United States

Net capital treatment: Deferred taxes for aspect of ASC 606 adoption

INVESTMENT INDUSTRY INSIGHTS  | 

Upon the adoption of Topic 606 of the Financial Accounting Standards Board’s Accounting Standards Codification (ASC), “Revenue from Contracts with Customers,” broker-dealers and futures commission merchants (FCM) generally are required to capitalize certain incremental costs of obtaining and fulfilling customer contracts as defined in ASC 340-40, “Other Assets and Deferred Costs – Contracts with Customers,” which historically have been expensed. If the ASC 606 requirements for capitalization are met, a new asset is recognized. Also, a related new deferred tax liability may be created as a result of the difference between U.S. generally accepted accounting principles and tax accounting under the Internal Revenue Code for the costs of obtaining and fulfilling customer contracts.

When computing regulatory net capital, the capitalized costs of obtaining and fulfilling customer contracts would be a non-allowable asset, and the related deferred tax liability would be required to be deducted from net equity. Therefore, regulatory net capital would decrease, even though there has been no change in the firm’s cash flows, income tax liability or overall operating risk profile as a result of the accounting change.

On January 4, 2018, the SEC’s Division of Trading and Markets and the U.S. Commodity Futures Trading Commission issued letters stating that no enforcement action would be recommended if, when computing regulatory net capital, a broker-dealer/FCM adds back to net worth the amount of the deferred tax liability to the extent that amount directly relates to the non-allowable asset consisting of the capitalized costs of obtaining and fulfilling customer contracts, as defined in ASC 340-40.