Accounting for Leases Under ASC Topic 842 – Have You Started?
The principal reason for the FASB taking on the project was to eliminate off-balance-sheet accounting for operating leases by lessees. ASC 842 requires a lessee to recognize a right-of-use asset and a lease liability for substantially all operating leases. The only exception that ASC 842 provides is for leases that qualify as short-term leases (i.e., a lease with a “lease term” of not more than 12 months). On initial recognition, the lease liability will equal the present value of the payments allocated to the lease. However, the income statement treatment of operating leases will not change under ASC 842, even though the lessee has recognized an asset and a liability. Under ASC 842, a lessee will recognize expense for operating leases on a straight-line basis over the lease term, just as it does under ASC 840. Although lessees will be required to recognize a liability for operating leases, ASC 842 requires the lessee to present or disclose operating lease liabilities separately from other liabilities (including finance lease liabilities).
ASC 842 provides a number of practical expedients that, if elected, should help to ease the burden of adoption, but companies should not be lulled into a false sense of comfort that adopting the new standard will be a walk in the park, even though it may seem like it in comparison to the experience of adopting the new revenue standard.
There are many aspects of the new Leases standard that necessitate early action. Unless a company has an extremely limited number of leases, it will likely need to select and implement a new lease accounting system. With a limited number of leases, a company could conceivably comply with ASC 842 by supplementing its existing processes for and controls over compliance with ASC 840 Leases with spreadsheets that would allow it to track the adjustments required to record a right of use asset and lease liability at the date of the financial statements in a well-controlled manner. However, as the number of leases and complexity increase, relying on spreadsheets in the SOX era will not be sustainable.
In addition to selecting an accounting software solution, companies will need to ensure they have identified and captured all of their leases, including those leases embedded in agreements to buy or sell goods or services.