinarily, if not always, is used or contributed to the production of additional income.

1 Rev. Rul. 93-16.

2 Rev. Proc. 2010-20.

3 Rev. Proc. 2010-34.

All of these tests are now moot as a result of the change made by the Tax Cut and Jobs Act. Most contributions from a governmental entity or civic group will have to be included in the gross income of the corporation.

Where a grant from a governmental entity does not qualify as a contribution to capital, the cooperative must then consider whether that taxable income is patronage sourced income and if so, how it should be allocated to the patrons. The facts of the situation will determine these results. One of the considerations may be whether the cooperative is using the book (GAAP) or tax basis for determining patronage, and how the grant income is treated for both of these purposes. The bylaws of the cooperative will play a role in this computation.

In recent years, there have been several government programs related to the COVID pandemic, such as the PPP loan forgiveness program, that would have been classified as gross income to the recipient had it not been for the specific provision in the law that excluded it from taxable income. There are many government programs that provide grants to taxpayers in particular industries or situations. The USDA and other government agencies have long had such programs. In addition, the Infrastructure Act has also provided additional grant monies in the area of broadband development. Now, most of these grants cannot qualify as contributions to capital under Section 118. So, this change in the tax law is of greater interest now.

The new rules for government grants presented a special problem for rural electric and telephone cooperatives claiming exempt status under Section 501(c)(12), some of whom were concerned that grants could cause them to fail the 85% member income test. Section 501(c)(12)(A). Rural electric and telephone cooperatives convinced Congress to add Section 501(c)(12)(J) to carve out certain kinds of government grants

for purposes of applying the 85% member income test. The grants covered are:

• Grants, contribution or assistance under the Robert T. Stafford Disaster Relief and Emergency Assistance Act,

• “Any similar [to the Stafford Act] grants, contribution, or assistance by any local State, or regional governmental entity for the purpose of relief, recovery, or restoration from, or preparation for, a disaster or emergency.”

• “Any grant or contribution by any governmental entity (other than a contribution in aid of construction or any other contribution as a customer or potential customer) the purpose of which is substantially related to providing, constructing, restoring, or relocating electric communication, broadband, internet, or other utility facilities or service.”

The IRS grants penalty relief to many taxpayers in an effort to address its processing backlog

By George W. Benson

In Notice 2022-36 (August 24, 2022), the IRS announced the waiver and abatement of certain penalties related to 2019 and 2020 tax returns. There is no relief for penalties for fraudulent failure to file or for fraud. The notice provides that penalty relief is applicable only to penalties specifically listed in the notice. Taxpayers faced with penalties related to returns filed for those years are referred to the notice to see whether they are eligible for relief.

The penalty relief applies, among other things, to Section 6651(a)(1) additions to tax for failure to file income tax returns. The returns covered include, among others, Forms 1040 (individual), 1041 (estates and trusts), 1120 (corporations), and 1120-C (cooperatives) for taxable years 2019 and 2020 provided they are filed on or before September 30, 2022. Also covered are certain penalties related to Forms 1065 (partnerships), 1120-S (S corporations) and

certain information returns.

The notice states that the penalties “will be automatically, abated, refunded, or credited, as appropriate without any need for taxpayers to request … relief.”

This penalty relief appears motivated by the strain the COVID-19 pandemic has placed upon the IRS. According to the notice, “[t]he agency was called upon to support emergency relief for taxpayers, such as distributing economic impact payments, while sustaining its regular operations in a pandemic environment with limited resources, where employees were sometimes unable to be physically present to process returns and correspondence.” This was too much for the IRS and has resulted in a significant decline in customer service. The notice states that “the IRS has been working aggressively to process backlogged returns and taxpayer correspondence to return to normal operations for the 2023 filing season.” As part of this effort, the “Treasury Department and the IRS have determined that the penalty relief described in this notice will allow the IRS to focus its resources more effectively, as well as provide relief to taxpayers affected by the COVID-19 pandemic.”

This penalty relief is welcome, but not enough according to the AICPA, which sent Treasury and the IRS a letter dated August 30, 2022, requesting the September 30 date be extended and a second letter dated September 8, 2022, asking for additional relief. For the second letter, see, https://us.aicpa.org/content/dam/ aicpa/interestareas/peerreview/prprompts/ downloadabledocuments/56175896-aicpa-letter-onnotice-2022-36-pen-relief-scope-and-years-submit.pdf

Among other things, the second letter AICPA asked the IRS to expand the scope of relief to sweep in similarly situated taxpayers not expressly covered in the notice, additional penalties and returns and additional years. The letter also included suggestions for clarifying the notice. It remains to be seen whether the IRS will grant further relief.

Proposed Regulations

Describe the Kinds

Cases that May and May Not Be Taken to Appeals

of

By George W. Benson

The Taxpayer First Act of 2019, P.L. 116-25 (July 1, 2019) added a provision to the Code formally recognizing the IRS Appeals function and, among other things, changing its name to the Independent Office of Appeals (“Appeals”). Section 7803(e). Appeals is, of course, not new. In fact, it dates back to 1927. The Taxpayer First Act belatedly formally recognizes its existence.

Appeals has for many years played a critical role helping to resolve tax disputes short of litigation. If every dispute ended up in court, the system would quickly break down.

