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Ken
Do you have a contract or combination of contracts we can use for the below circumstances? Basically the customer wants the installation costs built into the service agreement and wants to pay for install and service agreement over 5 years. Please see below circumstances and advise. We received a request from the subscriber and asked our accountant. Here is the exchange. First our email to our accountant:
"Dear Accountant: We have a client who has a pretty unusual request. They want us to provide an access control system along with a service agreement but they want us to build all initial installation costs into the service agreement and pay over 5 years. The reason they want to do this is because of budget allowances and they are disallowed to use a third party’s lease. Basically they want us to finance the installation and pay over 5 years with the service agreement. Naturally if we would do this we would factor interest into the service agreement over 5 years but I just wanted to get your feedback on how we would account for this as we would incur the installation costs up front in this fiscal year with no record of income for the project and then incur sales over the next 5 years with minimal costs."
Here is the accountant's response to the alarm company:
"The issue, while different is not that complex from our standpoint. Alarm co will basically have two contracts, one for installation and one for service. The one for installation will be handled just like any other contract would be handled, the service revenue will be earned over five years along with the billings per your below description. From a financial statement standpoint, you will earn revenue on the installation contract in the year that it is completed, however, you wont be paid for it for five years. The service revenue will be earned 1/5 over each of the five years. You are correct in adding some finance charges into the contract given that you are going to be carrying a receivable for five years. What you bill them, whether all at once or over five years will have no bearing on the revenues you report for tax purposes and financial statement purposes. Make sense?"
The Accountant
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RESPONSE
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No Mr. Accountant it makes no sense. Stick with accounting. First, it appears that the alarm company is on the accrual basis, which is why the accountant says that all the revenue for the sale is reported in year one even though revenue will be received over a 5 year term. So that's probably the first mistake, Mr. Accountant. Unless this is a public company or a private one generating RMR of one million [yes, that's a month] it most likely belongs on a "cash basis", reporting it's income as it receives it. Forgive me, I'll stick to the legal stuff.
Second, I guess they don't teach Retail Installment laws in accounting school. Well that's OK, they don't teach it at the alarm classes either. A retail installment sale is pretty much what's referred to above, a sale with payments over time with interest added. There are specific laws that apply to retail installment sales and most alarm contracts do not comply with those laws. Some of those laws may in fact prohibit the "protective provisions" in the alarm contract, like exculpatory and limitation of liability clauses - the very heart of an alarm contract.
You need to be very careful about the retail installment laws; they vary state to state. But I don't need to know what state you're in if you're considering a 5 year payout. That will most definitely be a retail installment sale. So the answer is NO WAY.
But all is not lost. Design the deal as a lease, commercial or residential. Of course we offer a Standard Form for the Residential Lease and the Commercial Lease. We even have a Commercial Fire All in One Lease. What distinguishes the Standard Form Lease from a retail installment sale? There is no option to purchase the equipment; it's not a sale. It does however solve your problem, though I'd prefer to prepare a Retail Installment Contract, just for you......
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