ASC 718-20: Employee Stock Purchase Transactions & Journal Entries Explained

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Accounting Standards Codification (ASC) 718-20, "Stock Compensation – Employee Stock Purchase Plans," governs the accounting treatment for employee stock purchase plans (ESPPs) in the United States. ESPPs are a popular form of equity compensation that allow employees to purchase company stock at a discount through payroll deductions. This article explains the key provisions of ASC 718-20, its application, and the relevant journal entries for stock purchase transactions under ESPPs.

 

Overview of ASC 718-20

ASC 718-20 establishes the accounting rules for employee stock purchase plans, which are designed to encourage employee ownership and align the interests of employees with those of shareholders. The standard requires companies to recognize the compensation cost associated with the discount offered to employees and provides guidance on measuring and recognizing the expense over the relevant period.

 

Key Provisions of ASC 718-20

 

  1. Measurement of Compensation Cost: The compensation cost is measured as the discount offered to employees on the purchase of company stock. The discount is typically calculated as the difference between the fair market value of the stock and the purchase price.

 

  1. Recognition of Compensation Cost: The compensation cost should be recognized over the offering period, which is the period during which employees can accumulate payroll deductions to purchase stock. The expense recognition begins when the offering period starts and ends when the stock purchase occurs.

 

Journal Entries for Stock Purchase Transaction under ESPP

To illustrate the journal entries for a stock purchase transaction under ASC 718-20, let's assume a company offers its employees the opportunity to purchase company stock at a 15% discount through an ESPP. The offering period is six months, and the fair market value of the stock is $50 per share.

 

1. Calculation of Compensation Cost:

Assume that 1,000 shares are purchased by employees under the ESPP. The discount offered is 15%, so the purchase price is $42.50 ($50 x 0.85) per share. The total compensation cost is calculated as follows:

 

Compensation cost per share = $50 - $42.50 = $7.50

Total compensation cost = 1,000 shares x $7.50 = $7,500

 

3. Recognition of Compensation Cost:

The compensation cost of $7,500 is recognized over the six-month offering period. Assuming a straight-line method for expense recognition, the monthly compensation expense would be:
 

Monthly compensation expense = $7,500 / 6 months = $1,250
 

The journal entries for the monthly compensation expense would be:
 

Compensation Expense $1,250

Unearned Compensation Expense $1,250

 

3. Stock Purchase Transaction:

At the end of the offering period, the employees purchase the stock using their accumulated payroll deductions. The journal entry for the stock purchase transaction would be:

 

Cash (payroll deductions) $42,500

Unearned Compensation Expense $7,500

Common Stock (1,000 shares x $50 par) $50,000

 

ASC 718-20 provides essential guidance on the accounting treatment for employee stock purchase plans. By requiring companies to recognize the compensation cost associated with the discount offered to employees, the standard helps to ensure accurate financial reporting and compliance with GAAP. Understanding the provisions of ASC 718-20 and the associated journal entries for stock purchase transactions under ESPPs enables companies to properly account for this popular form of equity compensation and better align the interests of employees with those of shareholders.