Appeals long-standing mission statement is now codified in Section 7803(e)(3): “(3) Purposes and Duties of Office. – It shall be the function of the Internal Revenue Service Independent Office of Appeals to resolve Federal tax controversies without litigation on a basis which –(A) is fair and impartial to both the Government and the taxpayer, (B) promotes a consistent application and interpretation of, and voluntary compliance with, the Federal tax laws, and (C) enhances public confidence in the integrity and efficiency of the Internal Revenue Service.”

Section 7803(e)(4) provides that taxpayers generally have a right to take their case to Appeals:

“(4) Right of Appeal. – The resolution process described in paragraph (3) shall be generally available to all taxpayers.” (emphasis added).

This statement, which is qualified by “generally,” is akin to the “rights” recognized in the so-called “Taxpayer Bill of Rights” contained in Section 7803(a)(3), which provides aspirational rights, not rights which a taxpayer can legally enforce. Appeals has always asserted that it has discretion to determine what cases are appropriate for its consideration, and Section 7803(e)(4) does not appear to change that.

Courts so far have agreed. See, for example, Rocky Branch Timberlands, LLC v. United States, 2022-1 USTC ¶ 50, 167 (D. Ga. 2022),4 which, among other matters, addressed whether the Government has discretion as to whether to allow a case access to Appeals.5

“… Defendants [the Government] argue the IRS’s decision not to refer this case to the IOA [Independent Office of Appeals] is a decision committed to its discretion by law and is thus not judicially reviewable. … Defendants contend 26 U.S.C. § 7803(e) (4) provides that review by the IOA ‘shall be generally available to all taxpayers.’

… Defendants say the use of the term ‘generally’ makes clear that certain matters will not be referred to the IOA, and it is within the IRS’s discretion to decide which matters will and will not be referred to the IOA.3 … The Court agrees that the IRS has discretion as to whether to refer a matter to the IOA before issuing a FPAA.

3 Plaintiffs contend that, ‘[w]hile Defendants focus heavily on the modifier

4 This case was appealed to the Eleventh Circuit Court of Appeals, but dismissed by the Court on October 24, 2022, for “want of prosecution” for failure to file the required “Civil Appeal Statement form within the time fixed by the rules.” After the dismissal order, taxpayer’s counsel filed a motion for leave to file documents out of time. At the time of preparation of this article it remains to be seen whether the Eleventh Circuit will grant that motion and allow the appeal to go forward.

5 Note, in a similar case, the Georgia District Court reached a similar conclusion on this issue, and its decision was affirmed by the Eleventh Circuit. See, Hancock County Land Acquisition, LLC v. United States, 553 F. Supp. 3d 1284 (D. Ga. 2021), aff’d per curiam, 130 AFTR 2d 2022-5529 (11th Cir. 2022). The District Court observed: “Plaintiffs have not responded to this argument and fail to refute that the IRS’ decision not to refer the case to the Appeals Office was within the IRS’ discretion.”

‘generally’…, the legislative history [of the statute] illustrates that Congress intended to protect taxpayers from arbitrary actions by the IRS.’ … Plaintiffs cite no legislative history to support that assertion.”

New Section 7803(e)(5) provides that if a taxpayer receives a notice of deficiency, requests a referral to Appeals and the request is denied, the IRS must provide the taxpayer “a detailed description of the facts involved, the basis for the decision to deny the request, and a detailed explanation of how the basis of such a decision applies to such facts.” In addition, the notice must describe the procedure for protesting the denial of the request. It remains to be seen whether such protests will be meaningful.

Proposed regulations under Section 7803(e).

Recently the IRS published a notice of proposed rulemaking containing, for the first time, a comprehensive description of cases and issues which are and are not eligible for Appeals consideration. See, Notice of Proposed Rulemaking REG-125693-19, Federal Register, Vol. 87, No. 176, pages 55934 et seq. (September 13, 2022). While this notice largely reflects current practice, a few changes are proposed.

The proposed regulations begin by providing that Appeals is generally available to taxpayers to resolve “federal tax controversies.” For this purpose, a federal tax controversy is defined as “a dispute over an administrative determination with respect to a particular taxpayer … concerning the amount or legality of the taxpayer’s income, employment, excise or estate and gift tax liability; a penalty; or an addition to tax under the internal revenue laws.” Prop. Treas. Reg. § 301.7803-2(b)(2).

The notice recognizes that there are some categories of disputes that historically have been considered by Appeals even though they do not meet the definition of “federal tax controversies.” These categories continue to be appropriate for Appeals consideration. Seven are identified, including

disputes regarding the qualification of an employee plan, the exempt status of bonds, the qualification of an organization for exempt status under various sections of the Code (including Sections 501(a) and 521), the IRS response (or lack thereof) to Freedom of Information Act requests, and liabilities and penalties related to failure to report foreign bank accounts. Prop. Treas. Reg § 301.78032(b)(3)(i)-(vii). In addition, the notice provides a catch-all for “[a]ny other topic that the IRS has determined can be considered by Appeals.” Prop. Treas. Reg § 301.7803-2(b) (3)(viii).

More significant, the proposed regulations list twenty-four exceptions to the rule that taxpayers generally are entitled to take federal tax controversies to Appeals. See, Prop. Treas. Reg. § 301.7803-2(c) (1)-(24). If one of the exceptions is the only issue involved in a case, Appeals consideration is precluded altogether. If one of the exceptions “is present in a case that otherwise is eligible for consideration by Appeals, the ineligible matter or issue will not be considered by Appeals during resolution of the case.” See, Prop. Treas. Reg. § 301.7803-2(c).

