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Transactions involving the sale of real estate are often complex and generally material to the financial statements in which they are reflected. Each transaction has its own unique characteristics; determining the proper accounting and reporting for these transactions requires an understanding of the fundamental economic considerations that drive the transaction - from both the buyer's and seller's point of view.
In addition, accounting for real estate transactions is often affected by subtleties not readily apparent, the most frequent of which is some type of seller's continuing involvement. Profit recognition can be materially affected by apparently innocuous involvement. When situations permit, we should begin analyzing transactions in their draft form to understand the economics and to enable us to provide meaningful commentary.
Recognition of a sale from an accounting standpoint is not necessarily coincident with the legal transaction. Furthermore, profit recognition, separate and apart from sale recognition, is based upon another set of parameters which under certain circumstances may be achieved either prior to or after the consummation of a legal closing.
ASC 360-20 is the primary authoritative guidance addressing sales and profit recognition of real estate. ASC 360-20-15-3 expands the definition of real estate and the scope of transactions for which ASC 360-20 applies. The overriding concern throughout this guidance is to determine that collectability of the sales price is reasonably assured and that the seller has transferred the risks and rewards of ownership to the buyer. ASC 360-20 applies to all sales of real estate, including the following transactions and activities described in ASC 360-20-15-3:
1.
All sales of real estate, including real estate with property improvements or integral equipment. The terms property improvements and integral equipment refer to any physical structure or equipment attached to the real estate that cannot be removed and used separately without incurring significant cost. Examples include an office building, a manufacturing facility, a power plant, and a refinery.
2.
Sales of property improvements or integral equipment subject to an existing lease of the underlying land should be accounted for in accordance with ASC 360-20-40-56 through ASC 360-20-40-59.
3.
The sale or transfer of an investment in the form of a financial asset that is in substance real estate (see discussion below).
4.
The sale of timberlands or farms (that is, land with trees or crops attached to it).
5.
Real estate time-sharing transactions (see ASC 978).
6.
Loss of a controlling financial interest (see 810-10) in a subsidiary that is in substance real estate because of a default by the subsidiary on its nonrecourse debt.
The accounting for retail land sale transactions is discussed in ASC 976. Specifically, ASC 976-10-15-4 provides examples of real estate sales; these examples include "sales of corporate stock of enterprises with substantial real estate, sales of partnership interests, and sales of time-sharing interests if the sales are in substance sales of real estate." ASC 976-10-15-4(c) also states that "an example of a sale of a partnership interest that is in substance a sale of real estate would be an entity forming a partnership, arranging for the partnership to acquire the property directly from third parties, and selling an interest in the partnership to investors who then become limited partners."
ASC 360-20 also addresses situations where full accrual profit recognition and sale accounting are not appropriate.
As set forth in ASC 360-20-15-10, the provisions of ASC 360-20 do not apply to transactions that involve the following:
1.
The sale of only property improvements or integral equipment without a concurrent (or contemplated) sale of the underlying land, except for sales of property improvements or integral equipment with the concurrent lease (whether explicit or implicit in the transaction) of the underlying land to the buyer.
2.
The sale of the stock or net assets of a subsidiary or a segment of a business if the assets of that subsidiary or that segment, as applicable, contain real estate, unless the transaction is, in substance, the sale of real estate.
3.
Exchanges of real estate for other real estate (see ASC 845).
4.
The sale of securities that are accounted for in accordance with ASC 320 (sales of such securities are addressed in ASC 860).
5.
Retail land sales.
6.
Natural assets such as those that have been extracted from the land (for example, oil, gas, coal, and gold). Mineral interests in properties include fee ownership or a lease, concession, or other interest representing the right to extract oil or gas subject to such terms as may be imposed by the conveyance of that interest. Mineral interests in properties also include royalty interests, production payments payable in oil or gas, and other nonoperating mineral interests in properties operated by others. See ASC 932.
Gain recognition by an investor is only permitted when that investor contributes real estate to a venture, withdraws cash, and has no forms of continuing involvement that would require profit deferral. The contribution of the real estate would not be considered a revenue recognition event if the source of the cash to fund the cash withdrawal is a financing of the contributed real estate rather than contributions of other investors, as the criteria in ASC 970-323-30-3 through ASC 970-323-30-5 are not satisfied. This transaction would be equivalent to a contribution of real estate that had been leveraged immediately prior to the contribution by the contributing investor.
ASC 805 and ASC 810 were designed to provide comprehensive approaches to accounting for business combinations and the consolidation of subsidiaries. Subsequent to the issuance of these standards, questions were raised about the applicability of ASC 810 to partial dispositions of entities whose principal operations are real estate.
ASC 810-10-40-3A clarifies that partial sales of in substance real estate are excluded from the scope of ASC 810 irrespective of whether the real estate underlying the transaction is considered a business. These transactions should continue to be accounted for in accordance with ASC 360-20 or ASC 976-605.
The exclusion applies to partial sales of businesses and groups of assets that are in-substance real estate. For example, assume a company has a 90% interest in a partnership whose only asset is operating real estate (e.g., an office building for rent). The company then sells a portion of its interest such that the company now retains only a 30% interest in the partnership. This transaction would fall within the ASC 810 exclusion and should be accounted for in accordance with ASC 360-20 or ASC 976-605. However, the accounting for other change-of-control events that involve deconsolidation of businesses that are in-substance real estate should follow ASC 810. Such events can include the expiration of a contractual agreement that gives control of a subsidiary to the parent; the subsidiary's issuance of shares that reduces the parent's ownership interest below the control threshold; the subsidiary becoming subject to the control of a government, court, administrator, or regulator; a VIE reconsideration event; or a re-evaluation of the primary beneficiary of a VIE.
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