Written with contributions from Kathy Rizzo and Rich Eagleston
Like public companies, private companies and non-profits are also impacted by the updated lease accounting standard found in ASC 842.
What does this change mean for you? We’ve outlined:
• When the updated standard goes into effect
• Why the change was needed
• What it might impact
• The impact on your bottom line
• What you can do to prepare
When does it go into effect? (Updated 10/17/19)
The new changes will go into effect for private companies, including non-profits, “for fiscal years beginning after December 15, 2020 (i.e., January 1, 2021, for a calendar year entity), and interim periods within fiscal years beginning after December 15, 2021.”
However, Accounting Today reports that “approximately 40 percent of private companies are behind schedule on implementing the new lease accounting standard or haven’t started yet.”
Are you ready?
Why was this change needed?
In this short, five-minute video, Jim Kroeker, the Financial Accounting Standards Board (FASB) Vice Chair, stated, “The new standard attempts to convey, in a neutral and balanced way, the true economic position that an entity enters into when it obtains capital in the form of a lease.”
So, what was wrong with the old way of calculating leases? Kroeker added that in the past, leases were an unrepresented obligation on the balance sheet for an asset and the obligation to pay for it/them wasn’t always clear in the financial statement. The new Standard sheds light on the obligation and how it will be paid.
What else might this impact?
In addition to real estate and tangible property right of use values and related obligations, loan covenants, such as changes to debt ratios could also be impacted. Plus, you must also account for leases with related parties on the balance sheet.
What kind of leases might be included in the Standard’s “operating lease” purview? Operating leases include everything a business rents to run its business, including such things as office space, equipment, land, buildings, factories, and even cars.
What does this mean for my bottom line?
In addition to the impact this change may have on evaluating company risk, more liabilities will be listed on the balance sheet of a Company’s financial statements, which could cause shareholders to pause as they consider investment decisions because it offers a more transparent and complete financial picture of a company.
What can you do to prepare for this change?
This is a complex, costly, and lengthy process change for many organizations. Begin by starting early and reviewing all of your lease agreements. Remember, the definition of a lease has changed, according to ASC Topic 842. Leases now must be conveyed by a contract and convey a right to control the use of property, plant, or equipment, and incorporates right-of-use assets in subleases. Other process considerations include:
• Starting a lease accounting system selection, change, upgrade, or replacement
• Making policy and procedure improvements, including entering, modifying, terminating lease agreements, records management, and financial statement disclosures
• Communicating with auditors/accountants about their needs in relation to testing and reviewing documentation
• Identifying key lease information to help financial statement users to assess the amount, timing, and cash flows arising from leases
• Translating foreign-language leases to ensure proper foreign currency conversion
• Defining an incremental borrowing rate to calculate lease liabilities
• Reviewing the revised amendments to the lease accounting guidance, including:
o ASU No. 2018-01 – Land Easements
o ASU No. 2018-10 – Technical Corrections
o ASU No. 2018-11 – Transition and Lessor Improvements
o ASU No. 2018-20 – Narrow Scope Improvements for Lessors
This new standard is a huge shift for companies and non-profit organizations, and it may require a great deal of effort to comply. However, you will gain better leasing and lease management processes upon implementing this new standard. Starting early will help you to be ready when the time comes to prepare your financial statements.
Prepare Yourself and Your Team
Watch our recorded webinar A New Era in Accounting for Leases to learn more about the impact of lease agreement changes on your financial statements.
We also encourage you to contact us to discuss how this change might impact your bottom line.