Many of the exceptions are not new:

• A taxpayer may not take cases to Appeals rejecting a taxpayer position that the IRS has identified as frivolous and “any case solely involving the taxpayer’s failure or refusal to comply with the tax laws because of frivolous moral, religious, political, constitutional, conscientious, or similar grounds.” Similarly, penalties related to frivolous positions and false information may not be taken to Appeals. Prop. Treas. Reg. §§ 301.7803-2(c)(1) and (2).

• Appeals will not reconsider issues resolved in a closing agreement. However, “Appeals my consider the question of whether an item or items are covered, and how the item or items are covered, in a closing agreement.” Prop. Treas. Reg. § 301.7803-2(c)(8).

• Where a technical advice memorandum has been issued before an appeal is requested, Appeals will not consider “an adverse action related to the initial or continuing recognition

of tax-exempt status, an entity’s classification as a foundation, the initial or continuing determination of employee plan qualification, or a determination involving an obligation and the issuer of an obligation under section 103.” Such cases are also barred if they are docketed in Tax Court. Prop. Treas. Reg. §§ 301.78032(c)(15) and (16). While the proposed regulation does not specifically mention cases involving a technical advice memorandum regarding Section 521 status, it is likely such cases are also included.

By Barbara A. Wech

that a notice or revenue procedure published in the Internal Revenue Bulletin is procedurally invalid unless there is an unreviewable decision from a Federal court holding it to be invalid.” Prop. Treas. Reg. § 301.7803-2(c)(20).

In all three situations, the notice states that taxpayers are not precluded from going to Appeals with other arguments to support their position.6

• A taxpayer requesting a private letter ruling is not entitled to go to Appeals at the time the IRS National Office decides not to rule or issues an adverse ruling. However, “[i]f the taxpayer subsequently files a return taking a position that is contrary to the letter ruling and that position is audited by the IRS, Appeals can consider that Federal tax controversy if all other requirements in this section are met.” Prop. Treas. Reg. § 301.7803-2(c)(17).

• Any case or issue designated for litigation. Prop. Treas. Reg. § 301.7803-2(c)(21).

• Cases docketed in the Tax Court if the notice of deficiency was issued by Appeals. Prop. Treas. Reg. § 301.7803-2(c)(22).

Three appear to be new. For these, the Treasury/IRS specifically solicit taxpayer comments. The notice provides that Appeals is not available for:

• “Any issue based on a taxpayer’s argument that a statute violates the United States Constitution unless there is an unreviewable decision from a Federal court holding that the cited statute is unconstitutional.” Prop. Treas. Reg. § 301.7803-2(c)(18).

• “Any issue based on a taxpayer’s argument that a Treasury regulation is invalid unless there is an unreviewable decision from a Federal court invalidating the regulations as a whole or the provision in the regulation that the taxpayer is challenging.” Prop. Treas. Reg. § 301.7803-2(c)(19).

• “Any issue based on a taxpayer’s argument

Interestingly, on the day after the proposed regulations were released, Appeals announced that it was adopting these three exceptions (modifying IRM 8.1.1.2.1) effective for cases closed on or after September 14, 2022. In a memorandum to Appeals employees (Control No. AP-08-0922-0011), Appeals explained the reason for this change: “Appeals is seeing an increase in cases in which a taxpayer, in support of their challenge of an IRS Compliance determination, asserts that a Treasury regulation is invalid or an IRB notice or revenue procedure is procedurally invalid. These challenges tend to raise administrative law questions distinct from the administrative tax determinations most commonly heard in Appeals. …

A federal court … can invalidate a Treasury regulation, IRB notice, or revenue procedure, and the judicial process is the appropriate forum for addressing taxpayer challenges regarding the validity of Treasury regulations or procedural validity of IRB notices and revenue procedures in the first instance. Accordingly, Appeals will not settle cases on the basis of validity challenges if a court has not yet held that the regulation in question is invalid or that the IRB notice or revenue procedure in question is procedurally invalid.”

The notice of proposed regulations notes two kinds of cases where Appeals consideration is currently not permitted, which are not included among the twenty-

6 The second and third restrictions have been criticized as unwarranted limitations on Appeals’ independence. See, for example, “Proposed Regs Limit the Independence of the Office of Appeals,” by Jeffrey S. Luechtefeld, Tax Notes (October 17, 2022), Volume 177, page 373 (“But the proposed regulations impose two significant restrictions on Appeals’ independence that seriously limit its ability to resolve cases and could deprive some taxpayers of that right.”).

four exceptions – namely, cases involving an IRS National Office decision regarding requests for Section 9100 relief or a change in accounting method. Here, as well, the Treasury/IRS request comments from taxpayers as to whether Appeals consideration is appropriate and the scope of that consideration.

The proposed regulation also provides that Appeals consideration is appropriate only after the originating IRS office has completed its review (except for fast track or early referral cases). Prop. Treas. Reg. § 301.7803-2(d). Taxpayers must follow procedural and timing requirement related to a request for Appeals consideration and “there must be sufficient time remaining on the appropriate limitations period for Appeals to consider the [case].” Prop. Treas. Reg. § 301.7803-2(e).

