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3.5 Retirement (AROs)
Publication date: 30 Jun 2022
us PP&E and other assets guide
ASC 410-20-40-1 discusses the accounting for the derecognition of asset retirement obligations.
Typically, settlement of an asset retirement obligation is not required until the associated asset is retired. However, certain circumstances may exist in which partial settlement of an asset retirement obligation is required or performed before the asset is fully retired. The nature of asset retirement obligations in various industries is such that the obligations are not necessarily satisfied when the current operation or use of the asset ceases. These obligations can be settled during operation of the asset or after the operations cease. The timing of the ultimate settlement of a liability is unrelated to and should not affect its initial recognition in the financial statements provided the obligation is associated with the retirement of a tangible long-lived asset.
Once an asset associated with an ARO is retired or as the remediation of the ARO occurs, a reporting entity should derecognize the ARO. If settlement occurs over time, derecognition of the ARO should occur over time. For example, if a nuclear plant is retired in January, but will take five months to remove all contaminated materials, the ARO would be derecognized over the five months using a systematic method consistent with the remaining liability.
When AROs are settled using internal resources, it is not uncommon for a gain to be recognized upon settlement of the retirement obligation. This is because AROs are required to be recognized and measured at fair value, incorporating market participant assumptions such as third-party service providers’ profit margins. As a result, when an ARO is settled internally, the gain recognized upon settlement will generally approximate (1) the normal third-party profit margin and (2) the market risk premium assumed when estimating the fair value of the ARO.
Question PPE 3-10
If a reporting entity enters into an operating lease for equipment needed to perform asset retirement activities for an existing ARO, should the reporting entity adjust the existing ARO liability as part of the initial recognition of the operating lease?
If a reporting entity enters into an operating lease for equipment needed to perform asset retirement activities for an existing ARO, should the reporting entity adjust the existing ARO liability as part of the initial recognition of the operating lease?
PwC response
No. The reporting entity has two separate obligations:
1. the legal obligation associated with the retirement of the long-lived asset under ASC 410-20, and
2. the lease liability representing its obligation to make future payments for the right to use the leased equipment under ASC 842.
The obligation associated with the retirement of the long-lived asset is not settled until the asset retirement activities occur. Leasing the equipment that will be used to satisfy the ARO does not reduce the ARO since it is not an asset retirement activity.
This treatment is consistent with the accounting when equipment is purchased for the purpose of performing asset retirement activities. When equipment is purchased, a reporting entity records an asset for the equipment. The ARO liability would be reduced as the purchased equipment is used as part of asset retirement activities (i.e., through depreciation of the equipment), not simply through the ownership of the equipment.
Question PPE 3-11
If a reporting entity enters into an operating lease for equipment that is used to perform asset retirement activities for an existing ARO, can the reporting entity reduce the existing ARO liability by the related lease costs (i.e., operating lease expense)?
If a reporting entity enters into an operating lease for equipment that is used to perform asset retirement activities for an existing ARO, can the reporting entity reduce the existing ARO liability by the related lease costs (i.e., operating lease expense)?
PwC response
Yes. If a leased asset is used as part of the reporting entity’s asset retirement activities, the periodic lease costs (i.e., operating lease expense) may be recorded as a reduction to the ARO liability.
This treatment is consistent with the illustrative example in ASC 410-20-55-37 through ASC 410-20-55-38, in which the payroll costs incurred for employees conducting asset retirement activities are recorded as a reduction of the ARO.
This treatment is also consistent with a scenario in which equipment used in asset retirement activities is purchased by the reporting entity. The ARO liability would be reduced each period through the depreciation of the purchased equipment as part of its use in asset retirement activities.
PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details. This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors.
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