What Was EITF 94-3 and What Replaced It?

The Financial Accounting Standards Board (FASB) established the Emerging Issues Task Force (EITF) to provide timely guidance on new and specific accounting problems. In 1994, the EITF issued “Issue No. 94-3,” a set of rules for when a company should record a liability for restructuring costs, such as employee severance packages or expenses related to closing a facility. The guidance was created to promote consistency and prevent companies from recording liabilities too early, which could manipulate future earnings.

EITF 94-3 standardized how companies accounted for the costs of major operational changes for many years. However, accounting standards evolve, and its principles have since been replaced by newer, more refined guidance.

The EITF 94-3 Recognition Criteria

Under EITF 94-3, the timing for recognizing a liability for restructuring costs hinged on the concept of a “commitment date.” This was the specific point when a company formally obligated itself to a restructuring plan, and a liability could not be recorded until this date was established. The guidance was designed to prevent companies from recording expenses based on informal plans that could be reversed.

For a commitment date to be established, management with the appropriate level of authority had to approve and commit to a formal plan. The plan itself needed to be highly specific, detailing the actions to be taken, the assets involved, the locations, and an expected completion date, which was generally expected to be within one year.

A component of the commitment date was communication. The plan had to be communicated to the affected employees in sufficient detail for them to understand the termination benefits they would receive, as this demonstrated the company’s commitment was firm.

Costs Covered and Their Measurement

EITF 94-3 specified two main categories of costs: employee termination benefits and other costs to exit an activity. The guidance made a distinction between one-time termination benefits offered to involuntarily terminated employees, such as a lump-sum severance payment, and contractual termination benefits required by pre-existing agreements.

The second category, “other costs to exit an activity,” included expenses directly associated with the restructuring plan. A common example was the cost to terminate an operating lease for a facility being closed, including penalties or ongoing payments on an empty building.

Once it was determined that a cost could be recognized, it was measured at its fair value. In practice, this often meant calculating the present value of future cash payments. For instance, severance payments made over two years would be recorded at their discounted value using an appropriate interest rate, not the full undiscounted amount.

Supersession by Current Accounting Standards

The guidance in EITF 94-3 was officially nullified and replaced by FASB Statement No. 146, “Accounting for Costs Associated with Exit or Disposal Activities,” in 2002. This new standard was subsequently incorporated into the FASB’s Accounting Standards Codification (ASC) as Topic 420, “Exit or Disposal Cost Obligations.” ASC 420 changed how companies account for restructuring, moving away from the principles of EITF 94-3.

The most significant change was the elimination of the “commitment date” concept for liability recognition. The new guidance requires that a liability for a cost associated with an exit or disposal activity be recognized only when it is actually incurred, meaning a present obligation to another party exists. A company’s internal commitment to a plan is no longer sufficient to record a liability.

For one-time employee termination benefits, the liability is now recognized when the termination plan is communicated to employees, but if employees are required to continue working for a period to receive the benefits, the expense is recognized over that future service period. For costs to terminate a contract, the liability is recognized when the company terminates the contract in accordance with its terms. For example, for an operating lease, the liability is recognized when the company ceases to use the leased property, not when it decides it will close the location.

Financial Statement Disclosure Requirements

Under the current guidance of ASC 420, companies are required to provide detailed disclosures in their financial statements to give investors and other stakeholders a clear understanding of their exit and disposal activities. These requirements ensure transparency about the financial impact of restructuring plans. Companies must disclose:

• A description of the exit or disposal activity, including the facts and circumstances leading to the activity and the expected completion date.
• The major types of costs associated with the activity, such as one-time employee termination benefits and contract termination costs.
• For each major type of cost, a reconciliation of the beginning and ending liability balances for the period, which must show the costs accrued, cash payments made, and any adjustments.
• Where the exit or disposal costs are reported in the income statement, for example, as part of “selling, general, and administrative expenses” or as a separate line item.