FASB ASC 410 – Asset Retirement and Environmental Obligation

The Financial Accounting Standards Board (FASB) released the 400 section of the Accounting Standards Codification for the purpose of discussing the broad topic of Liabilities.

Accounting Standards Codification 410 (ASC 410) was released to address the more specific topic of asset retirement obligations and environmental obligations companies have for conducting certain types of business.

Concept of ARO under ASC 410

Conceptually, an Asset Retirement Obligation (or ARO) is a liability which is setup for the eventual disposal of an asset. Certain types of assets are required by the government to be disposed of in specific ways. As there is a legal obligation to dispose of these, the cost can be estimated and therefore the expense may be accrued for ahead of time. One example would be a coal strip mining operation. Once the coal has been mined, the government typically requires the mining company to plant new grass, trees, etc. on top of the area mined rather than leave it stripped bare. The cost of the grass and tree planting would be the retirement obligation.

These use of an ARO is highly utilized in real estate type transactions, such as:

  • Leased premises
  • Owned premises
  • Promissory estoppel
Measurement of the Retirement Obligation
Asset retirement obligations are typically recorded at the beginning of the life of the related asset, and the combination of the asset and obligation will be depreciated over the use of that asset (either measured via time, units of production, etc.).  The measurement of the initial obligation should be made at fair value, considered to be the price paid to transfer a liability at arms length between two parties at the date of measurement.  As it is highly difficult to get an objective measure of what it would cost to transfer this liability to the third party, the methodology to calculate this present value would be considered to be a “Level 3″ input according to ASC 820.  As a result, one of two methods should be used:
  1. Adjust the expected cash flows based on what the market risk.  In order to do this, there must be a market risk premium, based on the risk-free interest rate to discount the future cash flows adjusted for risk.
  2. Adjust only the risk free interest rate to incorporate the risk premium, rather than the expected cash flows.
These assumptions need to be adjusted based on changed to market driven inputs that change over time.

Check out more high level explanations of the FASB ASC in our Guide to the Accounting Standards Codification!

Access the contact form and send us your feedback, questions, etc. We are always welcome to help someone out. You can also contact us if you wish to submit your writing, cartoons, jokes, etc. and we will consider posting them to share with the world! The Facebook and LinkedIn groups are also good areas to find people interested in accounting like yourself, don’t hesitate to join as everyone of all levels are welcome to become part of the community.

Are You Ready to Take Your Accounting Skills to the Next Level on the Information Highway?

How Can We Help?