Accounting for Sales Commissions: What You Need to Know

ASC 606 (IFRS 15) is well underway. Public companies have been under compliance since December 2017, and private companies have been under compliance since December 15, 2018. Under the new revenue recognition standard, companies must change the way they report revenue in their accounting for sales commissions.

On Oct 17, we held a customer roundtable with Xactly Commission Expense Accounting (CEA) customers. They shared the biggest challenges they've faced and advice for ASC 606 implementation. To help you understand the basics of accounting for sales commissions, here's your need-to-know overview of ASC 606 (IFRS 15).

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Guide

Sep 11, 2019

Cost Capitalization of Commissions Under ASC 606

Changing Laws Regarding Revenue Recognition

In the United States, the Financial Accounting Standards Board (FASB) released a new Accounting Standards update regarding revenue recognition. The new revenue recognition standard impacts how companies need to account for the associated commissions expenses. Under the standard, companies must track commission expenses at a more granular level and produce an audit trail that demonstrates:

• The term of the contract and how any given commission in the customer relationship benefits your company as the seller
• The right amount of time over which to amortize the expense
• The impact of all commissions paid

As a result, companies struggle to understand the new regulations fully, and it is recommended that organizations begin their transition as soon as possible. (You can find additional information on the Revenue Recognition Requirement changes here).

How do commission expenses get classified?

This part is easy—it is the “S” in SG&A: Selling, General and Administrative expense. SG&A includes the direct and indirect costs associated with selling a given product. Commissions are part of the direct costs that occur when the product is sold, while the salaries that sales reps earn are in the indirect costs of SG&A.

Understanding The ASC 606 Matching Principle

The matching principle is the alternative to cash basis accounting, where the company recognizes the expense based on when it is paid. It requires companies to book expenses during the period they are incurred, not necessarily when the expense actually happened.

Accounting for sales commissions requires companies to book the commission expenses when the company books the revenue from the deal the rep closed. So if the company has to hold off on booking the revenue, then they also need to hold off on booking the expenses. Commissions can then become a deferred expense.

Getting the Right Data in for Accounting for Sales Commissions

When it comes to sales commission treatment, companies will need to be able to separate out the commission expenses for different revenue lines. This means you must separate a commission for a product whose revenue is booked on schedule from the commission for the delivery that books its revenue on a different time frame. There are several steps to take to help with the data challenges of the new standards.

In addition, you need to examine your commissions data in greater detail, which has been challenging for companies implementing ASC 606. In order to view your data in detail, you need automated sales performance management (SPM) software. Additionally, you need to ensure your sales data is accurate. To do this, be sure that your incentive compensation management (ICM) solution can integrate with any ERP systems or other tools you are using to track sales performance and compensation.

Key Points to Remember:

1. Start rallying your implementation team as soon as possible. ASC 606 compliance requires more time than expected to organize and compile the right data. The more time you have to implement accounting for sales commissions, the better.
2. Expense commission costs over the term for which the company receives benefits. For example, this could be the contract term for some companies, but this isn’t the case for most companies.
3. Don't use relevant effort to determine the period of amortization of the revenue or the matched commission expenses. Rather, determine amortization by the time in which the related product will be delivered, not the level of sales effort.
4. Lastly, find technology that helps organize your data at the level of detail needed for ASC 606 compliance. Automated SPM tools can ease the implementation process and increase sales performance. See how Xactly CEA can help adhere to ASC 606 and ease implementation in our webinar "Meet Commission Accounting Requirements Under ASC 606 (IFRS 15)."

With the new revenue recognition rules, companies need to get their data and systems in order ASAP. Managing the disparate data flows, tracking the commissions at the line-item level, and easily reporting on the different streams to match can be configured in Xactly to match the company’s needs.