Finally, Prop. Treas. Reg. § 301.78033 contains rules implementing the new requirements requiring notice when a taxpayer’s request for Appeals is denied. In such cases, this IRS must “provide the taxpayer a written notice that provides a detailed description of the facts involved, the basis for the decision to deny the request, a detailed explanation of how the basis for the decision applies to such facts, and the procedure for protesting the decision to deny the request…” Prop. Treas. Reg. § 301.7803-3(a). At this point, the procedure for protesting the decision is not further described in the proposed regulations.

As published, the proposed regulations stated that they would be “applicable to requests for consideration by Appeals made on or after October 13, 2022.” Prop. Treas. Reg. § 1.301.7803-2(h). Not long thereafter a notice of correction was published changing the effective date to the more standard “[Date 30 days after a Treasury Decision finalizing these rules is published in the Federal Register].”

Conclusion.

Access to Appeals in important for taxpayers

in a dispute with the IRS. Hopefully, the final regulations will not put unreasonable restrictions on that access. It will be helpful having a comprehensive set of rules describing cases where Appeals consideration is available and not available.

Research Credit Developments

The Section 41 credit for increasing research activities has been the source of much controversy in recent years, which has been described in past TAXFAX articles, including an article in the Spring, 2022 issue of The Cooperative Accountant by Ross Reiter, Christopher Herman and Brian Watkins.

Historically7 there has been a broad consensus in Congress that research is a good thing and that the Tax Code should contain incentives for research. But defining “research” is inherently difficult. The definition of “qualified research expenditures” (“QREs”) in the Code is subject to different interpretations. The IRS often has read the words very narrowly and placed heavy evidentiary burdens on taxpayers claiming research credit. On the other hand, many taxpayers have pushed the envelope and claimed large credits based upon sketchy documentary evidence.

A recent order in a Tax Court case denying the parties’ cross-motions for summary judgment illustrates the difficulties in this area. See, Order dated July 12, 2022, in J.C. Boswell Company v. Commissioner, Tax Court Docket No. 2408-19.8

J.C. Boswell Company (“Boswell”) is a private company engaged in a large (over 100,000 acres) farming business in the California central valley. It raises wide variety of crops including cotton, tomatoes, alfalfa hay and safflower. According to the order:

“As part of an ongoing effort to improve its business through agronomic research, petitioner conducted 33 research trials in 2013 and 22 research trials in 2014 on about 7% of its farmland (research acres), in general

7 With Congress’ failure (so far) to reinstate the deduction for research expenses, one might wonder whether this consensus is as strong today as in the past.

8 This order can be found at the Tax Court website.

TAXFAX

by growing crops on a test plot and a control plot. Petitioner’s researchers grew one of petitioner’s standard crops on the control plot, using the standard, nonexperimental method petitioner used on the other 93% of its farmland (production acres). On the test plot the researchers tried an experimental method, which they evaluated by comparing the output of the test plot to the output of the control plot. Petitioner claims the researchers hoped each experimental method would improve the quality or yield of the crop or reduce economic or environmental costs of production relative to the standard method. Petitioner generally sold the output of both plots, in some cases at a premium or discount based on quality relative to production acre crops.”

For 2014, Boswell claimed research credit of $1,735,424, including in QREs “all costs of cultivating and evaluating the research acre crops, adjusted per section 41(b).”

On audit, the IRS reduced the credit to $117,722, limiting QREs to expenses on the plots “beyond what it would have incurred to cultivate the same land as production acres.”

Each side moved for summary judgment, and both motions were denied. The order described how two kinds of research were potentially involved – research to develop an improved product and research to develop an improved process for producing a product – and that the rules for determining QREs differed for the two kinds of research:

“To illustrate, imagine that a taxpayer tests two experimental production processes designed to improve on its standard process for producing Product X. In Test A, the taxpayer evaluates an experimental process designed to produce an improved product, Product X+. Test B, on the other hand, should yield the same Product X in greater quantity or at lower cost than the standard process. Section 41(d)(2)(C), Union Carbide,9 and Treasury Regulation § 1.41-4(b)(1) tell us that if Test B involves qualified research at all,

the taxpayer conducts such research on the production process alone. The Court must allocate the taxpayer’s expenditures on Test B between product and process, and exclude the former from QREs.”

According to the Tax Court, some of Boswell’s research appear focused on producing an improved product or on producing an improved product and achieving production efficiencies (e.g., research designed to produce “more and higher quality cotton that could be sold at a higher price per unit than the standard variety grown on the control plot”). Other research appeared focused on improving the production process (e.g., a safflower experiment which “tested a way to reduce production costs … by withholding nitrogen from petitioner’s safflower crop, apparently without altering the product itself”). However, the Court indicated that at this point in the case (summary judgment) the evidence in the record was not sufficient to allow it to determine what qualified.

As a result, the Tax Court concluded that summary judgment was not appropriate for either party.10 However, in the order it provided guidance as to what facts it regarded as important. It indicated factual development was required “so we may determine (1) which of petitioner’s 55 research trials sought to improve petitioner’s production process alone, as opposed to one of its products, (2) which disallowed QREs associated with these research trials petitioner would not have incurred had it cultivated the research acres as production acres, and (3) the amount of QREs incurred in the remaining research trials.”

It may be that the Tax Court’s guidance will permit the parties will be able to resolve their differences without a trial. If not, we may eventually see another decision in this case.

