USA Sales commissions based on Cash collected

[Thedastardlyone]

Currently my client, who provides insurance, has a policy with certain brokers regarding commissions. They pay commissions to brokers based on cash collected.

Currently they record the expense when they bill their customers. So they bill the customers $10,000 and record an associated commission expense for the broker of $1,000 (10% commission basis). The thing is the contracts specifically stipulates that commissions are due when the cash is collected.

I believe they should record the expense when they collect the cash however I am having trouble finding authoritative guidance to show them that. Most examples I can find are commissions based on billings not cash receipts. Could anyone help point me in the right direction or tell me why I am wrong?

Thank you.

 

[kirby]

Best to record the commissions at time of sale. That will match the revenue with its associated expense in the same accounting period. Assuming you are keeping an accrual accounting set of books this is the appropriate way to go.

 

[Steve-LevelUp]

Agree with Kirby, this is when the expense was incurred. The Commissions are earned and paid based on two different schedules. You would record the expense once the policy was sold (matching principle) however, you only pay it out once you get paid (this is a protection policy to ensure you do not pay commissions prior to getting paid by the customer.

 

[bklynboy]

Agree as well (I work in Insurance). The commission is earned at point of sale and needs to be accrued. Payment is just how you settle the receivable and does not denote when its accrued.

Now there will be instances when the premiums are not paid to the carrier as needed to warrant the commission and typically commissions are either clawed back against future sales or written off if not reimbursed by agent.

 

[Thedastardlyone]

So what you guys are telling me is what I keep hearing.

However as bklynboy said, if the customer does not receive anything they do not incur expense. "clawback" or "offsetting" is just how they settle the money not necessarily the accounting treatment. If they don't receive money there is no expense, which leads me to think that there is no expense incurred until they receive money.

I see it like other expenses where you wouldn't record it until the service or benefit is incurred. I mean I get that it is based on cash collections for a certain service period, but it is still based on the cash collection which is a different period then the service.

To me it is the difference between entering into a contract to have someone fix your building and then having them actually fix your building. The expense/asset isn't incurred until you receive the work.

Either way I appreciate everyone feedback.

 

[Fidget]

If you saved up money to have somebody fix your building, and then they didn't turn up, you'd still have the money you saved to have it fixed because no work has been done on your building.

The difference is that unlike your building, work has been done - ie policies have been sold and so you can expect to have to pay commission over. So you accrue for that expense in the period it relates to. If, as per the contract, monies due are not received, then no commission is paid out either and you continue to accrue until that's resolved.

It doesn't matter at which point in time something is paid for in money, it's all about matching income and expenses in the period in which they happened, regardless of at which point in time any real money changes hands.

 

[kp1]

What about payments made in advance. Some people do make advance premium payment. Sometimes there is financing involved. The clients may be entitled to refund due to cancellation. How would you treat this situation.

 

[bklynboy]

When you collect advance premiums you set these up as a liability. It is strange that a commission is earned on advance premiums (at least not in the company I work in or companies I communicate with) since there is no "incurred" payment due the agent as you rightly note. However if a commission is triggered on advance premiums then I would set up as an asset (Advance to Agent) to match the income and expense and hold both the premium and commission on the balance sheet until they are incurred.

Once its due accounting then follows as stated above where you record the advance premium into income and commission as an expense and offset commission against a DAC asset to the extent its related to acquiring the policy (US GAAP and not US SAP). US SAP, its just expensed.

To be more detailed let me know what type of policy you are talking about (Whole Life, VUL, P&C, etc) and what accounting basis you are concerned with (GAAP/STAT/IFRS)

 

[kp1]

Thanks. That was very helpful.