EITF 01-14: Principal vs. Agent Expense Reporting

The Financial Accounting Standards Board’s (FASB) Emerging Issues Task Force (EITF) created Issue 01-14 to clarify how companies should present reimbursements for out-of-pocket expenses on their income statements. These expenses, such as airfare or hotel stays, raised questions about when the reimbursements should be recorded as revenue. While EITF 01-14 has been officially superseded by newer accounting standards, its foundational principles continue to influence current practices. Understanding its logic remains relevant for comprehending revenue recognition today.

The Core Accounting Dilemma

The issue EITF 01-14 addressed was the difference between gross and net reporting for reimbursed expenses. Gross reporting involves recording the full reimbursement amount as revenue and the corresponding expense as a cost of sales, which increases a company’s reported top-line revenue. Net reporting treats the reimbursement as an offset to the expense incurred. In this scenario, the expense and the reimbursement cancel each other out, having no impact on the company’s reported revenue or costs.

For example, a consulting firm might spend $5,000 on travel for a client project and receive a $5,000 reimbursement. Under gross reporting, the firm shows $5,000 in revenue and $5,000 in expenses, whereas under net reporting, neither amount appears on the income statement. This distinction can dramatically alter a company’s revenue figures, an important metric for investors, without affecting its net income.

Principal Versus Agent Analysis

To resolve the gross versus net dilemma, EITF 01-14 established the principal versus agent analysis. The analysis determines whether a company is acting as a principal, providing the good or service itself, or as an agent, arranging for another party to provide it. This distinction is based on which entity controls the good or service before it is transferred to the customer.

A company is a principal if it is primarily responsible for fulfilling the contract with the customer and takes on the risks and rewards of providing the good or service. For instance, if a marketing firm is hired to run an advertising campaign and is responsible for the ad’s effectiveness and placement, it is likely the principal.

Conversely, a company is an agent if its role is to facilitate a transaction between its customer and a third-party supplier. The agent’s performance obligation is to arrange for the provision of goods or services by another party, earning a fee or commission for its services. An agent does not control the good or service provided to the customer.

Indicators for Classification

EITF 01-14 provided several indicators to help companies determine whether they were acting as a principal or an agent. These indicators, which focus on which party holds certain risks and responsibilities, were later incorporated into the new revenue recognition standard. No single indicator is determinative; they collectively provide a basis for judgment.

Primary Obligor

An indicator is identifying which party is the primary obligor. The principal is the company responsible for fulfilling the promise to the customer, meaning the customer views them as the main party for delivery and quality. If a third-party supplier fails to perform, the principal is still responsible for satisfying the customer. An agent is not primarily responsible; its duty is to arrange the transaction, not ensure its fulfillment.

Latitude in Establishing Price

The ability to set the price for the good or service is another indicator of a principal relationship. A company that has discretion in establishing the price charged to the customer is more likely to be a principal. This pricing flexibility suggests the company has control over the transaction and is taking on the associated risks. An agent has little to no latitude in setting the final price, often earning a fixed fee or a percentage of the amount collected.

Credit Risk

Bearing the credit risk for the amount due from the customer is another indicator of being a principal. If the company is responsible for collecting payment from the customer and must pay the third-party supplier regardless of whether the customer pays, it has assumed credit risk. For example, if a travel agency pays an airline for a ticket but the client never pays the agency, the agency bears the loss. An agent does not bear credit risk, as its commission is often contingent on the customer paying the third-party supplier.

Transition to Current GAAP

The guidance in EITF 01-14 is no longer the direct authority for revenue recognition, as it was formally superseded by Accounting Standards Codification (ASC) 606, Revenue from Contracts with Customers. This new standard created a more comprehensive, five-step framework for recognizing revenue across all industries, replacing older, industry-specific rules.

Despite being superseded, the core logic of EITF 01-14 was not abandoned. The principal versus agent analysis was incorporated directly into ASC 606 and remains a component of revenue recognition. The indicators from the original EITF guidance are now used to assess who controls the good or service before it is transferred to the customer.

While accountants no longer cite EITF 01-14 directly, its principles are embedded in current U.S. Generally Accepted Accounting Principles (GAAP). An understanding of the original analysis is necessary for correctly applying the modern revenue recognition standard.