Lease Accounting – Changes Are Coming Quickly!
Implementing the new lease standard will likely require more time and resources than most realize.
Choosing the right software solution is a critical component.
Taking steps to prepare now will help ensure successful implementation of this landmark standard.
In 2016, the Financial Accounting Standards Board (FASB) issued ASC Topic 842 Leases that changes the way companies account for leases in accordance with Accounting Principles Generally Accepted in the United States of America (U.S. GAAP). The International Accounting Standards Board (IASB) issued a similar standard (IFRS 16) for entities that report under International Financial Reporting Standards. As these new lease accounting standards go into effect, they will impact all types of organizations, including transportation, logistics, and similar entities. The new standards are effective for private companies with fiscal years beginning after December 15, 2021, which means January 1, 2022 for companies with calendar year-ends. So the effective date is fast approaching!
For lessees the new standards require all identified assets within agreements that are or contain leases and that have a term of one year or longer to be capitalized on the balance sheet as a right of use (ROU) asset along with an offsetting lease liability. This ROU asset and corresponding lease liability will be determined based upon a discounted cash flow analysis using certain discount rate options. Careful consideration will need to be given to the impact that the ROU asset and lease liability will have on financial reporting and covenants.
Implementation pitfalls with new lease standards
Implementing the new lease standards will likely take more time and resources than most realize. Carefully navigating potential traps is a key to successful and cost-effective implementation. Consider these Five Areas as you prepare to implement this landmark standard:
- Choose the right lease software solution for your business: Buying lease software is like buying a car. Each has its own style and special features. Choosing the right one for your business is key to ensuring a smooth transition while minimizing costs. Weigh the pros and cons thoughtfully.
- Compile a complete population of leases: Gathering all documents that contain leases can be daunting and time-consuming. Related party leases are no exception, whether written or not. Tackle this step early. If will pay off later.
- Identify imbedded leases: This can be tricky. Some agreements such as maintenance or service contracts, although described as lease agreements, may contain an identified asset that your organization controls. In that case, it is an “imbedded lease” which the new lease standards require to be capitalized.
- Determine which discount rate to use: Choices are available to discount the lease payments to their present value and capitalize on your books (implicit interest rate, incremental borrowing rate, risk free rate), but can impact bank ratio covenants and other metrics depending on the rate selected.
- Consider the impact: Third party users of the financial statements should be considered when adopting the change, to ensure there are no surprises. A common example is your lending arrangements with financial institutions, and how these accounting changes will impact your financial covenant compliance. Being proactive with these parties is a key area to the adoption, and should not be overlooked.
Lease implementation can take longer than you think. Do you need assistance? Do you have questions?
How CLA can help
CLA can help you take steps to stay ahead of the new lease accounting standards. We can help assess organizational impacts beyond general accounting and financial reporting, and then walk-through readiness assessment, software selection and analysis, and implementation.
Our turnkey lease accounting assistance includes:
- Assistance to identify and analyze leases that are subject to the standard
- Delivery of leased asset schedules, journal entries, and comprehensive financial statement note disclosures
- Updated and revised information at future interim or annual periods based on your needs