From Dock to Disclosure: The Financial Reporting Impact of Modern Tariffs

Tariffs: How Will They Impact Financial Reporting?

The latest presidential administration in the United States has announced sweeping tariffs on goods from foreign countries. Recent updates have introduced tariffs ranging between 10% and 30% on imports from various countries, with the higher end typically targeting specific nations such as China. These rates reflect ongoing trade negotiations and could shift based on future policy changes. The effects of these tariffs will be felt across a broad range of industries, with products such as automobiles, apparel, and electronics expected to see the largest repercussions. 

Financial reporting will not be exempt from changes. Determining the impacts of tariffs is difficult due to the uncertainty surrounding final numbers and ongoing negotiations. Tariffs are paid for by importers, resting the accounting issues with the companies in the United States. This article provides an overview of areas of interest in financial statements that have the potential to be most impacted by tariff implementation.

Balance Sheet

Inventory

One of the most affected accounts will be inventory. Tariffs must be added to the cost of inventory incurred as it represents an increase in the costs of a normal purchase. Inventory explicitly includes “charges directly or indirectly incurred in bringing an article to its existing condition and location” (ASC 330-10-30-1). Tariffs should be added to the inventory costs and eventually included in cost of goods sold.

Companies unable to pass this increased inventory cost on to customers will incur a significant risk of impairment of inventory. Stagnant sale prices may cause the net realizable value (NRV)—calculated as the selling price less reasonably predictable costs of completion, disposal, and transportation— to fall below the inventory’s carrying cost.  If the NRV drops below the cost of the inventory, impairment becomes necessary. Additionally, exporting companies subject to reciprocal foreign tariffs may experience reduced NRV, as these tariffs effectively increase transportation costs, further heightening the risk of inventory impairment.

Property, Plant, and Equipment

Property, plant, and equipment (PPE) is another balance sheet account that may be affected by tariffs. For PPE acquired in future transactions from foreign countries, the tariffs should be included in the balance sheet amount. ASC 805-50-30-1 states that “assets are recognized based on their cost to the acquiring entity, which generally includes the transaction costs of the asset acquisition”. Tariffs are considered an acquisition cost and should be capitalized as part of the price of the asset. Because of the price increases, future PPE from imports will have higher carrying values and higher depreciation, which will lead to higher depreciation expense in subsequent periods.

PPE may also require impairment if the fair value dips below the carrying amount for long-lived assets currently on the balance sheet. Tariffs may disrupt the cash flows from use and disposal of these assets, which could lead to a reduction in fair value. Impairment testing is required when a triggering event occurs, which may include the implementation of tariffs. In practice, this test is often performed at the asset group level (i.e., the lowest level for which identifiable cash flows are largely independent), rather than for an individual asset. For example, if a power plant is a revenue-generating unit, the power plant PPE as a group would likely be the level at which impairment is assessed. The impairment test requires comparing the net carrying value of the asset or asset group on the balance sheet to the entity-specific, undiscounted cash flows expected to be generated in the future from using and disposing of it. If the net carrying value is greater, then the asset or asset group is “not recoverable,” and impairment is necessary.

Goodwill and Intangible Assets

Similar to PPE, definite-lived intangible assets are tested for impairment as part of a long-lived asset group. When tariffs are a triggering event, entities compare the carrying amount of the relevant asset group to the undiscounted cash flows expected from its use and eventual disposal; if those cash flows are not sufficient to recover the carrying amount, the group is written down to fair value.

Goodwill, by contrast, is tested at the reporting unit level because goodwill itself does not generate cash flows independently. Tariffs may still be highly relevant if they change the expected cash flows of the reporting unit, for example, by increasing costs or reducing demand in a particular geography or business line. If those revised cash flow projections cause the reporting unit’s fair value to fall below its carrying amount, a goodwill impairment may be required. 

Tariffs have the potential to adjust fair valuation estimates of assets. The import duties may require a change in the principal market or most advantageous market. They may reduce the volume in one market and shift the principal market to another area. They could also potentially change the net realizable value and require a change in the most advantageous market. Management should reevaluate the markets to see if any changes are necessary. 

For assets without a comparable market that use discounted cash flow models to estimate fair value, those models will also need to be revisited. Selecting an appropriate risk-adjusted discount rate can be challenging in a highly uncertain tariff environment. In many cases, using an expected cash flows approach that incorporates multiple probability-weighted scenarios may better capture tariff-related risk. The discounted cash flow model itself does not create a disclosure requirement, but the significant management judgments and estimates underlying the cash flow projections and discount rates may require disclosure, subject to materiality considerations.

Impairment triggers for goodwill and other intangible assets that may be set off by tariffs include macroeconomic conditions, market conditions, cost factors, and political factors (ASC 350-20-35-3A and ASC 350-30-35-18B). The entity must assume that they will absorb the cost of tariffs when making cash flow assumptions, which may trigger an impairment.

Income Statement

Revenues/Costs of Goods Sold

The income statement will likely present the heaviest effect from tariffs through revenues and cost of goods sold. Cost of goods sold is expected to increase due to the higher cost of imported inventory from other countries. Entities may be able to recover those costs by passing the costs to customers through increased prices.

Revenue projections in pro-forma financials may also be impacted by tariffs. As tariffs are implemented, it is expected that purchasing will slow down. Real GDP is predicted to fall by -0.6% and consumer spending is expected to decrease by $78 billion. Companies may need to adjust revenue expectations and purchasing volume for future periods.

