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Reporting entities often collect amounts from customers that must be remitted to a third party (for example, collecting and remitting taxes to a governmental agency). Taxes collected from customers could include sales, use, value-added, and some excise taxes. Amounts collected on behalf of third parties, such as certain sales taxes, are not included in the transaction price as they are collected from the customer on behalf of the government. The reporting entity is the agent for the government in these situations.
Taxes that are based on production, rather than sales, are typically imposed on the seller, not the customer. A reporting entity that is obligated to pay taxes based on its production is typically the principal for those taxes, and therefore recognizes the tax as an operating expense, with no effect on revenue.
Management needs to assess each type of tax, on a jurisdiction-by-jurisdiction basis, to conclude whether to net these amounts against revenue or to recognize them as an operating expense. The intent of the tax, as written into the tax legislation in the particular jurisdiction, should also be considered.
The name of the tax (for example, sales tax or excise tax) is not determinative when assessing whether the reporting entity is the principal or the agent for the tax. Whether or not the customer knows the amount of tax also does not necessarily impact the analysis. Management needs to look at the underlying characteristics of the tax and the tax laws in the relevant jurisdiction to determine whether the reporting entity is primarily obligated to pay the tax or whether the tax is levied on the customer. This could be a significant undertaking for some reporting entities, particularly those that operate in numerous jurisdictions with different tax regimes.
Indicators that taxes are the responsibility of the reporting entity and therefore should be recorded as an expense (as opposed to a reduction of transaction price) include but are not limited to:
  • The triggering event to pay the tax is the production or the importation of goods. Conversely, when the triggering event is the sale to a customer, this might indicate that the reporting entity is collecting the tax on behalf of a governmental entity.
  • The tax is based on the number of units or on the physical quantity (for example, number of cigarettes or volume of alcoholic content) produced by the reporting entity rather than the selling price to customers.
  • The tax is due on accumulated earnings during a period of time as opposed to each individual sale transaction.
  • The reporting entity cannot claim a refund of the tax in the event the related inventory is not sold or the customer fails to pay for the goods or services being sold.
  • The reporting entity has no legal or constructive obligation to change prices in order to reflect taxes. Conversely, when the tax is clearly separate from the selling price and a change in the tax would result in an equivalent change in the amount passed through to the customer, this might indicate that the reporting entity is collecting the tax on behalf of the government.

The above indicators should be considered along with the intended purpose of the tax, as written into the tax legislation in the particular jurisdiction. The existence (or nonexistence) of one of the above indicators may not be determinative on its own.
Example RR 10-6 and Example RR 10-7 illustrate the assessment of whether a tax should be presented as an expense or a reduction of transaction price.
EXAMPLE RR 10-6

Presentation of taxes – reporting entity is principal for the tax
SpiritsCo is a global producer and distributor of branded alcoholic spirits. SpiritsCo pays an excise duty based on the value as well as the volume of products that leave a bonded warehouse. The movement of products from the bonded warehouse for customs clearance is the triggering event of the obligation to pay excise duty. In case a customer fails to make payment or if products are not sold, SpiritsCo cannot claim a refund of the excise duty it has paid.
SpiritsCo has no legal or constructive obligation to reflect any change of the rate of excise duty in the selling price of products. An increase in the rate of excise duty can lead SpiritsCo to increase its selling price, but such increases are a commercial decision and would not be automatic. The tax is not separately presented on the invoice.
How should SpiritsCo account for the excise duty?
Analysis
SpiritsCo is the principal for the excise duty as the triggering event is the movement of products (as opposed to sales to customers), SpiritsCo makes a decision whether to adjust the selling price of products to pass the tax on to the customer, and SpiritsCo cannot claim a refund in case of a customer’s failure to pay. SpiritsCo should therefore recognize the excise duty as an expense as opposed to a reduction of transaction price.
EXAMPLE RR 10-7

Presentation of taxes – tax is collected on behalf of a governmental entity
Manufacturer sells widgets to customers in various jurisdictions. In a particular jurisdiction, Manufacturer pays a sales tax calculated based on the number of widgets sold. The triggering event of the obligation is each individual sale to a customer. The tax is separately identified on the invoice to the customer and any increase in the tax rate would result in an equivalent increase of the tax charged to the customer. Manufacturer receives a refund of the tax if the receivables are not collected.
How should Manufacturer account for the excise duty?
Analysis
Manufacturer is likely collecting the sales tax as an agent on behalf of a governmental agency. The triggering event is sales to customers, the tax is separately charged to customers, and Manufacturer receives a refund if the receivables are not collected. Manufacturer should therefore exclude the sales tax collected from customers from the transaction price, and no expense would be recognized for the tax. The collection and payment of the tax would only impact balance sheet accounts.

10.6.1 Accounting policy election for taxes collected from customers

In accordance with ASC 606-10-32-2A, reporting entities may present, as an accounting policy election, amounts collected from customers for sales and other taxes net of the related amounts remitted. If presented on a net basis, such amounts would be excluded from the determination of the transaction price in the revenue standard. Reporting entities that make this election should comply with the general requirements for disclosures of accounting policies. Reporting entities that do not make this election or collect taxes from customers that are outside the scope of the election should evaluate each type of tax as described in RR 10.5.

Excerpt from ASC 606-10-32-2A

An entity may make an accounting policy election to exclude from the measurement of the transaction price all taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue-producing transaction and collected by the entity from a customer (for example, sales, use, value added, and some excise taxes). Taxes assessed on an entity’s total gross receipts or imposed during the inventory procurement process shall be excluded from the scope of the election. An entity that makes this election shall exclude from the transaction price all taxes in the scope of the election and shall comply with the applicable accounting policy guidance, including the disclosure requirements.

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