Banks both big and small may need to begin the difficult task of changing certain long-standing revenue recognition practices as a result of the new revenue recognition standard jointly released last year by the Financial Accounting Standards Board (FASB) and International Accounting Standards Board (IASB) (collectively, the boards).

How much a financial institution will be affected depends on its business activities and the terms of its contracts. Although the full effects of the standard are still being analyzed, a bank’s revenue recognition practices for credit card arrangements and sales of other real estate owned (OREO) are likely to fall into the category of items to be addressed. Conversely, the timing of revenue recognition for various bank fees associated with administering customer deposit accounts (e.g., monthly service charges, ATM fees, wire transfer charges) isn’t expected to be significantly affected.

Many of a bank’s other revenue streams (e.g., interest income, gains and losses on financial instruments) are outside the scope of the new standard.

Banks may want to monitor ongoing discussions of the boards’ Joint Transition Resource Group for Revenue Recognition (TRG) and a depository and lending institutions task force the American Institute of Certified Public Accountants (AICPA) has formed to focus on industry issues. The boards created the TRG to help determine whether more implementation guidance or education is needed.

Transition and effective date

The new standard is effective for public entities for fiscal years beginning after December 15, 2016, and for interim periods therein. Under US GAAP, early adoption is prohibited for public entities. For non-public entities, the new standard is effective for fiscal years beginning after December 15, 2017, and interim periods within fiscal years beginning after December 15, 2018. Those entities may also elect to adopt the guidance as early as the public entity effective date. The boards provided certain practical expedients to make it easier for entities to use a full retrospective approach.

Scope in simple words

Banks meeting the definition of a public business entity will also have to make public entity disclosures which are more extensive than those for non-public entities.

Banking regulators are apparently evaluating whether certain private banks meet FASB’s definition of a public business entity.

Some common services provided by banks which could be considered in scope of the standard include:

1. Administration services for customer deposit accounts (e.g., ATM fees, wire transfer fees and checking account maintenance fees)
2. Cash management and payment processing services
3. Trust and custody services
4. Certain financial asset servicing arrangements
5. Credit card interchange

Challenges abound

A cardholder enters into a contract with the card issuer (the cardholder contract) which governs terms and conditions of the cardholder’s use of the card. The merchant enters into a separate contract with the merchant acquirer, which may be the card issuer or another entity within the card issuer’s credit card network. That entity governs terms and conditions under which the merchant will accept use of a credit card in the sale of the merchant’s goods and services (the merchant contract).

The way we see it, some banks may determine a portion of the annual credit card fee relates to a rewards program or other services (e.g., airport lounge access, concierge services or car rental insurance) and account for that portion of the annual fee under the revenue model.

A card issuer likely will not combine the cardholder and merchant contracts because those aren’t entered into with the same customer, and the cardholder and merchant generally are not related parties. Even if the card issuer also serves as the merchant acquirer and the cardholder is a separate and unrelated party from the merchant, the contracts will not be combined.

Cash back rewards may reduce the transaction price because they are a consideration payable to a customer if the cardholder is the customer.

Many credit card reward programs provide for cash awards or statement credits as a redemption option. The standard does not address situations when a contract provides the customer with discretion over the type of consideration (e.g., cash or noncash) to be received. Some credit card issuers also provide promotional offers wherein a credit card holder may be able to earn additional cash back rewards for certain types of purchases within a predefined time frame. The consideration payable to the customer in these situations may exceed the transaction price. The standard does not address such situations.

Next steps

Banks should perform a preliminary assessment on possible issues as a result of the new guidance as soon as possible to determine how to implement the new standard. While issues will vary, some may face significant changes in revenue recognition. As noted earlier, it would be wise for all financial institutions to monitor the activities of the TRG and AICPA depository and lending institutions task force for any discussions related to this topic. And, as always, tune in here to keep yourself up to date.