In the first piece in this two-part series, we looked at how companies that report to U.S. GAAP and IFRS standards need to address the requirements of Accounting Standards Codification 606 (ASC 606) about reporting sales commissions paid on subscription services and goods. Many, but not all, of these commissions and incentives need to be amortized over the anticipated life of the contract rather than expensed. This change gives rise to a myriad of issues that sales operations and finance teams need to resolve. In this piece, we provide guidance on some of the issues that they must address.
When do I have to be compliant?
All annual and interim reports of companies reporting to U.S. GAAP and IFRS standards filed after December 15, 2017, must comply with the new requirements. So if your financial year ends December 31, 2017, you have until the end of this year to put a solution in place.
Can I just change the way I compensate my sales people?
You could—but it won’t help because ASC 606 covers all types of incentive plans. In fact, the only way to sidestep the regulation is by doing away with commissions altogether and paying your sales team entirely by salary, which is not something many organizations would consider since compensation is key to driving the right sales execution and behaviors.
How far into the future should I amortize commissions?
Regardless of when you pay your sales team for reporting purposes, commissions paid to customer-facing salespeople need to be spread across the period when the customer receives the benefit of the service or goods. Therefore, there are a host of factors to consider, such as the length of the contract and the anticipated customer churn rate, so that in certain circumstances (such as when the average lifetime of a customer is two or more years), a company may decide to amortize commissions over periods longer than the initial contract term. However, if sales commissions are also paid for contract renewals, then the commissions paid to acquire the contract should be limited to the initial contract term.
You can see that it is already getting complicated—and we haven’t even mentioned how to treat tiered commissions or mid-term upgrades. There is a lot to consider here, and much of it is open to interpretation.
Where do I go for help?
Thankfully, IFRS and FASB have produced excellent guidance, such as the paper “Incremental costs of obtaining a contract,” that will help sales and finance leaders identify what they need to do to comply with the regulation. But remember to validate your interpretation of ASC 606 with your auditors well before you start to implement the necessary changes. Because they are responsible for signing off your published accounts, you can expect your auditors to take a deep dive into how sales commissions are treated for accounting purposes, as well as the systems used to support the process.
How do I link sales incentive reporting with finance?
Research reported in a recent Anaplan and CSO Insights white paper found that 51.5 percent of companies still handle incentive compensation using spreadsheets. This makes complex tasks, such as sharing data with finance, particularly problematic since spreadsheets are laborious to work with and notoriously error-prone. Auditors typically scrutinize spreadsheets very closely.
In contrast, an incentive compensation management solution such as Anaplan captures all the relevant characteristics of a contract, automatically calculates incentive payments, and allocates amounts according to the required accounting treatment. Moreover, you can automate the posting of all required information into the company’s accounting system using any schedule, form, and format the accounting department requires.