If you have not already taken steps to implement the new lease accounting standard (Leases (Topic 842) or “ASC 842”), now is the time to do so.
ASC 842 significantly changes the presentation of leases for leasees on the financial statements and expands related footnote disclosures. It is effective for nonpublic entities with fiscal years beginning after December 15, 2021. Note that it does not apply to cash basis financial statements. It may apply to modified-cash basis financial statements if those statements are modified for ASC 842.
Three-Step Implementation Process
Follow these three steps to begin the implementation of 842.
Step 1: Write Your Lease Accounting Policy
At a minimum, your policy should address the following elements:
- Adoption date – Will you implement ASC 842 only for the fiscal year beginning after December 15, 2021? Or retrospectively apply to other years presented in the financial statements?
- Low-value leases – Leases identified as "low-value leases" are expensed as paid (no right-of-use asset or lease liability recognized). How will your organization define "low-value leases"?
- Discount rate(s) – The discount rate is used to calculate each lease’s right-of-use asset and lease liability to the present value of future payments. Three options are available: the rate implicit in the lease, the incremental borrowing rate, and the risk-free rate. What discount rate(s) will be applied to each class of leases?
Step 2: Create Amortization Schedules
To create the amortization schedules for each lease:
- Gather all the relevant lease documents.
- Summarize the information for each lease to calculate the amortization schedule and to be used for footnote disclosures.
- Prepare or utilize a template or lease accounting software to prepare the schedule.
Step 3: Post Entries
Now you are ready to post the journal entries.
- First, post the initial entry to recognize the right-of-use asset and lease liability balances as of the implementation date (e.g., January 1, 2022 for a calendar year-end organization)
- Then, record the right-of-use asset and lease liability balances for leases that commenced after the implementation date.
- Finally, whether posted monthly, quarterly or annually, post adjusting journal entries to adjust balances through the end of the reporting period.
Final Remarks
While these three steps may be a simple way to begin this implementation process, the standard has many complex nuances. How do you define a finance versus an operating lease? What are “practical expedients” that can assist with initial implementation? How do those elements change for leases afterward? Is your printer equipment maintenance agreement an “embedded lease”? What happens to the deferred rent asset or liability?
Spend the time to research the details of this new standard or work with an accounting expert to assist in the implementation of it and provide practical considerations.
Author: Linda Rhi | [email protected]
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