Accounting, Reporting, and Compliance Hub (ARCH)

Environmental Credit Programs (FASB Proposal)

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The Financial Accounting Standards Board (FASB) recently issued a proposed accounting standards update on an entity’s accounting for environmental credits (ECs) and obligations in its financial statements in accordance with U.S. GAAP. Environmental Credits and Environmental Credit Obligations (Proposed Topic 818) would include guidance on the recognition, measurement, presentation, and disclosure requirements for ECs and EC obligation (ECO) liabilities.

To read more about the proposal, download the full Bulletin.

Background

Environmental credits, such as for carbon and renewable energy, are becoming an increasingly important part of efforts to promote sustainability. An entity may hold environmental credits to:

• Meet a regulatory obligation
• Be sold or traded in an exchange
• Meet voluntary environmental, social, and governance (ESG) goals.
  
  

An entity may obtain environmental credits in many ways, including by grant or allocation from regulators, by acquisition, or by producing the credit itself. 

The lack of specific accounting guidance in U.S. GAAP has led to diverse practices. If the environmental credit meets the definition of an asset (Chapter 4 of FASB Concepts Statements No. 8, Conceptual Framework for Financial Reporting, includes the requirement that the credit represent a present right to an economic benefit), entities commonly apply the two accounting models shown in the table.

The lack of specific accounting guidance in U.S. GAAP has led to diverse practices, including accounting for environmental credits as inventory or as intangibles. 

Classification	Initial Recognition	Subsequent Accounting
Inventory (ASC 330)	Recognize at cost	Expense when used (retired)  Diversity in practice exists for subsequent measurement (lower of cost or market)
Intangible asset (ASC 350)	Recognize at cost	Expense when used (retired)  Diversity in practice exists for amortization  Diversity in practice exists when evaluating impairment

Today, entities subject to regulatory requirements often recognize liabilities in accordance with ASC 450, Contingencies. However, diversity in practice also exists for measurement and presentation:

• Net presentation: Some entities recognize an obligation for the excess of total emissions over their environmental credit assets
• Gross presentation: Other entities recognize an obligation for their total emissions (in addition to an asset for environmental credit assets)

In response to the diversity in practice, the FASB began this project to enhance transparency, comparability, and reliability in financial statements. 

Scope

To meet the definition of an environmental credit asset under U.S. GAAP (and be within the scope of the proposed guidance), the item must be an enforceable right that is acquired, internally generated, granted by a regulatory agency or its designee(s), or received in a nonreciprocal transfer that is not a grant from a regulatory agency or its designee(s). It also must meet all the following criteria: 

• It lacks physical substance and is not a financial asset
• It is represented to prevent, control, reduce, or remove emissions or other forms of pollution
• It can be separately transferred in an exchange transaction
• It is not an income tax credit and cannot be used to reduce income taxes.