Water Utilities Can Capitalize A Software Subscription; Most Vendors Never Ask.

A software vendor selling into a water utility usually ends up in the operating budget by default. Because the subscription renews every year every renewal is a chance for a new finance director to ask why they’re paying for it. I’ve sold subscription software into utilities and watched the same product close in ninety days at one agency and sit through two budget cycles at the next. The difference had little to do with the product; it was which bucket the buyer put it in, and rarely does the vendor think to influence it.

A specific accounting rule was passed a few years ago that lets a public utility treat a multi-year subscription as a capital asset. Few vendors know it exists, and fewer structure a contract to take advantage of it. This post covers what the rule says, what it changes about the sale, and what to put in the contract.

If you haven’t read my article about how the operating and capital buckets behave differently in the budget-cycle, check it out before this one - it provides helpful context :)

What GASB 96 changed

The Governmental Accounting Standards Board issued Statement No. 96, covering subscription-based information technology arrangements, and it took effect for fiscal years beginning after June 15, 2022. It applies to any government that follows GAAP, which includes cities, special districts, regional authorities, and the enterprise funds that run most public water systems.

The statement says that when a government signs a contract giving it the right to use a vendor’s software for more than twelve months, that contract is a financing. The utility records a subscription asset (the right to use the software) and a subscription liability (the payments it owes over the term), the same way it would record a lease on a vehicle or a building. The asset is amortized over the subscription term, and the liability is paid down with each invoice.

Three details in the standard decide whether your contract qualifies.

The term has to exceed twelve months, counting options. A short-term arrangement, defined as a maximum possible term of twelve months or less including every extension option whether or not anyone expects to exercise it, is expensed per usual. A one-year contract with four one-year renewal options is a five-year maximum term and can qualify. Options that require both parties to agree do not count, and neither do month-to-month subscriptions.

Termination for convenience shortens the term. The subscription term is the noncancellable period plus any option periods the utility is reasonably certain to use. Any stretch where both parties can walk away without the other’s permission is a cancellable period and drops out, which is why a month-to-month or year-to-year arrangement counts only its noncancellable stretch. A termination right held by the utility alone is judged on whether the utility is reasonably certain not to use it, and a “cancel any time” clause, which many SaaS vendors put in to make the sale feel low-risk, is a hard one for a finance director to defend as a term the utility will keep.

Implementation costs capitalize, but only some of them. The standard splits the project into stages. Planning and vendor selection are expensed. Configuration, data conversion, integration, and testing during initial implementation are added to the subscription asset. Training is expensed. Ongoing support and maintenance are expensed unless they add significant new functionality. Prepayments made before the software goes live and any incentives the vendor offers also move the asset’s value.

The subscription asset is measured as the present value of the payments over the term, discounted at the rate the vendor charges if the contract states one and at the utility’s incremental borrowing rate if it doesn’t, plus the capitalizable implementation costs.

Why it changes the sale

Accounting standards govern financial statements. Budgets are a separate policy decision and many utilities still budget on a cash or modified basis where a subscription payment is a line item regardless of how the auditor books it. So GASB 96 does not automatically move your product into the capital budget. What it does is remove the argument that it can’t be there.

Before the standard, a finance director who wanted to fund a five-year software commitment out of capital had to defend it. Now the capitalization treatment can be the default for any qualifying contract, the liability shows up on the statement of net position whether the budget office likes it or not, and the natural home for a multi-year liability is the capital improvement plan. Once the contract is a financing, it’s the finance director’s decision and the board’s, and it competes with pipe and pumps for the same money, which is a bigger pool and a longer horizon.

The practical consequences for a vendor:

The buying committee changes. A subscription priced under the department head’s authority is bought by the department head. A five-year subscription asset above the capitalization threshold, which runs anywhere from a few thousand dollars to $50,000 or more depending on the agency, goes through finance and usually the board. That’s slower, but it’s also the process that produces contracts nobody questions at renewal.

Debt becomes available. Capital assets can be financed with revenue bonds, and software that is part of an eligible project can ride state revolving fund money. EPA lists cybersecurity and telemetry systems for remote operation among eligible DWSRF and CWSRF resiliency uses, and its DWSRF cybersecurity fact sheet notes the fund has paid for SCADA installs and upgrades. A subscription bundled into a SCADA modernization or a resilience project can be paid for on a twenty- or thirty-year note; the same subscription sold on its own is paid from this year’s chemicals-and-power money. The SRF post covers the calendar and the compliance strings.

Renewal risk drops. An operating subscription is re-decided every year by whoever holds the budget that year. A capitalized subscription is a liability the utility has already recognized and amortized; cancelling it means writing off an asset and explaining that to the auditor. Vendors who complain about churn at municipal accounts are often describing the operating-budget default.

None of that makes capital the right answer every time. A small subscription that fits under the department head’s authority closes faster as operating money and always will, and a vendor with a $12,000-a-year product should keep it there. The point is to choose the bucket on purpose, and to know that above roughly the capitalization threshold the multi-year capital path exists.

What to put in the contract

If you want a utility to capitalize the subscription, the contract has to make that easy for the finance director, who is the person who will decide.

