Digital transformation is a priority within local government and this has driven an exponential increase in the use of cloud computing technology like Software-as-a-Service (SaaS). However, recent decisions by the IFRS Interpretations Committee (IFRS IC) on the accounting for SaaS arrangements has caused many organisations to re-evaluate their accounting. Clive Brodie, Director of PwC New Zealand, provides advice for accountants on configuration and customisation expenditure.
Costs in a SaaS arrangement
SaaS arrangements typically involve payment of a subscription for the use of software hosted and managed by a service provider, and accessed on demand via the internet.
Expenditure on these arrangements is accounted for as an intangible asset, where the purchaser has the right to control the software (including software received under finance leases). Where the purchaser doesn’t control the software, the expenditure is generally recognised as an expense over the period of the SaaS arrangement.
The situation becomes more complicated when considering expenditure on the configuration and customisation that is often required in order for an organisation to be able to use the cloud-based software.
This is the area the IFRS IC has issued guidance on.
Applying the decisions
The decision to capitalise or expense depends on whether the costs associated with configuration and customisation meet the definition of an asset controlled by the purchaser. If they do, then the expenditure is capitalised as an intangible asset which is then gradually written off over its useful life.
If they don’t meet the definition of an intangible asset, the organisation should consider which party provides the configuration and customisation services, and if the services are distinct from the SaaS arrangement. Generally:
- if the configuration and customisation is performed by the organisation itself or a third party unrelated to the SaaS provider (and therefore they are distinct from the SaaS arrangement), the expenditure should be recognised as an expense as the configuration and customisation is performed; otherwise
- if the services are performed by the SaaS provider (or its subcontractor) and they are distinct, the expenditure should be expensed when the services are received. However, if they are not distinct the expenditure should be capitalised as a prepayment for the SaaS service and expensed over the term of the SaaS arrangement.
Key message for finance teams
Previously many organisations capitalised expenditure on configuration and customisation of SaaS technology as an intangible asset, without performing an assessment of whether the expenditure met the definition of an intangible asset they control. As a result of the IFRS IC assessment, configuration and customisation expenditure may now need to be expensed immediately, or treated as a prepayment and expensed over the expected life of the SaaS arrangement. This could have a significant impact on surplus or deficit and, consequently, significantly influence how SaaS arrangements are structured going forward.
Changes made to retrospective accounting within a reasonable period of time post the IFRS IC announcement are treated as a voluntary change in accounting policy, rather than the correction of an accounting error.
While the IFRS IC decision is directly relevant for entities applying NZ IFRS, in the absence of any specific Public Benefit Entity Standards to account for such arrangements, organisations should develop an accounting policy by making reference to the IFRS IC decision.
By Clive Brodie Director, PwC New Zealand