Are Amazon Web Services Costs Capitalized Or Expensed

An FASB accounting standards update changes the recognition of software expenditures in cloud calculating.

Companies are turning to cloud software solutions at a higher rate than ever earlier. The Fiscal Accounting Standards Board (FASB) issued Accounting Standards Update 2018-15 (ASU 2018-15) specifically to address accounting for cloud-calculating software. This update requires companies to capitalize certain costs associated with implementing a deject organization.

Historically, companies accept expensed cloud-computing costs as the costs were incurred, whereas internal-apply-software costs have been capitalizable. The FASB initially issued Accounting Standards Codification 350-twoscore (ASC 350-40) to align the accounting for cloud-computing implementation costs with the rules for internal-use software. Entities reached out to the FASB for clarification, indicating ASC 350-40 didn't adequately specify which costs associated with cloud-computing agreements could be capitalized. The FASB issued ASU 2018-xv to provide this clarification.

WHAT'S CAPITALIZABLE?

For context, at that place are traditionally 3 phases of software implementation.

Preliminary project phase. An entity determines the organisation requirements for software.
Application development phase. If the software to be used requires customization or changes to the configuration or infrastructure, development piece of work volition exist conducted at this fourth dimension. Costs tin include manual data conversion, blueprint, development, testing, and training.
Mail-implementation phase. This phase begins when the software is placed in service. Costs may include maintenance, additional training, upgrades, or enhancements.

Inside these phases, implementation costs incurred in a hosting arrangement are fees incurred by the customer to become the hosted service implemented, gear up, and set for use.

If a software license existed, the license might be capitalized and all other costs expensed.
If no software license existed, the entire service contract was expensed.

In some instances, the FASB leaders believed this discouraged companies from evaluating cloud computing as a potential solution to concern needs. ASU 2018-15 provided two main clarifications to ASC 350-40: guidelines for which specific implementation costs could be capitalized, whether a software license existed or non; and guidelines to determine, for capitalization purposes, what the asset is. One criterion considered, for example, is whether or non the cost provides a benefit to the organisation over time.

CAPITALIZATION CONSIDERATIONS

Capitalization allows for allotment of toll over the life of the nugget. Generally, entities await at capitalizable costs more than favorably because it reduces the impact to net income for the period incurred. For public companies, a smoother touch on earnings can be critical. Capitalization depends on the phase of the project in which the costs are incurred every bit well as the nature of the costs.

Only costs incurred in the application development stage qualify for capitalization. While training, manual data conversion, and maintenance and support costs are noncapitalizable, software, software licensing, third-party software evolution fees, external materials, and coding and testing fees are all capitalizable.

Under ASU 2018-15, the effective reporting dates for annual and acting reporting periods began subsequently December 15, 2019, for public business organisation entities. The almanac reporting periods for all others began Dec fifteen, 2020.

Effigy 1: Impact of the ASU 2018-15 Clarifications

Example OF Awarding AND IMPACT

Permit'due south say Company ABC has recently expanded into a new global line of business. Prior to this, it had simply operated in ane land. Its internal accounting system would require a major overhaul to exist able to account for multiple currencies and global reporting requirements. Vendor DEF offers a deject solution that will interface with ABC'due south accounting system and provide the necessary global solution. Implementation work volition be required to build a proper interface before the solution can be placed in service. The costs associated would exist as follows:

$8.7 million iii-twelvemonth service contract, which must be paid upwardly forepart.

– $6 meg software license (software returns to vendor if understanding terminates).

– $ii.vii million for maintenance costs associated with the existing solution and new integration.

$0.six million for configuration work and manual data conversion, costs to be incurred during preliminary project phase.
$two one thousand thousand to contract with a tertiary-party vendor to design, develop, code, and examination the integration work.
$0.vii million to railroad train ABC's employees to utilize the new solution.
$12 meg total cost, and the three phases of implementation volition take the first vi months of the three-year contract period (one month preliminary, four months evolution, one month postal service-implementation).

The new rules result in the $6 million owing to the software license and the $ii million of application development costs with the third-party vendor to be capitalized and amortized over the life of the understanding. While Effigy 1 only includes a visual graphic for earnings before involvement and taxes (EBIT), note that there's an even more significant impact on earnings before interest, taxes, depreciation, and amortization (EBITDA). The bear on of the ASU 2018-15 clarifications tin be material and meaning. In this example, amortization of the $8 million capital is spread straight-line over two years and six months, the remaining life of the contract once the integration work is completed and the nugget is placed in service.

The clarifications provided past FASB in ASU 2018-fifteen benefit entities in evaluating and bookkeeping for deject-computing arrangements. By and large Accustomed Accounting Principles (GAAP) don't specifically accost the accounting for implementation costs of a hosting arrangement that'due south a service contract. Appropriately, the amendments in this update improve current GAAP because they analyze that accounting and align the bookkeeping for implementation costs for hosting arrangements, regardless of whether they convey a license to the hosted software. ASU 2018-15 has brought the accounting for cloud-computing arrangements more in line with the rules for internally developed software and should encourage companies to more readily consider deject solutions equally an culling when evaluating business software needs.

Bradford A. Hamilton, CMA, CPA, is a retired corporate It controller. He is a member of IMA'south Engineering science Solutions and Practices Committee as well as IMA's Southward Central Indiana Chapter. You can reach Brad at bradford.a.hamilton@cummins.com.