Understand the accounting requirements in ASC 410

The FASB’s guidance on accounting for environmental remediation liabilities is codified in ASC 410-30, and the recognition and disclosure guidance is principally based on a framework outlined by the guidance on loss contingencies in ASC 450-20. Environmental remediation liabilities are a specific type of contingent liability that arises from federal, state, and local environmental regulations—or, in some instances, international treaties—related to contamination in soil, sediment, groundwater, and surface water.

In the United States, the US Environmental Protection Agency (EPA) is the primary, though not the only, environmental regulator. Other federal, tribal, state, or local agencies may also have authority to regulate environmental programs. The guidance on accounting for environmental liabilities classifies laws into two categories: (1) environmental remediation liability laws and (2) laws intended to control or prevent pollution. The following are some of the main federal regulations that serve as drivers of environmental liabilities:

• Clean Air Act of 1970 (CAA)
• Clean Water Act of 1972 (CWA)
• Toxic Substances Control Act of 1976 (TSCA)
• Resource Conservation and Recovery Act of 1976 (RCRA)
• Comprehensive Environmental Response, Compensation, and Liability Act of 1980 (CERCLA, also known as “Superfund”)

As with other contingent liabilities, an environmental remediation liability is recognized when it is probable that such a liability has been incurred and the amount of the liability can be reasonably estimated. There is often uncertainty about whether and, if so, when a legal obligation for environmental remediation has been incurred. The existence and amount of an environmental remediation liability often become determinable over a continuum of events and activities. A typical environmental remediation process consists of the following steps:

Unlike an environmental liability, which results from the improper use of a long-lived asset, an ARO exists when an entity has an unconditional obligation associated with the retirement of a tangible long-lived asset used under normal operations. Like environmental obligations, AROs can arise from an existing or enacted law. However, unlike many environmental obligations, AROs can also arise (1) from statute, ordinance, or written or oral contract or (2) by legal construction of a contract under the doctrine of promissory estoppel.

Entities should evaluate the existence of legal obligations on the basis of current laws, regulations, contractual obligations, and related interpretations and facts and circumstances and should not forecast changes in laws or interpretations of such laws and regulations. The impacts of changes in laws or regulations should be considered in the period in which such laws or regulations are enacted.

An ARO is recognized at fair value when incurred or when a reasonable estimate of its fair value can be made. An asset retirement cost (ARC) is recorded by increasing the associated long-lived asset’s carrying value. The ARC is depreciated over the useful life of the long-lived asset. An ARO liability is discounted and recorded at present value, and accretion of an ARO liability due to the passage of time is recognized as a component of operating expense. Revisions to the estimated timing or amount of cash flows associated with the retirement activities are recognized as an increase or decrease in the carrying amount of the ARO and the related ARC.

Entities often incorporate the use of internal resources into their remediation plans. The guidance in ASC 410-20 requires the amounts included in the ARO cash flow estimate to reflect costs that a third party would incur to conduct retirement activities. Therefore, in addition to internal resources, entities need to consider incremental costs (e.g., overhead, equipment charges, profit margin) to ensure that the amounts included in the ARO cash flow estimate reflect costs that a third party would incur. Accordingly, if an entity settles the ARO by using its own internal resources, the incorporation of third-party and marketplace assumptions into the estimate of ARO cash flows and the initial measurement of the ARO will most likely result in the recognition of gains upon the settlement of the ARO.

Application of the guidance in ASC 410-20 can be complex and requires significant management estimates and judgment. For example, determining whether a legal obligation to retire a long-lived asset has been incurred may not always be clear and unambiguous. If an entity makes a promise to a third party, including the public at large, about its intentions to undertake asset retirement activities, significant judgment may be required in the determination of whether the entity has created a legal obligation under the legal doctrine of promissory estoppel, which is defined in ASC 410-20-20 (citing Black’s Law Dictionary, seventh edition) as the “principle that a promise made without consideration may nonetheless be enforced to prevent injustice if the promisor should have reasonably expected the promisee to rely on the promise and if the promisee did actually rely on the promise to his or her detriment.”

Driven by investor demand, stakeholder pressures, and, more recently, regulatory attention, companies are increasingly focused on climate-related and environmental matters. In addition, climate change has been a central topic of U.S. policy discussions in many government departments and agencies. In the evolving and, in certain respects, shifting regulatory environment, it will be essential for companies to closely monitor their environmental obligations under new or changing laws and regulations.