The post-acquisition accounting of goodwill has been challenging for the Financial Accounting Standards Board (FASB), because the accounting profession doesn’t collectively hold clear views on the matter. In fact, the appropriate accounting treatment of acquired goodwill — whether to immediately write it off, to capitalize and amortize it, or to capitalize and test it for impairment — has been debated since the 1940s. In October 2018, the FASB added a project on the subsequent accounting of goodwill to its technical agenda.

• Under recently issued amendments, an entity should perform its annual or interim goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount.
• If the amortization period had changed, the unamortized cost should be allocated over the revised estimate of the asset’s remaining useful life subject to a maximum of 40 years.
• Under the proposed amendments, an entity would perform its annual or any interim goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount.
• There was not unanimous support to eliminate Step 2 in its entirety, and some public entities have expressed concern about the ongoing implications of this change.

Navigating goodwill impairment testing guidance

While some public companies may initially embrace the simplification, some may recognize their fair value will now be equal to the carrying amount post impairment. The one-step test performed using an equity value approach can result in a different amount of goodwill impairment than the enterprise value approach. This is specifically relevant to cases in which an entity has a zero or negative carrying amount for any of its reporting units.

The first step requires an entity to compare each reporting unit’s carrying value, including goodwill, and its fair value. If the carrying value exceeds the fair value, then the entity must perform the second step, which is to compare the implied fair value of goodwill to its carrying value, and record an impairment charge for any excess carrying value over implied fair value. Gordon Brothers is a multi-discipline, full service valuation firm that regularly performs impairment testing of goodwill, intangible assets, and fixed assets. Please contact fasb drops step 2 from goodwill impairment test us if you have any questions about impairment testing or valuation issues concerning financial reporting.

Goodwill Impairment Accounting

To address the circular nature of the carrying value exceeding the fair value, a simultaneous equation is required to adjust the goodwill impairment and deferred tax impact when tax deductible goodwill is present. In practice, we have seen companies oftentimes overlook the tax implications on the goodwill impairment model. Effective coordination between accounting and tax professionals can help appropriately reflect goodwill and deferred tax balances in the financial statements. The current guidance simplified the goodwill impairment test to address concerns related to the old guidance’s cost and complexity by eliminating Step 2 (see diagram) of the prior goodwill impairment test. Step 2 required a hypothetical purchase price allocation to measure the amount of a goodwill impairment.

Financial Statements Definition, Types, & Examples

Under the proposed amendments, an entity would perform its annual or any interim goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. Generally, an entity would recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value. In the Step 2 test, an entity performs a hypothetical purchase price allocation to determine the amount of an impairment. With the elimination of Step 2, entities will now record impairment based solely on Step 1, which compares the fair value of a reporting unit with the carrying amount.

APB 17 was quite vague about the issue of impairment, stating that companies should review amortization periods continually to determine whether subsequent events and circumstances warranted an adjustment to the amortization period. If the amortization period had changed, the unamortized cost should be allocated over the revised estimate of the asset’s remaining useful life subject to a maximum of 40 years. Simultaneously, estimates of the intangible asset’s value and its future benefits may indicate that the unamortized cost should be significantly reduced by a deduction in determining net income. In other words, if the value of the intangible asset has dropped, it may be necessary to take an impairment charge against earnings.

For best practices on efficiently downloading information from SEC.gov, including the latest EDGAR filings, visit sec.gov/developer. You can also sign up for email updates on the SEC open data program, including best practices that make it more efficient to download data, and SEC.gov enhancements that may impact scripted downloading processes. a The carrying value and fair value are presented on an enterprise basis (i.e., inclusive of debt and equity).b The fair value of the asset or liability is estimated to be equal to book value. For a more in-depth conversation about how VRC can help your business meet the current annual requirements, please feel free to contact your VRC professional. There was not unanimous support to eliminate Step 2 in its entirety, and some public entities have expressed concern about the ongoing implications of this change. Accounting Today is a leading provider of online business news for the accounting community, offering breaking news, in-depth features, and a host of resources and services.

The new guidance may result in goodwill impairment charges that would not have been recorded under prior GAAP. When companies recognize goodwill impairment charges, the circumstances may be such that they need to assess impairment for other assets subject to trigger-based events. The elimination of Step 2 for public companies is the next step in the process to simplify goodwill impairment testing. In contrast to the accounting alternative for private companies, public companies are not allowed to amortize goodwill and still must test for impairment at least annually, with more frequent testing in the case of financial duress, changed circumstances or another triggering event.

