FAR · Select transactions · 6 practice questions
ASC 606: When Are Performance Obligations Distinct?
A promised good or service is distinct only if the customer can benefit from it and the promise is separately identifiable. Use the checklist below to test machines, installation, training, software licenses, and warranties before answering the practice questions.
Try one first
Hint
Apply ASC 606's two-step approach: first decide whether each promised item is distinct; then determine when control of each distinct good or service transfers.
Answer A. ASC 606 treats a promised good or service as distinct if the customer can benefit from it on its own and the promise is separately identifiable. The machine is functional on delivery, and installation, training, and the maintenance plan are available separately, so each is distinct. Control of the machine transfers at delivery (recognize then); installation and training are services that transfer when performed (recognize when performed); the maintenance plan is satisfied over time and should be recognized ratably over the 2-year period.
Why not B: Why tempting: It treats the package as one integrated output (machine plus services) to be recognized on completion. Why wrong: The machine can be used on its own at delivery and the services are sold separately, so ASC 606's distinctness criteria indicate separate obligations that transfer control at different times.
Why not C: Why tempting: Installation is often bundled with a product and may be combined if it is essential or significantly modifies the good. Why wrong: Here installation is routine mounting/calibration and does not significantly modify the machine; comparable installation is sold separately, so the machine and installation are distinct and should not be combined.
Why not D: Why tempting: One might view installation and training as incidental to the product and recognize them at delivery. Why wrong: Installation and training are promised services that transfer after delivery; under ASC 606 revenue for services is recognized when control of the service transfers, not automatically at delivery of the machine.
Step by step
- Identify the promised goods and services
List the goods and services promised to the customer. Exclude administrative activation that transfers no good or service.
- Test whether the customer can benefit
Can the customer benefit from the item on its own or with readily available resources? Another vendor's installation service can be a readily available resource.
- Test separate identification within the contract
Check whether each promise is separately identifiable within the contract. Look for significant integration, significant modification or customization, or high interdependence that requires combining promises.
- Apply both tests to routine services
A functional machine and routine installation available from other vendors are separate when there is no significant integration, modification, customization, or interdependence. Apply the same two tests to basic training and functional software licenses.
- Classify the warranty
An assurance-type warranty only guarantees agreed-upon specifications and is not a performance obligation; accrue estimated warranty costs separately. A service-type warranty provides an additional service and is a separate performance obligation.
- Group promises and qualifying series
Identify each distinct good or service, or each group of non-distinct items, as a performance obligation. Treat a series of substantially the same distinct goods or services as one obligation when each meets an over-time criterion and the same progress measure applies to each.
- Allocate after identifying the obligations
Allocate the transaction price using relative standalone selling prices, subject to ASC 606's allocation exceptions. An item's standalone selling price is not automatically its allocated revenue.
- Match revenue to transfer of control
Recognize each obligation's allocated revenue when or as control transfers. Distinct installation does not delay revenue for a machine whose control has already transferred.
Key points
- Remember: A promise must pass both distinctness tests; being usable on its own clears only the first.
- One bundled price does not mean one performance obligation.
- Mandatory installation alone does not make installation non-distinct.
How the exam traps you
- Treating installation as non-distinct because it is bundled with the machine. Check both tests. Routine installation available from other vendors is separate when both tests pass.
- Treating every warranty as a separate performance obligation. Separate additional warranty services from assurance that the product meets specifications.
- Allocating the price before identifying the performance obligations. Identify obligations first, including qualifying series; then allocate using relative standalone selling prices, subject to ASC 606's allocation exceptions.
Question 2
Hint
First decide whether the warranty is assurance-type or service-type. That classification drives whether any revenue is deferred.
Answer B. This is an assurance-type warranty, which does not represent a separate performance obligation. Lane should recognize the full transaction price when control of the machinery transfers on June 1 and separately record an estimated warranty liability (and related expense) for expected warranty costs.
Why not A: This is tempting because some warranties (service-type warranties or warranties sold separately) are separate performance obligations. However, a standard assurance warranty that only guarantees the product meets specifications is not a separate obligation and does not defer a portion of the sale price.
Why not C: Candidates may conflate expected warranty costs with the transaction price. Revenue is measured at the transaction price; estimated assurance-warranty costs are recognized through a separate liability and expense, not as a deduction from revenue.
Why not D: This appeals to those who think post-sale obligations always delay revenue. But control has already transferred and an assurance warranty does not create a separate promised service that would require deferring the sales revenue.
Question 3
Hint
Ask whether the customer can benefit from each promised item separately and whether the installation significantly changes the product.
Answer B. Under ASC 606, identify promised goods or services that are distinct. The customer can benefit from the water filtration unit on its own (or with readily available resources), and the installation is a routine service that does not significantly modify or integrate the unit. Therefore the unit and the installation are separately identifiable and represent two performance obligations.
Why not A: This distractor appeals to focusing on the contract's overall commercial outcome, but ASC 606 does not combine promises simply because they lead to one end result; if each promise is distinct, they are separate obligations.
Why not C: Separate stated prices are useful for allocation but are not required to identify distinct performance obligations; the test is whether the goods or services are distinct, not whether the invoice breaks them out.
