Under Topic 606, if a contract with a customer meets the criteria in paragraph 606-10-25-1 at contract inception, an entity does not reassess those criteria unless there is an indication of a significant change in facts and circumstances. Some stakeholders have questioned how to perform this evaluation as it relates to the collectibility criterion. Paragraph 606-10-25-5 includes a related example.

When an entity determines that a previously identified contract no longer meets the criteria in Step 1 (identify the contract) of the revenue model, paragraph 606-10-25-7 provides guidance on when to recognize consideration received from the customer as revenue.

Example 4 in paragraphs 606-10-55-106 through 109 illustrates the application of this guidance. In this example, the customer meets the criteria in paragraph 606-10-25-1 at the inception of a multi-year contract. However, in the second year of the contract the customer’s “financial condition declines” and its “access to credit and available cash on hand are limited.” In the example, the entity continues to recognize revenue in the second year and evaluates any receivables recognized for impairment as a result. In the third year of the contract, paragraph 606-10-55-109 indicates that “the customer has lost access to credit and its major customers and thus the customer’s ability to pay significantly deteriorates.” As a result, the entity re-evaluates the criteria in paragraph 606-10-25-1 and concludes that collectibility is no longer probable. Based on that conclusion, the entity does not recognize revenue for that customer in the third year.

Topic 606 emphasizes that the determination of whether there is a significant change in facts or circumstances will be situation-specific and will often be a matter of judgment. Additionally, Example 4 in Topic 606 illustrates that the change in the customer’s financial condition is so significant that it is an indication that the contract is no longer valid, and it fails Step 1 of Topic 606. Example 4 demonstrates that it was not the Board’s intent to capture changes of a more minor nature (that is, those that do not call into question the validity of the contract) that might reasonably fluctuate during a contract term, especially a long-term contract.