In the Spring, 2022 TAXFAX Column, Ross Reiter, Christopher Herman and Brian

9 Union Carbide Corp. v. Commissioner, T.C. Memo. 2009-50, aff’d, 697 F. 3d 104 (2d Cir. 2012).

10 The Tax Court observed that summary judgment was appropriate “when there is no genuine dispute of material fact, and a decision may be rendered as a matter of law.”

Watkins reported on a variety of other research credit developments, including IR-2021-203 (October 15, 2021), which set forth new requirements for the contents of any refund claims related to the research credit. That information release described a transition period procedure for perfecting refund clams initially found deficient. The IRS updated the information release on September 30, 2022 to extend for another year (through January 10, 2024) the transition period during which taxpayers are provided 45 days to perfect a research credit claim for refund prior to the IRS’s final determination on the claim. See, https://www.irs.gov/ newsroom/irs-sets-forth-required-information-for-avalid-research-credit-claim-for-refund

Taxpayers should be aware that the IRS recently revised its FAQs related to refund claims including research credit and other items. FAQ 4 now provides:

“If your amended return does not include a claim for refund (even if it contains the Research Credit) or does not request an adjustment to the Research Credit claimed on your original return (even if it does include a claim for refund not involving the Research Credit), the five items of information are not required to provided with your amended return. The IRS may, however, later require you to provide the five items of information to substantiate your entitlement to the Research Credit, if your return is selected for examination.

If your amended return includes a claim for refund related to the Research Credit (even if it contains other items), you are required to provide the five items of information with your amended return. If the IRS determines your claim for refund is deficient, for the one-year transition period, you will be mailed a letter providing you 45 days to perfect your claim for refund. If after the 45-day period, the IRS does not receive the missing information or if the IRS determines any additional information provided is insufficient, your entire claim for refund will be rejected.” (emphasis added).

As reported in that article, research expenses are no longer deductible under Section 174. There has been pressure on Congress to retroactively restore expensing, but at the time of preparing this article (October, 2022), Congress had not yet done so. The IRS has promised to provide substantive and procedural guidance as to how to make the required change if Congress does not act. It also has not yet done so.

Congress Extends the Statute of Limitations Related to PPP and EIDL Fraud to Ten Years

On August 5, 2022, the President signed two bills extending the statute of limitations for criminal charges and civil enforcement against a borrower who engaged in fraud with respect to the Paycheck Protection Program (“PPP”) and certain Economic Injury Disaster Loan Programs (“EIDL”) to ten years.

• Public Law No. 117-65 (August 5, 2022), the “COVID-19 EIDL Fraud Statute of Limitations Act of 2022”, amended the Small Business Act, the CARES Act and the Economic Aid to Hard-Hit Small Businesses, Nonprofits and Venues Act to extend the statute of limitations for certain EIDL loan programs to “10 years after the offense was committed.”

• Public Law No. 117-66 (August 5, 2022), the “PPP and Bank Fraud Enforcement Harmonization Act of 2022”, amended Small Business Act to extent the statute for PPP loans to “10 years after the offense was committed.”

Taxpayers (including cooperatives) that participated in either of these programs should take steps to assure that relevant records related to the programs will be maintained for the requisite period.

It will be interesting to see whether Congress will take similar action to extend the statute of limitations related to other COVID relief programs where there have been allegations of widespread fraud.

In October 2021, the Financial Accounting Standards Board (FASB) issued ASU 202108, entitled Accounting for Contract Assets and Contract Liabilities from Contracts with Customers. The provisions in ASU 202108 amend Topic 805, entitled Business Combinations, and addresses issues associated with the accounting treatment of contract assets and contract liabilities acquired in a business combination. There were differing views in practice on how to apply the provisions of Topic 805 when an acquirer has adopted the new revenue recognition guidance in Topic 606, entitled Revenue from Contracts with Customers These differing views led to diversity and inconsistency in practice when accounting for acquired contract assets and liabilities. ASU 2021-08 was issued to provide more targeted guidance in this area.

The Accounting Issue

Prior to the issuance of ASU 2021-08, reporting entities that acquired contract assets or contract liabilities in a business combination generally followed the guidance in either Topic 805 or Topic 606 when

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 WRITERS

Lorraine Magrath, Director

William H. Carr School of Accountancy

Sorrell College of Business Bibb Graves Hall Troy University 334-670-3989 lmagrath@troy.edu

Steve Grice Scholar-in-Residence

William H. Carr School of Accountancy

Sorrell College of Business Bibb Graves Hall Troy University 334-670-3989 sgrice@troy.edu

accounting for those contracts. ASU 2021-08 is intended to improve accounting for acquired revenue contracts in a business combination by addressing issues related to diversity and inconsistency in practice which occur when acquirers account for contract assets and contract liabilities by either (1) applying fair value acquisition accounting in accordance with the guidance in Topic 805 or (2) applying contract revenue recognition and measurement guidance in accordance with Topic 606.

The general recognition principle in paragraph 805-20-25-1 requires identifiable assets acquired and liabilities assumed to be recognized separately from goodwill as of the acquisition date. The exceptions to the recognition principle are listed in paragraph 805-20-25-17 and these exceptions did not

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include contract assets and contract liabilities prior to the issuance of ASU 2021-08. The general measurement principle in paragraph 805-20-30-1 requires that the assets acquired and the liabilities assumed be measured at the acquisition date fair value. The exceptions to the measurement principle are listed in paragraph 805-20-30-12 and these exceptions did not include contract assets and contract liabilities prior to the issuance of ASU 2021-08.

