The time to adopt the new leasing standard is almost here for public companies. Changes introduced in ASC Topic 842 take effect for public companies for fiscal years beginning after Dec. 15, 2018. All leases will need to be evaluated in light of the new requirements and internal processes and reporting may need updating.
The transition to the new standard promises to be time-consuming, but public companies can make their adoption easier by taking the following steps before the end of the year.
Decide Whether to Use Transition Expedients
Companies will adopt the new leasing standard using a modified retroactive adoption approach. The approach requires companies to update their lease accounting for all leases existing or entered into at either (1) the earliest comparative period included in the financial statements or (2) the beginning of the reporting period in which the standard is first adopted.
There are a handful of practical expedients that lessees can elect to simplify the transition for expired or existing contracts. The package of practical expedients, which must be elected together, will not require reassessment of:
- Whether an existing contract contains a lease
- Lease classification
- Initial indirect costs
A practical expedient is also available to use hindsight when assessing the lease term and impairment of right-of-use assets. Finally, a third practical expedient allows companies not to reassess existing or expired land easements not accounted for under previous lease guidance.
Calculate Transition Adjustments
For existing or expired leases presented in the financial statements in the adoption year, transition adjustments will be needed. Lessees will recognize and measure their leases under the new standard and make adjustments to beginning equity as if the leasing standard had always been applied. Consider getting the transition adjustments audited to ensure they were calculated correctly.
Update Policies and Controls
Public companies should set up and document controls and policies around the decision points in the lease evaluation process. The following are five of the major points of consideration:
- Does the contract contain a lease?
- What are the components of the contract?
- What is the lease classification?
- What is the accounting treatment for the lease?
- Do I need to reassess or modify any existing leases?
Significant judgment may be involved for some of these steps, and policies and controls can help illustrate how the company reached its conclusion.
Gather Disclosure Information
The changes in ASC Topic 842 are designed to provide more insight into the liabilities associated with leases. As such, they come with a host of new disclosure requirements.
Lessees will provide qualitative disclosures about their leases and subleases, including a general description, and information about variable lease payments, residual value guarantees and options to extend or terminate the leases, and restrictions or covenants imposed by leases. They will also need to include information about leases that have not started, and any significant assumptions or judgments made during the lease evaluation process. Quantitative disclosures should include total lease cost separated by finance lease amortization, finance lease expense, operating lease expense, short-term lease cost, and variable lease cost. Sublease income should be separated from finance or operating lease expenses. Lessees also need to include a maturity analysis of undiscounted lease liabilities reconciled to the statement of financial position.
Lessors will need disclosures about the nature of their leases and subleases, including terms and conditions related to variable lease payments, options to extend or terminate the lease, and options for the lessee to purchase the underlying asset. Disclosures about significant judgments should be included, as should disclosures related to how lessors manage the risk associated with the residual values of their leased assets. Lessors will also need quantitative disclosures related to lease income, including profit or loss recognized at commencement date for sales-type and direct financing leases, and the components of net investments in leases (lease receivable, unguaranteed residual assets, deferred selling profit). Maturity analysis will be needed for undiscounted lease receivables reconciled to the statement of financial position.
Apart from the specific disclosures required for lessees and lessors, all adoptees will need to make disclosures under ASC Topic 250, Accounting Changes and Error Corrections. They will need to disclose the nature and reason for the change in accounting, the application of the modified retroactive approach, including a description of the prior-period information that will be retroactively adjusted, and the cumulative effect on retained earnings, and which, if any, practical expedients for the new standard are used.
Seek Help When Needed
Taking a deep dive into the new standard and assessing the impact of the lease accounting changes can put a significant strain on internal resources. An accounting provider that is experienced with ASC Topic 842 may be able to help evaluate how adoption will affect you and provide recommendations for changes that can make adoption easier.
For comments, questions, or concerns about the leasing standard, please contact Heather Winiarski or Hal Hunt of MHM's Professional Standards Group. Heather can be reached at firstname.lastname@example.org, and Hal can be reached at email@example.com.
Published on October 23, 2018