Why not D: This confuses identification of performance obligations with revenue recognition timing; classification is determined before considering when revenue is recognized, and the facts here support two distinct promises.
Question 4
Hint
First identify the promised goods/services (is the router distinct?), then consider how the entire transaction price is allocated and when the allocated amounts are recognized, payment timing alone is not determinative.
Answer C. ASC 606 requires identifying promised goods or services and allocating the transaction price to distinct performance obligations. The router is likely distinct (sold separately and usable with other providers) while activation is not a separate promise. Total transaction price = $120 + 12×$60 = $840; total standalone selling prices = $180 (router) + $720 (service) = $900; router allocation = 180/900 × $840 = $168, recognized at inception, with the remaining $672 recognized over the 12-month service period.
Why not A: Tempting because cash was received up front, but ASC 606 bases recognition on transfer of control and allocation of the entire transaction price among performance obligations, not solely on when payment is billed or collected. Recognition depends on whether part of the $120 is attributable to a distinct router (which would be recognized at transfer) and how the total consideration is allocated.
Why not B: Tempting because setup activities are often deferred, but here activation merely links the account and does not transfer a separate good or service. The presence of a distinct router means some consideration should be allocated to it and recognized when control transfers, so deferring the entire upfront fee is incorrect.
Why not D: This is a plausible partial-rule application: a candidate may correctly compute the allocation but misunderstand timing. If the router is a distinct good and control transfers at inception, the amount allocated to the router is recognized when control transfers (at inception), not ratably over the service period.
Question 5
Hint
First decide whether the device, installation, and warranty are distinct promises. Then allocate the single contract price before deciding how much of each allocated amount has actually transferred by March 31.
Answer A. The device, installation/calibration, and extended warranty are separate performance obligations: the device is functional on delivery, the installation is routine and available from other vendors (so distinct), and the extended warranty provides a service beyond the included assurance-type warranty. Allocate the $135,000 transaction price by relative stand-alone selling prices (105k, 15k, 30k → allocations of $94,500, $13,500, and $27,000). Because delivery and installation are completed in March, $94,500 + $13,500 = $108,000 is recognized in March; the $27,000 allocated to the extended warranty is deferred and recognized over its 24-month coverage period once that coverage begins.
Why not B: Tempting because the numeric recognition in March matches the correct allocation, but installation is distinct under ASC 606 here (device is functional on delivery and installation is routine and available from other vendors), so it should be treated as a separate performance obligation rather than combined.
Why not C: This distractor correctly identifies separate performance obligations but misapplies allocation: the $135,000 contract price must be allocated proportionately to the stand-alone selling prices, not by taking delivered items' stand-alone prices and leaving the remainder to the warranty.
Why not D: Incorrect because the extended warranty is a service-type performance obligation that provides coverage after the included assurance warranty ends; its portion of the transaction price must be deferred until that coverage period begins and then recognized over the warranty term.
Question 6
Hint
First decide whether the license and installation are separate performance obligations. If they are, allocate the bundled price before deciding how much has been earned by December 15.
Answer D. The license and installation are separate performance obligations because the software is functional without the installation and the installation does not significantly customize the software. Allocate the $126,000 transaction price based on relative standalone selling prices: $126,000 × ($110,000 / $140,000) = $99,000 allocated to the license. Because control of the distinct perpetual license transfers on December 15, Bolt recognizes $99,000 on that date.
Why not A: Tempting if one treats the license and installation as a single combined obligation and waits until installation is complete. It's wrong because the facts show the license is distinct and can be recognized when control transfers.
Why not B: Tempting if one ignores that installation remains an unsatisfied performance obligation. It's wrong because part of the transaction price must remain allocated to the installation service and cannot be recognized when only the license has transferred.
Why not C: Tempting because $110,000 is the standalone selling price of the license. It's wrong because Bolt must allocate the actual contract consideration ($126,000) proportionately among the distinct obligations, not simply recognize the standalone price.
Common questions
Is installation a separate performance obligation under ASC 606?
Routine installation is separate when the product can provide benefit with readily available resources and installation is separately identifiable. Combine installation with the product when significant customization or integration makes the promises not separately identifiable.
Is a software license distinct from installation?
A functional license is distinct when the customer can use it without the seller's installation and no significant integration, customization, or interdependence prevents separate identification. Recognize its allocated revenue when control transfers and the customer can use and benefit from the license.
Are warranties separate performance obligations under ASC 606?
An assurance-type warranty is not a performance obligation; it only guarantees that the product meets agreed-upon specifications. A service-type warranty provides an additional service, so allocate revenue to it and recognize that revenue over the coverage period.
Watch it solved
A full CPA FAR task-based simulation on Revenue recognition, worked step by step.
FAR Simulation: Revenue Allocation, Timing and Warranties ASC 606 on YouTube
Practice FAR like the real exam
The free ChatCPA simulator: real exam layout, timed testlets, starting with a question on this topic. No account needed to start.
Open the free simulator →More on Revenue recognition
Questions from the ChatCPA bank of 17,658 CPA exam questions, each with a written reason for every wrong answer. ChatCPA is built by Nicholas Miller, CPA (Oregon #14907). How these pages are made. Spot an error? Tell us.