ASU 2021-08 Accounting Treatment

Though it is clear in the accounting guidance that revenue contracts are within the scope of Topic 606, it is not clear as to whether Topic 606 applies to acquired revenue contracts in a business combination. Consequently, accounting inconsistencies and diversity issues arose in practice because the fair value provisions in Topic 805 and the revenue recognition provisions in Topic 606 result in differing amounts for acquired contract assets and contract liabilities at the acquisition date.

to recognize acquired contract assets or contract liabilities pursuant to the provisions in Topic 606. Paragraph 805-20-30-27 in the amended guidance requires the acquirer to measure acquired contract assets or contract liabilities in accordance with Topic 606. ASU 2021-08 also included contract assets and contract liabilities to the list of exceptions to the recognition principle and measurement principle in paragraphs 805-20-25-17 and 805-20-30-12, respectively.

ASU 2021-08 ushered in an exception to the recognition principle and the measurement principle by directly addressing contract assets and contract liabilities acquired in a business combination. Specifically, paragraph 805-20-25-28C in the amended guidance requires the acquirer to recognize acquired contract assets or contract liabilities pursuant to the provisions in Topic 606. Paragraph 805-20-30-27 in the amended guidance requires the acquirer to measure acquired contract assets or contract liabilities in accordance with Topic 606. ASU 2021-08 also included contract assets and contract liabilities to the list of exceptions to the recognition principle and measurement principle in paragraphs 805-20-25-17 and 805-20-30-12, respectively.

ASU 2021-08 Accounting Treatment

ASU 2021-08 ushered in an exception to the recognition principle and the measurement principle by directly addressing contract assets and contract liabilities acquired in a business combination.

When the acquiree has adopted Topic 606, the acquirer must assess the acquiree’s application of Topic 606 to determine if reliance on the acquiree’s recognition and subsequent measurement is warranted. If the acquirer’s assessment indicates that the acquiree either did not follow GAAP, has made errors in the application of Topic 606, or uses different recognition policies than that used by the acquirer, the acquirer should measure and recognize contract assets and contract liabilities in accordance with Topic 606. The expectation is that an acquirer will apply Topic 606 and recognize and measure contract assets and liabilities as if

When the acquiree has adopted Topic 606, the acquirer must assess the acquiree’s application of Topic 606 to determine if reliance on the acquiree’s recognition and subsequent measurement is warranted. If the acquirer’s assessment indicates that the acquiree either did not follow GAAP, has made errors in the application of Topic 606, or uses different recognition policies than that used by the acquirer, the acquirer should measure and recognize contract assets and contract liabilities in accordance with Topic 606. The expectation is that an acquirer will apply Topic 606 and recognize and measure contract assets and liabilities as if the acquirer originated the contract. Exhibit I below summarizes the accounting differences between the pre- and post-ASU 2021-08 guidance.

Exhibit I

Conceptual Differences in Pre and Post ASU 2021-08

Provision Topic 805 Pre-ASU 2021-08

Topic 805 Post-ASU 2021-08

Specifically, paragraph 80520-25-28C in the amended guidance requires the acquirer

Initial measurement Record acquired contract assets and liabilities fair value, based on the estimated cost of unsatisfied legal obligations plus a reasonable margin.

Subsequent measurement Initial measurement allocated ratable to remaining contract term.

Apply Topic 606 and record acquired contract assets and liabilities as if acquirer originated the contracts.

Apply Topic 606 and recognize revenue as performance obligations are met.

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the acquirer originated the contract. Exhibit I below summarizes the accounting differences between the pre- and post-ASU 2021-08 guidance.

Practical Expedients

The FASB realized there would be difficulty recognizing acquiree contracts in situations in which the acquirer does not have the expertise or sufficient and appropriate data to analyze the historical periods in which acquirees entered into revenue contracts. For example, it may be assumed that an acquirer would have difficulty assessing the initial measurement and recognition principles in place at the time a contract was entered into if an acquiree entered into long-term or complex contracts that were modified prior to the date of acquisition or if the acquirer cannot reasonably rely on the acquiree’s Topic 606 accounting. The FASB’s specific concerns related to the significant amount of judgment required to evaluate certain estimates that were made at the contract inception or contract modification date, particularly with respect to long-term contracts.

The FASB realized there would be difficulty recognizing acquiree contracts in situations in which the acquirer does not have the expertise or sufficient and appropriate data to analyze the historical periods in which acquirees entered into revenue contracts. For example, it may be assumed that an acquirer would have difficulty assessing the initial measurement and recognition principles in place at the time a contract was entered into if an acquiree entered into long-term or complex contracts that were modified prior to the date of acquisition or if the acquirer cannot reasonably rely on the acquiree’s Topic 606 accounting. The FASB’s specific concerns related to the significant amount of judgment required to evaluate certain estimates that were made at the contract inception or contract modification date, particularly with respect to long-term contracts. Acquirers may not have reliable data to assess or rely on the acquiree’s application of Topic 606 because the acquiree did not follow GAAP or the acquirer identified errors in the acquiree’s application of Topic 606. In these cases, the acquirer may use a practical expedient to recognize and measure contract assets and contract liabilities at the date of acquisition. The practical expedients are used to alleviate the burden of accounting for (1) revenue contracts that may have had several modifications or are complex long-term contracts that were modified prior to acquisition or (2) determining the standalone selling price of each performance obligation in the contract. Exhibit II below describes the practical expedients listed in paragraph 805-20-30-29 of the amended guidance.