Offer a three- to five-year term with a defined non-cancellable period. Year-to-year with options is fine as long as the option periods are in the contract; the utility’s accountant will judge which ones are reasonably certain. A firm three-year term with two optional years is a common structure that public agencies can sign. Keep any termination-for-convenience clause tied to non-appropriation, which most public contracts require anyway; the standard says a fiscal funding clause affects the term only if the utility is reasonably certain to invoke it.

Itemize the implementation work. Configuration, data migration, integration, and acceptance testing on separate lines from training and from the subscription itself. The finance director capitalizes the first group and expenses the second, and a single “onboarding” line forces them to guess or to expense the whole thing.

State an interest rate or offer a prepayment. If the contract includes a rate for multi-year payment terms, the utility uses it to discount the liability. If the utility would rather pay up front, a discounted prepaid multi-year subscription is measured into the asset in full. Both are cleaner than leaving the utility to derive an incremental borrowing rate.

Hand over the amortization schedule. A one-page schedule showing the annual payment, the liability balance, and the amortization of the asset over the term is the document the finance director would otherwise have to build.

Quote the annual operating impact separately. Support, hosting increases, and any usage fees that vary are operating money even inside a capitalized contract. The champion needs both numbers to fill in the budget request, and the budget-ready package should include both.

Contract feature	Operating-budget subscription	Capitalizable SBITA
Term	Twelve months or less, including options	More than twelve months, counting options
Cancellation	Either party, any time, no penalty	Non-cancellable period, or termination only for non-appropriation
Implementation fees	Bundled into “onboarding”	Itemized: configuration, migration, integration, testing separate from training
Payment terms	Annual invoice, price adjusts each year	Fixed schedule, stated rate, or prepaid multi-year
Who approves	Department head under spending authority	Finance director, often the board, via the capital plan
Funding source	Current-year operating budget	Capital budget, revenue bonds, SRF if part of an eligible project
Renewal exposure	Re-decided every year	Recognized liability, amortized over the term

Investor-owned utilities follow different rules

GASB applies to governments. An investor-owned utility follows FASB accounting and its state commission’s regulatory accounting, and for those utilities the question is whether cloud software can earn a return in rate base. Traditionally it can’t: on-premise software is a capital asset the utility earns on, while a hosted subscription is an operating expense recovered at cost with no return, which gives the utility’s own finance team a reason to prefer the on-premise option even when the cloud one is better.

The regulators know this. NARUC passed a resolution in 2016 urging state commissions to give cloud and on-premise solutions similar treatment. New York’s commission allowed prepaid software to be included in rate base under its Reforming the Energy Vision proceeding. Illinois spent nearly three years on a detailed rule that would have let utilities treat eighty percent of cloud costs as a regulatory asset, and its commission rejected it outright in a 3-2 vote on July 24, 2020, even though utilities, commission staff, and advocates had reached consensus on it. The picture is state by state and moves slowly.

For a vendor selling to an IOU, the reliable lever is the one New York recognized: a prepaid multi-year subscription creates an unamortized balance the utility can argue belongs in rate base. Ask the utility’s regulatory accounting team early which treatment their commission has accepted, and price the prepaid option accordingly. The IOU sales post covers the rest of that buying process.

The conversation to have in the first meeting

Most vendors find out which bucket they’re in when the purchase order arrives. The better time is the first call, with two questions: what is your capitalization threshold, and does your finance office treat multi-year software under GASB 96. The answers tell you whether to price a one-year renewable subscription under the department head’s authority, or a three- to five-year capitalizable contract that goes to the board and gets funded with money that doesn’t run out in June.

Whichever path fits, decide it before the proposal goes out. A subscription priced for the operating budget and later pushed into the capital plan gets re-papered, re-approved, and delayed a cycle, and the way utilities make buying decisions does not forgive a vendor who changes the shape of the deal mid-process.

Frequently asked questions

Does GASB 96 apply to every water utility?

It applies to governmental entities that report under GAAP: municipal utilities, special districts, regional authorities, and other public systems. Investor-owned utilities follow FASB and their state commission’s regulatory accounting instead, and the capital treatment of cloud software there depends on the state. Very small systems that don’t produce audited GAAP statements may not apply it at all.

Can a state revolving fund pay for software?

When the software is part of an eligible project. EPA lists cybersecurity and telemetry for remote operation as eligible resiliency uses under both the drinking water and clean water funds, and its DWSRF cybersecurity fact sheet notes the fund has financed SCADA installs and upgrades. A stand-alone subscription with no project attached is a harder case; a subscription inside a SCADA modernization or a resilience project is a routine one. The state’s intended use plan and its project priority list decide.

Which contract terms keep a subscription out of capital?

A maximum term of twelve months or less including options, and a termination-for-convenience clause that lets both parties cancel without the other’s permission. Both push the arrangement into the short-term exception or shorten the term to the point where there’s nothing to capitalize.

Does capitalizing the subscription make the sale faster?

No. It makes the sale larger and harder to cancel, and it takes longer. A capital purchase goes through finance and usually the board, and it has to land in a request window. A small subscription under the department head’s authority is still the fastest path into a utility. The decision is which one fits the product and the account, made deliberately before the proposal.

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HydroKnowledge helps water technology companies build go-to-market strategies that fit how utilities buy. Get in touch if you sell software into utilities and want the contract structured for the budget it should come from.