So far in this series, we have covered quite a bit related to the accounting treatment of website development costs. This part of the series will define useful lives of websites; discuss capitalization of costs, and amortization.
Useful life is a notion left up to judgment as many other items are in US GAAP. US GAAP is unfortunately not a rigid set of rules but more of a set of guidelines that suggest accepted accounting policies. The nature of the components of a website is so varied it can be difficult to determine a useful life for the entire website. In any case, the useful life of your website is most likely going to be very short considering the rate at which technology is advancing and the progression of social media.
The design, structure and function of a website typically last 2 – 5 years. Thus, within 2 – 5 years of the initial implementation of a website, most organizations have their decaying websites redesigned, rebuilt, and given a complete make-over that leaves the site looking nothing like the original site. The old site is now dead. Our clients typically use 3 – 5 years as a standard however we always recommend considering the actual useful life of your website. For example, if your nonprofit’s strategic plan or IT plans are to overhaul the website every 2 years, then judgmentally it makes sense to use 2 years as the useful life. The ultimate determination of the useful life of your nonprofit’s website is a matter of judgment based on your nonprofit’s unique facts and circumstances. Please contact us to discuss any questions or unique scenarios that you may have.
Now that useful life has been discussed, let us examine capitalizable costs. The only costs for computer website developed or obtained for internal use that shall be capitalized include:
- External costs of services and materials consumed in developing or obtaining the website;
o Fees paid to third parties for the development of the website during the application development stage
o Employee’s travel related expenses incurred in performing their roles in developing the website
o Costs to obtain computer software from third parties
- Payroll and related costs for employees that work on the project but to the extent of the time spent directly on the project. Examples include employees who spend time coding during the application development stage.
- Interest costs incurred during development of the website. See more below on capitalizable interest costs.
FASB Section 835-20-20 defines interest costs as “interest recognized on obligations having explicit interest rates, interest imputed on certain types of payables… and interest related to a capital lease…with respect to obligations having explicit interest rates, interest cost includes amounts resulting from periodic amortization of discount or premium and issue costs on debt”. The interest costs incurred should be recognized over the capitalization period. FASB Section 835-20-25 defines the capitalization period as the period that covers “the duration of the activities required to get the asset ready for its intended use, provided that expenditures for the asset have been made and interest cost is being incurred”. Once all three parts are occurring, the capitalization period begins and will continue until the three conditions are no longer present.
Note: general and administrative and overhead costs should not be capitalized.
Another important question to answer is “when should capitalization of costs begin (other than interest costs as discussed above)?” The answer can be fairly simple. Capitalization of costs (see interest costs capitalization above) begins when the preliminary project stage is complete AND management (with proper authority) implicitly or explicitly authorizes and commits to funding the project and that it is at least probable that the project will be completed and will be used as intended. Executing contracts with a vendor and approving expenditures for internal development are both examples of authorization.
If you become aware that completion of the project is less than probable capitalization of costs should cease and impairment considered (discussed in part 10 of the series). At the point the project becomes substantially complete and ready for use as intended (typically after completing all substantive testing) capitalization of costs shall end.
New development activities will most likely generate the need to consider the remaining useful life of the website that is being replaced. If your organization is replacing old software with new software, any unamortized costs of the existing software should be expensed once the new software is ready for use as intended.
The costs of developing websites should be amortized on a straight-line basis over its useful life unless management determines that there is a systematic and rational basis that better represents the website’s use. Amortization of each element of the website should begin once the website is ready for its intended use (in other words – at the point in which all substantial testing is completed). If a component is not functional because it relies completely on the completion of a separate component – begin amortization of that component when both components are ready for their use as intended.
If you feel you have a unique scenario and need help deciding how to account for your website please feel free to contact us. Part of our job is to help you help yourself. This concludes part 8 of the series; stay tuned for more in this series. Part 9 will discuss impairment.