Acquirers may not have reliable data to

assess or rely on the acquiree’s application of Topic 606 because the acquiree did not follow GAAP or the acquirer identified errors in the acquiree’s application of Topic 606. In these cases, the acquirer may use a practical expedient to recognize and measure contract assets and contract liabilities at the date of acquisition. The practical expedients are used to alleviate the burden of accounting for (1) revenue contracts that may have had several modifications or are complex longterm contracts that were modified prior to acquisition or (2) determining the standalone selling price of each performance obligation in the contract. Exhibit II below describes the practical expedients listed in paragraph 80520-30-29 of the amended guidance.

If the acquirer uses practical expedients to measure and recognize contract assets and contract liabilities, the practical expedients must be applied on an acquisition-byacquisition basis and must be applied consistently on all contracts acquired in the same business combination. In addition, the acquirer must disclose that the practical expedients have been used and should provide, to the extent possible, a qualitative assessment of the estimated effect of using the expedients.

Exhibit II

Practical Expedients

Measuring Acquired Contract Assets and Liabilities

Applicable to:

Contracts modified before acquisition

Practical Expedient

The acquirer may reflect the aggregate effect of all modification that occur before the acquisition date when (1) identifying the satisfied and unsatisfied performance obligations (2) determining the transaction price and (3) allocating the transaction price to the satisfied and unsatisfied performance obligations.

Illustration of Acquirer Accounting

All Contracts

The acquirer may determine the standalone selling price at the acquisition date (as opposed to the contract inception date) of each performance obligation when determining the allocation the transaction price.

The hypothetical situation in Exhibit III illustrates the differences resulting from the application of Topic 805 prior to ASU 2021-08 and the application of Topic 606 in accordance with

If the acquirer uses practical expedients to measure and recognize contract assets and contract

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addition, the acquirer must disclose that the practical expedients have been used and should provide, to the extent possible, a qualitative assessment of the estimated effect of using the expedients.

Illustration of Acquirer Accounting

ASU 2021-08. Prior to ASU 2021-08, Topic 805 (1) required initial measurement of all assets and liabilities (with limited exceptions) at fair value at the date of acquisition, (2) provided no specific guidance with respect to revenue contracts, and (3) required that measurement and recognition in periods following the acquisition be accounted for in accordance with applicable GAAP. The FASB indicated that the requirement to account for acquired contract liabilities (i.e., deferred revenue) using Topic 606 will result in the acquirer recording an amount for the contract liability that is higher than the amount the acquirer would record using Topic 805 under the pre-ASU 2021-08 guidance.

acquisition is $3,000 and the value of the contract liability using Topic 606 is $3,750. The FASB believes that the increase in the initial measurement of contract liabilities will likely result in an increase in goodwill. In this illustration, the goodwill recorded as result of this business combination is $750 higher using post-ASU 2021-08 guidance which is due to difference in the recorded contract liability at acquisition (i.e., $3,730 minus $3,000). Assuming the performance obligations are fulfilled ratably over the life of the contract, the annual revenue recognized for the remaining period of the contract increases under the ASU 2021-08 guidance.

If the initial measurement of contract revenue is at fair value at the date of acquisition, the fair value often results in lower balances of contract liabilities than the acquiree would recognize without the acquisition. The lower balances of contract liabilities are the result of calculating fair value based on the remaining costs required to satisfy performance obligations as prescribed in Topic 606. As shown in Exhibit III, the fair value of the contract liability at

Effective Date and Transition Provisions

The amendment is effective for public entities for fiscal years beginning after December 15, 2022, and effective for all entities for fiscal years beginning after December 15, 2023, including interim periods within those years. The provisions of ASU 2021-08 should be applied prospectively to business combinations that occur on or after the effective date of the new guidance. Early adoption of ASU 2021-08 is permitted.

The hypothetical situation in Exhibit III illustrates the differences resulting from the application of Topic 805 prior to ASU 2021-08 and the application of Topic 606 in accordance with ASU 2021-08. Prior to ASU 2021-08, Topic 805 (1) required initial measurement of all assets and liabilities (with limited exceptions) at fair value at the date of acquisition, (2) provided no specific guidance with respect to revenue contracts, and (3) required that measurement and recognition in periods following the acquisition be accounted for in accordance with applicable GAAP. The FASB indicated that the requirement to account for acquired contract liabilities (i.e., deferred revenue) using Topic 606 will result in the acquirer recording an amount for the contract liability that is higher than the amount the acquirer would record using Topic 805 under the preASU 2021-08 guidance. Exhibit III

Published April 8, 2019

The Centers for Disease Control and Prevention recommend annual checkups for individuals of all ages. Why? Because “regular health exams and tests can help find problems before they start.”

Not only is this true for our personal health, but also for the health of companies. When unchecked for too long, many companies unknowingly foster workplaces susceptible to fraud, which can cause devastating financial and reputational losses.

Vulnerability to fraud can pose a catastrophic risk to any company, but to a small business, it can mean life or death. Plagued by limited resources, small businesses are a ripe environment for employee misconduct.

