A software company collects $400,000 at signing on a bundled cloud contract and books all $400,000 as revenue. The auditor books only the piece already delivered and defers the rest, because cash at signing is not revenue earned. A church across town accepts a $100,000 grant it must repay unless it breaks ground on a community center next year, then records the full $100,000 as contribution revenue. The auditor records zero until the church clears that barrier. Both arguments cite GAAP.
ASC 606 replaced industry-specific guidance with a single five-step model for exchange transactions. ASC 958-605 governs nonreciprocal contributions to nongovernmental not-for-profits, a fundamentally different recognition path. Every revenue question on FAR maps to one or the other.
Five criteria: parties approved and committed, rights identifiable, payment terms identifiable, commercial substance, and collection probable (~75% under US GAAP).
HIGH-FREQUENCY: If collectibility is not probable, no contract exists under ASC 606. No revenue until the entity has no remaining obligations and consideration is nonrefundable, the contract is terminated, or criteria are subsequently met.
Common mistakes
- Recognizing revenue before Step 1 is satisfied. Poor-credit customer with no collection history. No contract exists under ASC 606. Trap answer: full contract value as revenue. Correct answer: $0 until criteria are met.
- Using the wrong variable consideration method. Expected value suits portfolios and continuous distributions. Most likely amount suits binary outcomes. Computing $85,000 (probability-weighted) when the binary milestone calls for $100,000 (most likely amount) misapplies the method.
- Forgetting the constraint. Including a $200,000 performance bonus at inception when significant uncertainty exists about achievement. The constraint limits the transaction price to amounts where significant reversal is not probable, exclude the uncertain piece until uncertainty resolves.
Bottom line
- ASC 606 five-step model (identify contract, identify performance obligations, determine transaction price, allocate, recognize at control transfer); no contract means no revenue and Step 1 collectibility must be probable (~75%)
- Distinct requires standalone value AND separately identifiable; both are needed for a separate performance obligation
- Variable consideration uses expected value (portfolios) or most likely amount (binary), then is constrained to amounts where significant reversal is not probable
- Significant financing component (timing differs by more than one year) splits revenue at present value from interest income; noncash consideration measured at FV at contract inception
Exam shortcut
For the five steps, two trap families recur. First, watch for problems that look like ASC 606 but fail Step 1, poor-credit customers, side agreements that destroy commercial substance. Second, on Step 4, sum SSPs first, then distribute proportionally; if one answer equals the full contract price and another equals a raw SSP, both are traps.
The full lesson (about 4,737 words, 32 min read) adds 7 worked examples, all 9 common mistakes, a self-check, free in the app.
Learning objectives
- III.C1
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