The Financial Accounting Standard Board (FASB)’s lease accounting standard change, Accounting Standards Update (ASU) 2016-02, Leases (Topic 842), presents dramatic changes to the balance sheets of lessees. The ASU affects all companies and other organizations that lease assets such as real property, airplanes, and manufacturing equipment.
The standard is effective for US Generally Accepted Accounting Principles (GAAP) public companies for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. For private companies (i.e., those not meeting the FASB’s definition of a public business entity), the standard is effective for fiscal years beginning after December 15, 2019 and interim periods beginning the following year. Early adoption is permitted. The new standard must be adopted using a modified retrospective transition, and provides for certain practical expedients. Transition will require application of the new guidance at the beginning of the earliest comparative period presented. Early application will be permitted for all organizations.
Under the new guidance, a lessee will be required to recognize assets and liabilities for leases with lease terms of more than 12 months. Consistent with current GAAP, the recognition, measurement, and presentation of expenses and cash flows arising from a lease by a lessee primarily will depend on its classification as a finance or operating lease. However, unlike current GAAP—which requires only capital leases to be recognized on the balance sheet—the new ASU will require both types of leases to be recognized on the balance sheet.
For leases with a term of 12 months or less, a lessee is permitted to make an accounting policy election by class of underlying asset not to recognize lease assets and lease liabilities. If a lessee makes this election, it should recognize lease expense for such leases generally on a straight-line basis over the lease term.
The ASU also will require disclosures to help investors and other financial statement users better understand the amount, timing, and uncertainty of cash flows arising from leases. These disclosures include qualitative and quantitative requirements, providing additional information about the amounts recorded in the financial statements.
The accounting by organizations that own the assets leased by the lessee—also known as lessor accounting—will remain largely unchanged from current GAAP. However, the ASU contains some targeted improvements that are intended to align, where necessary, lessor accounting with the lessee accounting model and with the updated revenue recognition guidance issued in 2014.
Please contact us if you have any questions on how these changes affect your company.