Retaining nontraditional accounting students

Many companies may well consider early adoption of the new guidance due to the complexity of the current guidance. Events that may trigger goodwill impairment include deterioration in economic conditions, increased competition, loss of key personnel, and regulatory action. The definition of a reporting unit plays a crucial role during the test; it is defined as the business unit that a company’s management reviews and evaluates as a separate segment.

Per accounting standards, goodwill is recorded as an intangible asset and evaluated periodically for any possible impairment in value. With the adoption of SFAS 142, the FASB replaced the amortization of goodwill with annual impairment testing at the reporting unit level. In deliberations, the FASB had previously leaned toward requiring that all entities apply an impairment-with-amortization model. This is where an entity would amortize goodwill over a 10-year default period that would be limited to a 25-year cap. Under the proposed changes, reassessing the amortization period would be prohibited, and goodwill would be tested for impairment only upon a triggering event.

APB 17 cautioned entities that a single loss year or even a few loss years combined do not necessarily justify an impairment charge for all (or a large part) of the unamortized cost of intangible assets. Under the current guidance, if the equity value approach is used for a reporting unit with a negative carrying amount, the reporting unit generally will not have an impairment since the reporting unit’s fair value will always be greater than its carrying value. While not a requirement, the FASB has indicated that it might be appropriate to change from the equity premise to the enterprise premise for a reporting unit with a negative carrying amount if it results in a more representative impairment evaluation under the quantitative assessment. The test private businesses have to perform to determine whether goodwill has lost value was also simplified in 2014.

A company may still perform the optional qualitative assessment for a reporting unit to determine if it is more likely than not that goodwill is impaired. However, the ASU eliminates the requirement to perform a qualitative assessment for any reporting unit with zero or negative carrying amount. However, for a reporting unit with a zero or negative carrying amount, the ASU adds a requirement to disclose the amount of goodwill allocated to it and the reportable segment in which it is included. Given the current challenging economic environment and its extreme uncertainties, it is important to emphasize that all companies are required to assess the need to test goodwill and intangible assets when a triggering event occurs.

If the carrying value exceeds the fair value, the entity is to recognize a loss equal to the excess of the carrying value over the fair value subject to a limit equal to the carrying value of the asset. Entities are required to test indefinite-lived intangible assets for impairment annually or more frequently if events or circumstances indicate that it may be more than likely that the subject intangible assets are impaired. ASC 805 requires an acquirer to recognize all of the assets acquired and all of the liabilities assumed, as well as any minority interest (in acquisitions of less than 100 percent of the target company’s stock), at their respective fair values at the acquisition date. However, in no case will the impairment charge be greater than the carrying amount of the goodwill the reporting unit reports. FASB 142 notes that the implied fair value of goodwill should be determined in the same manner as the amount of goodwill recognized in a business combination.

Standards Evolve for Goodwill & Intangible Assets Impairment Testing

• If the goodwill asset becomes impaired by a decline in the value of the asset below the purchase price, the company would record a goodwill impairment.
• If the fair value is less than the carrying amount, the entity will record an impairment charge equal to the difference (not to exceed the carrying amount of goodwill).
• The one-step method may also result in understatement of goodwill impairment if the fair value of liabilities is less than their carrying amounts, for example, due to deterioration of its creditworthiness.
• Company BB acquires the assets of company CC for $15M, valuing its assets at $10M and recognizing goodwill of $5M on its balance sheet.
• FASB also eliminated the requirements for any reporting unit with a zero or negative carrying amount to perform a qualitative assessment, and if it fails that qualitative test, to perform Step 2 of the goodwill impairment test.
• With the adoption of SFAS 142, the FASB replaced the amortization of goodwill with annual impairment testing at the reporting unit level.

Public business entities that are not SEC filers should adopt the standard for annual or interim goodwill impairment tests in fiscal years beginning after Dec. 15, 2020. The one-step method may also result in understatement of goodwill impairment if the fair value of liabilities is less than their carrying amounts, for example, due to deterioration of its creditworthiness. In this scenario, the entity may not be required to, and does not have any incentive to, record any impairment charges for its goodwill. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017.

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An entity should recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value, but the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. U.S. generally accepted accounting principles require companies to review their goodwill for impairment at least annually at a reporting unit level. Financial statement preparers also still have the option to perform the qualitative assessment for a reporting unit to determine if the quantitative impairment test is necessary. Early adoption has been common and is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017.