In early 2016, the Financial Accounting Standards Board (FASB) released new guidance on how businesses should account for leases. That new standard went into effect this year. Has your company made the transition?
What Is the New Lease Accounting Standard?
Under the new accounting standard, Accounting Standards Update (ASU) 2016-02, Leases (Topic 842), nearly all long-term leased assets should be recorded on the balance sheet. In general, the only leases that can stay off the balance sheet are non-recurring leases with terms less than 12 months.
The new guidance affects the following two lease categories:
- Finance leases give you the right to use an asset for most (or all) of its useful life. Finance leases were known as “capital leases” under prior GAAP guidance.
- Operating leases give you the right to use an asset for a period that is less than the asset’s useful life. Assets that businesses want to upgrade frequently (like company cars) are typically leased under operating lease agreements.
Under prior GAAP guidance, only capital leases (now known as finance leases) were shown on the balance sheet. Under the new accounting standard, the FASB wants to see both finance and operating leases on the balance sheet. Both should be recorded as (1) a “right of use” asset and (2) an accompanying liability for the present value of the remaining lease payments.
When Does the New Standard Go into Effect?
Non-public entities should apply the new guidance on annual reports for periods that begin after December 15, 2021, and on interim reports for periods that begin after December 15, 2022.
What Should You Be Doing?
As you begin implementing the new standard, here are just a few things you should be doing:
Talk to your banker.
When operating leases make their way to your balance sheet, your financial ratios will change, and you may find yourself in violation of your debt covenants. Talk to your bankers to see if you need to renegotiate your contracts. Bonding agents may also need to adjust their analysis when determining your bonding capacity.
Remind all members of your team, not just your accountants, that ASU 2016-02 is going to change day-to-day operations. Your project management team and purchasing department need to know what’s required so the revamped reports can come together smoothly.
Consider new software.
Accounting for your leases will require more work than it did in the past. You may find it useful to have software that tracks and collects details about each of your leases.
Prepare your disclosures.
It’s not just the face of your financials that will change; ASU 2016-02 also impacts footnote disclosures. Prep those disclosures now, well before the year-end rush.
Understand the fine print.
Understanding the basics isn’t enough. ASU 2016-02 is hundreds of pages of new guidance. Reach out to others in your industry and professionals you trust to ensure you haven’t overlooked anything.
The bottom line is that if you have leases, the new lease accounting standard is going to affect you. Contact a member of LaPorte’s Audit and Assurance Services Group if you need help implementing this new standard.