Entities will likely see vendors adjusting the prices in their contracts to account for the increased duties. If the pricing increase from vendors is already included in a clause in the contract, it would be subject to variable consideration rules under ASC 606. However, if the price change is negotiated separately by the vendor, it would be a contract modification. Contract modifications where only the price is increased can be applied prospectively where goods and services are distinct or using the cumulative catch-up basis where goods and services are not distinct. 

When performance obligations are measured using the cost‑to‑cost method, tariffs may reduce the completion percentage by increasing expected future costs and therefore the total estimated cost of the project. While some tariff costs may already be reflected in historical costs, the recent increases in tariff rates primarily affect the remaining costs to complete, which can slightly lower the percentage of revenue recognized to date.

Losses for construction contracts must be recognized in the period in which they are evident. The increase in tariffs may increase the estimated costs above the expected consideration received from customers. If costs cannot be passed on to customers through price increases, recognition of a loss on the construction contract may be necessary.

Income Taxes

Besides the obvious change to tax burdens due to increased costs, income taxes can also be influenced through deferred tax assets (DTAs). Tariffs may affect the realizability of DTAs by reducing expected future taxable income. Impairment of balance sheet accounts from tariffs, such as PPE and goodwill, does not directly reduce deferred tax assets, but the underlying facts and circumstances that give rise to those impairments can be evidence that related DTAs may no longer be realizable. If it is no longer more likely than not that the company will generate sufficient taxable income to utilize its deferred tax assets, a valuation allowance may be necessary to reduce the carrying amount of the DTAs.

An entity may need to consider uncertain tax positions (UTPs) when it takes a tax position related to tariffs, for example, asserting that certain tariffs are deductible or recoverable in a way that could be challenged by tax authorities. UTPs are driven by the judgment around that specific tax position, not by forecasted future earnings, although they can interact with deferred tax assets when both relate to the same underlying item. Additionally, changes in transfer pricing agreements can alter deferred taxes and may also give rise to uncertain tax positions.

Hedging Contracts

Transactions and items which currently qualify as hedges may need to be reevaluated to see if hedge accounting is still appropriate. For a transaction to qualify as a cash flow hedge, the entity must demonstrate that the forecasted transaction is probable to occur. Tariffs may reduce this probability by causing supply‑chain disruptions, increasing input costs, or dampening customer demand for the hedged item. If the transaction is no longer probable, the entity must discontinue hedge accounting and reclassify gains and losses from accumulated other comprehensive income into earnings (ASC 815‑30‑40‑5).

Fair value hedges must also be discontinued if tariffs affect the terms or likelihood of a firm commitment (for example, a legally binding contract to purchase or sell goods). If hedge accounting no longer applies to a previous fair value hedge of such a commitment, the entity must immediately recognize any remaining fair value adjustments related to the hedging relationship in current‑period earnings.

Disclosures

Most entities will need to include some discussion of tariffs in their financial statement disclosures, particularly if tariffs have had a material impact on operations or financial results. The effects of tariffs can appear in various parts of the financials, depending on how the entity is affected. The following sections outline key disclosure areas where tariffs are commonly addressed and considerations for how they may be presented.

Risks and Uncertainties

Companies must disclose “risks and uncertainties that could significantly affect the amounts reported in the financial statements in the near term (within a year) or the near-term functioning of the reporting entity” (ASC 275-10-05-2). Tariffs may pose a risk of lower future cash flows and higher expenses for entities, especially in certain heavy‑import industries as discussed previously. Tariffs may be a relevant disclosure for the entity if the above-mentioned accounts are impacted by the tariffs.

Disclosure will be especially relevant if the entity has a concentration of risk that is heightened by tariffs, for example, relying on a single international vendor for a substantial percentage of its inventory purchases. Disclosure of such concentrations is required if they exist at the balance sheet date, the entity is vulnerable to a near‑term severe impact, and it is reasonably possible that a severe impact will occur. Entities should consider whether their supplier or customer concentrations meet this threshold and therefore require disclosure. 

Subsequent Events

Tariffs may qualify as an unrecognized subsequent event for an entity—that is, a tariff‑related condition that did not exist at the balance sheet date but that will affect how users interpret earnings going forward. In general, unrecognized subsequent events must be disclosed if they are of such significance that the financial statements would be misleading without that information. When a tariff change meets this threshold, the entity should describe the nature of the event and, if possible, provide an estimate of its financial effect. If the impact of tariffs is expected to be significant, the entity may also include pro forma financial information within the subsequent footnote to illustrate how the tariffs would have affected the financial statements.

S-K Item 105

For public companies, the Securities and Exchange Commission (SEC) has a separate risk disclosure requirement, in addition to the FASB’s requirements in ASC 275. Public entities must disclose the most significant factors that would make an investment in the company speculative or risky. Entity-specific discussion of how the risk will directly affect the company must be included. Possible risks arising from tariffs can include increased material costs, declining profitability, operational disruption, and potential retaliatory actions.

Going Concern

For companies already struggling or heavily impacted, enacted tariffs could impact the company’s ability to continue as a going concern. A going concern assessment is required at each annual and interim reporting period. If it is probable that the entity will be unable to meet its obligations as they become due within a year of the financial statements being issued, it must be disclosed. In these events, management may have plans to alleviate doubt of going concern and keep the company afloat throughout the next year. In these situations, the going concern disclosure is still required.

Conclusion

Tariffs can significantly impact various aspects of financial reporting. While their most immediate effects are seen in revenues and costs on the income statement, other areas—particularly balance sheet accounts—may also require reevaluation. Companies must assess and disclose the risks and uncertainties associated with tariffs. Given the unpredictable and evolving nature of tariff policies, it is essential for management to continuously monitor developments and evaluate their potential impact on the business.

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