Get Ready for FASB’s New Lease Accounting Requirements

Winter is coming, and so are changes to accounting standards.

Changes in revenue recognition were introduced recently and now changes are coming for lease accounting. Although FASB’s Accounting Standards Update of Topic 842 isn’t effective for nonpublic entities until years beginning after December 15, 2019 (years beginning January, 1, 2020 with restatement of prior year for comparative statements), you need to start planning now in order to be able to implement the new standards.

FASB Topic 842 is merely titled ‘Leases,’ but the topic isn’t quite so simple. FASB has not only expanded the definition of leases, but also the requirements for recording, tracking, disclosing and understanding them. In a nutshell, the requirements will change the way businesses and organizations have historically recorded leases and will impact decisions for lease-vs.-buy transactions.

FASB 842 calls for change in the theory for when we should capitalize leases. Historically we have utilized a control-based method. If you controlled the asset, you recorded it and the liability associated with it (the lease). Under the new standards this theory changes to a right-of-use approach; if you use it as an asset, you record it as an asset along with the offsetting liability.

There is still a distinction between operating financing leases and operating leases. The historical method will still be used to determine financing leases, if more than 75% of the useful life is leased and you pay 90% of the fair value. If the lease includes a maintenance or common-area care component and is not specifically separated in the lease terms, then an estimate for those services will need to be developed.

A few key changes to consider include:

Financing leases

• Capital leases are referred to as ‘Financing leases’ – that’s a big one.
• The practice of accounting for financing leases remains relatively unchanged.

Operating leases – The Big One!

• Leases with more than 12-month terms must be capitalized. Yes, that building you rent with a five-year lease will now be recorded as an asset and a liability on your balance sheet, where the lease term will be recognized. And those leases for vehicles, copiers, storage trailers, tractors or any equipment that you thought you could exclude from your balance sheet, not any more.
• Operating leases will need to be recorded on the balance sheet for the right-of-use asset and the operating obligation liability.
• The asset is amortized over the life of the lease and imputed interest is expensed annually.
• The effect on the cash flow will be applicable to the operations.

Let’s walk backwards. If you implement the presentation of your two-year presentation of December 31, 2020 financials, then you will need to start tracking on January 1, 2019. But wait! If you want to implement in the same year as new Revenue Recognition Standards, then you need to back everything up a year. This means you need to understand your operating leases by January 1, 2018, not to mention make any changes to existing leases.

How can you get started?

Talk to your Yeo & Yeo consultant. We can help you understand the impact to your balance sheet. Too, start the discussion with your lessors and bank to gain an understanding of the impact.