In How to Account for Unexpected Costs Related to COVID-19, we discussed how to account for COVID-19 related expenses and insurance proceeds during the period in which they occur. But what if your organization is still working on financial statements for the year that ended on December 31, 2019? Or what if your fiscal year ended on March 31, 2020?
Subsequent events basics
Under FASB ASC 855, organizations have a responsibility to consider events that occur subsequent to year-end. That responsibility begins at the balance sheet date and continues until financial statements are issued (or available to be issued). As with most financial accounting standards though, organizations don’t need to be concerned with all subsequent events, but rather just those significant to users of the financial statements.
Subsequent events fall into one of two categories, each with its own accounting rules:
- Type I subsequent events provide evidence about conditions that existed on or before the balance sheet date. These events are recognized in the financial statements.
- Type II subsequent events provide evidence about conditions that did not exist on or before the balance sheet date. These events are disclosed, but are not recognized in the financial statements.
An example of a type I event is litigation where the event leading to the claim occurred during one year, but is settled during the following year. The settlement provides subsequent evidence about the value of the then-pending claim at year-end. Therefore, the year-end financial statements should reflect a liability for the amount of the settlement.
Alternatively, if the event leading to the claim actually occurred after year-end, it would be a type II event since the conditions triggering liability did not exist prior to the balance sheet date, and the financial statements should not reflect a liability. Instead, the organization should disclose the nature of the subsequent event and an estimate of its financial impact in a footnote.
COVID-19 and subsequent events
For calendar year 2019, the majority of subsequent events are expected to be type II. However, for fiscal years ending on March 31, 2020, more events may transition to type I as a result of COVID-19.
Examples of items that COVID-19 might affect include:
- Investments — financial markets have had significant declines and volatility in 2020. These types of subsequent declines in market values would normally be type II events.
- Accounts receivable – customers may experience cash flow issues and have difficulty paying 2019 receivables. These are type II events, if the issues were caused by COVID-19. For example, in a normal year (without COVID-19), a customer filing for bankruptcy after year-end may provide evidence about their deteriorating financial condition as of the balance sheet date and the event would be type I. However, with COVID-19, many entities that were stable at year-end are now struggling; in those cases, COVID-19 would be a type II event.
- Asset impairments — most asset impairments are type II events. There may be some variation depending on the specific type and model applied.
- Lease modifications—lessees/lessors that modify the terms of the lease agreement impact entities under both FASB ASC 840 and FASB ASC 842. Since that impact would typically take place in the following year, lease modifications are normally type II events.
- Debt modifications – borrowers experiencing financial difficulties from COVID-19 may have trouble meeting their debt obligations. If a lender grants concessions to a borrower solely because the borrower was experiencing financial difficulties, it would most often be accounted for as a troubled debt restructuring. This would be a type II event and the related accounting would occur at the time of the restructuring. [Note: specifically for financial institutions, the CARES Act provides an option to elect out of troubled debt restructuring accounting for COVID-19 for fiscal years ending in 2020.]
- Income taxes – the CARES Act included several tax provisions to help entities, including the ability to carry back net operating losses (NOLs). According to FASB ASC 740-10-25-47, “the effect of a change in tax laws or rates shall be recognized at the date of enactment.” As a result, this would be a type II event for calendar year 2019 financial statements. NOLs at the balance sheet date would continue to be presented as a deferred tax asset until the date of enactment. Effective for financial statements dated March 31, 2020 and later, entities will book the tax refund as a reduction of income taxes.
- Going concern – COVID-19 may impact an entity’s assessment of its ability to continue as a going concern. Again, however, this would be a type II event.
Type II events, like those listed above, should be disclosed, but not adjusted on an organization’s 2019 financial statement. Based on FASB ASC 855-10-50-2, there are two required parts to the disclosure for significant subsequent events:
- The nature of the event
- An estimate of its financial effect, or a statement that such an estimate cannot be made
In rare cases, an event is considered so significant that organizations are asked to consider adding pro forma financial data in the footnote disclosures.
How can we help?
The impact of COVID-19 changes day by day and hour by hour, and affects many areas throughout the financial statements. Because of that, it can be a challenge for organizations to understand the subsequent events framework under FASB ASC 855, as well as the guidance for each affected area.
You don’t need to go through this alone. CLA is here to know you and help you, and we can help you understand the accounting rules and craft disclosures for the impact of COVID-19. Please contact your CLA representative anytime for more information. We’re here to help you navigate through this.