Accounting Update: New Guidance on Asset Retirement Obligations

December 12, 2016

Introduction

On December 7, the Governmental Accounting Standards Board (GASB) issued guidance for state and local governments addressing liabilities known as “asset retirement obligations.” An asset retirement obligation (ARO) is a legally enforceable liability associated with the retirement of a tangible capital asset. GASB Statement 83, Certain Asset Retirement Obligations, establishes guidance for determining the timing and pattern of recognition for liabilities and corresponding deferred outflow of resources related to AROs.

Scope

An ARO is defined as a legally enforceable liability associated with the retirement of a tangible capital asset (i.e., the tangible capital asset is permanently removed from service). In other words, to be accounted for as an ARO, there must be a legal obligation related to retirement of the asset. The retirement of a tangible capital asset includes its sale, abandonment, recycling, or disposal in some other manner; however, it does not encompass the temporary idling of a tangible capital asset.

AROs result from the normal operations of tangible capital assets, whether acquired or constructed, and include legally enforceable liabilities associated with all of the following activities:

  • Retirement of a tangible capital asset
  • Disposal of a replaced part that is a component of a tangible capital asset
  • Environmental remediation associated with the retirement of a tangible capital asset that results from the normal operation of that capital asset.

However, Statement 83 does not apply to the following:

  • Obligations that arise solely from a plan to sell or otherwise dispose of a tangible capital asset.
  • Obligations associated with the preparation of a tangible capital asset for an alternative use since these costs are not associated with the retirement of the asset.
  • Obligations for pollution remediation, such as asbestos removal, that result from the other-than-normal operation of a tangible capital asset; obligations resulting from improper operations do not represent costs that are an integral part of the tangible capital asset and, therefore, should not be accounted for as part of the cost basis of the asset.
  • Obligations associated with maintenance, rather than retirement, of a tangible capital asset.
  • The cost of a replacement part that is a component of a tangible capital asset.
  • Landfill closure and postclosure care obligations, including those not covered by Statement 18, Accounting for Municipal Solid Waste Landfill Closure and Postclosure Care Costs.
  • Conditional obligations to perform asset retirement activities.

Pollution Obligation vs. ARO

A pollution remediation liability that results from the normal operation of a capital asset and that is associated with the retirement of that asset (e.g., the obligation to dismantle and remove a sewage treatment plant) is an ARO within the scope of Statement 83. However, a pollution remediation liability that results from other than the normal operation of a capital asset falls within the scope of Statement 49, Accounting and Financial Reporting for Pollution Remediation Obligations.

For example, a certain amount of spillage may be inherent in the normal operations of a fuel storage facility, but a catastrophic accident caused by noncompliance with a government’s safety procedures is not. The obligation to clean up the spillage resulting from the normal operation of the fuel storage facility is an ARO within the scope of Statement 83. The obligation to clean up after the catastrophic accident results from the improper use of the facility and is not within the scope of the ARO guidance, but would be addressed in the pollution obligation guidance (Statement 49).

OBSERVATION: The timing of the required remediation activities may be an indicator as to whether an obligation is an ARO (subject to Statement 83) as opposed to a pollution liability (subject to Statement 49). Generally, the ability to delay the remediation efforts until the related asset is retired is an indicator that the obligation arises from the normal operation of the asset and thus is an ARO. Situations in which immediate remediation is required (e.g., an oil spill) would suggest that the obligation arises from other than the normal operations of the asset and must be corrected without regard to its retirement.

Initial Recognition

A government that has legal obligations to perform future asset retirement activities related to its tangible capital assets should recognize a liability based on the guidance in Statement 83. That guidance requires that recognition occur when the liability is both incurred and reasonably estimable. The determination of when the liability is incurred should be based on the occurrence of external laws, regulations, contracts, or court judgments, together with the occurrence of an internal event that obligates a government to perform asset retirement activities. Laws and regulations may require governments to take specific actions to retire certain tangible capital assets at the end of the useful lives of those capital assets, such as decommissioning nuclear reactors and dismantling and removing sewage treatment plants. Other obligations to retire tangible capital assets may arise from contracts or court judgments. Internal obligating events include the occurrence of contamination, placing into operation a tangible capital asset that is required to be retired, abandoning a tangible capital asset before it is placed into operation, or acquiring a tangible capital asset that has an existing ARO.

Statement 83 requires the measurement of an ARO to be based on the best estimate of the current value of outlays expected to be incurred. The best estimate should include probability weighting of all potential outcomes, when such information is available or can be obtained at reasonable cost. If probability weighting is not feasible at reasonable cost, the most likely amount should be used. A deferred outflow of resources associated with an ARO should be measured at the amount of the corresponding liability upon initial measurement.

Subsequent Measurement

Statement 83 requires the current value of a government’s AROs to be adjusted for the effects of general inflation or deflation at least annually. In addition, it requires a government to evaluate all relevant factors at least annually to determine whether the effects of one or more of the factors are expected to significantly change the estimated asset retirement outlays. A government should remeasure an ARO only when the result of the evaluation indicates there is a significant change in the estimated outlays. The deferred outflows of resources should be reduced and recognized as outflows of resources (e.g., as an expense) in a systematic and rational manner over the estimated useful life of the tangible capital asset.

Disclosures

In some cases, governments are legally required to provide funding or other financial assurance for their performance of asset retirement activities. Statement 83 requires disclosure of how those funding and assurance requirements are being met by a government, as well as the amount of any assets restricted for payment of the government’s AROs, if not separately displayed in the financial statements.

Statement 83 also requires disclosure of information about the nature of a government’s AROs, the methods and assumptions used for the estimates of the liabilities, and the estimated remaining useful life of the associated tangible capital assets. If an ARO (or portions thereof) has been incurred by a government but is not yet recognized because it is not reasonably estimable, the government is required to disclose that fact and the reasons therefor.

Effective Date and Transition

The requirements of Statement 83 are effective for reporting periods beginning after June 15, 2018. Earlier application is encouraged.

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