The most cost-effective way to limit losses due to fraud is to prevent fraud from occurring. An annual fraud checkup is an excellent opportunity to not only test prevention measures, but also to identify vulnerabilities and implement additional anti-fraud controls before an exposure can turn into a full-blown case of fraud. A fraud checkup should include a collaboration of anti-fraud specialists and organizational leadership with extensive operational

knowledge, such as internal audit or senior management.

The fraud checkup should include these topics:

Control environment

The foundation of an effective internal control system is the organization’s control environment. The control environment — commonly called the “tone at the top” — includes management’s philosophy, oversight and responsibilities, setting the tone of the organization and influencing the control consciousness of its people. Without an effective control environment, all other areas of internal control are likely to fail. They are only as good as the foundation upon which they are created.

• Are employees surveyed regarding their view of management’s honesty and integrity?

• Are employees anonymously surveyed to assess morale?

• Has fraud prevention been incorporated into management’s performance evaluation?

• Review performance goals. Are they realistic?

• Is there an established process for the oversight of fraud risks?

BEST PRACTICES

Stance on fraud — the perception of detection

The perception of detection is an important deterrent to fraud. That means putting employees and management on notice that all incidences of potential misconduct will be investigated.

• Is there a process in place for actively seeking out potential fraudulent conduct?

• Is the organization’s stance on fraud clearly and regularly communicated?

• Does the organization have a code of conduct for employees based on the company’s core values?

• Does the code of conduct identify how employees should seek advice when faced with ethical decisions?

• Is there a mechanism to anonymously report potential wrongdoing?

Employee education

Educating management and employees about fraud not only increases awareness, but also the likelihood that employees will become additional eyes and ears for the organization. Educational efforts should be positive and non-accusatory, with an emphasis that fraud, waste and abuse eventually cost everyone. Fraud education should be a part of employee orientation and annual training programs.

• Is fraud awareness training provided for departments, employees and managers?

• Do employees know what constitutes fraud?

• Does management communicate annually the importance of accountability and the organization’s zero tolerance of fraudulent activity?

Conflict of interest statement

A conflict of interest occurs when an employee, manager or executive has an undisclosed economic or personal interest

in a transaction that could hurt the organization. The most common situations that can give rise to a conflict of interest include accepting gifts from suppliers, employment by another organization, ownership of another company and close relationships with suppliers. The potential for a conflict of interest increases for employees in decisionmaking positions that would allow them to give preference to a vendor in exchange for anything of personal benefit to themselves, family or friends.

• Are employees required to complete an annual conflict of interest disclosure statement?

• Are employees provided a copy of the employee manual annually and required to sign a statement of acknowledgment and understanding?

Strengthening anti-fraud controls

Internal control plays an important role in fraud prevention. Although a system of weak internal controls does not mean that fraud exists, such a system can foster an environment for fraud to succeed. Conversely, a system of strong internal controls does not preclude fraud from occurring. However, such a system can help deter fraud and reduce the costs of any fraud that may occur.

Performing incompatible duties provides an easy opportunity for employees to

The most common situations that can give rise to a conflict of interest include accepting gifts from suppliers, employment by another organization, ownership of another company and close relationships with suppliers.

commit fraud. For this reason, incompatible duties should be performed by different employees. For example, the responsibility for authorization, recording and custody of assets should never be assigned to just one person, because this person could commit fraud and more easily conceal it.

Segregation of duties can pose difficulties in departments with limited staff. Where there are too few employees to allow proper segregation of duties, direct oversight by management is one alternative to provide necessary control. In areas where it is difficult to add controls without compromising operational efficiency, analytical review and audit techniques such as data mining should be performed.

• Are duties properly segregated?

• Are physical safeguards in place?

• Are jobs rotated?

• Are vacations mandatory?

Independent checks

Independent checks test another employee’s work. They include controls to assure the accuracy and completeness of the accounting records and often serve as an acceptable compensating control when segregation of duties is compromised.

• Are surprise audits performed?

• Is management review required for reconciliations, adjustments and write-offs?

• Does the internal audit function (if one exists) have adequate resources and authority to operate without undue influence from management?

Proactive fraud detection

According to the Association of Certified Fraud Examiners’ 2018 Report to the

Nations, 47 percent of all frauds detected are initially uncovered by a tip or by accident. This means that while internal audit, internal control and external audit all play an important role in the prevention and detection of fraud, they are simply not enough.

Proactive detection involves the deliberate search for misconduct, allowing transaction analysis close to the transaction date — helping to detect fraud sooner and more efficiently. A program designed to actively expose anomalies indicative of fraudulent activity should include the use of proactive data monitoring and data analysis. Combined with surprise audits, this trio of activities has been identified by the ACFE to be associated with a significant reduction in both fraud losses and duration.

• Is data mining software or continuous monitoring software used to detect fraud?

• Is a proactive audit approach utilized by the organization?

• Is artificial intelligence software used to identify risky transactions?

Measuring progress

An annual fraud checkup can provide a broad overview of the health of your organization’s fraud prevention program. Conducted annually, the fraud checkup should give way to an ongoing fraud prevention plan. Review the findings of the fraud checkup with stakeholders and weigh the decision to implement additional anti-fraud controls with the organization’s risk tolerance for the identified vulnerabilities.

(Source: AccountingToday - Audit & Accounting - Voices - March 25, 2019)

An annual fraud checkup can provide a broad overview of the health of your organization’s fraud prevention program.