During the uncertainty of the pandemic in 2020, the Financial Accounting Standards Board (FASB) granted a temporary reprieve for private companies, delaying their deadline for implementing new lease accounting practices. If your businesses or non-profit organizations have not yet adjusted how you report leases on your financial reporting documents, keep reading for more information to get you started.
The new FASB rules for reporting leases are required to be used by all private companies and non-profit organizations for all fiscal years that begin after December 15, 2021. Any lease or rental agreement with a term of more than 12 months is required to be reported per the new rules. The goal of the new rules is to simplify the process of comparing financial statements for different companies.
Leases that may be affected
While it’s important to review all of your leases to determine if they meet the minimum requirements for the new lease reporting methods, here are a few examples of what will be changing.
- Capital leases: While capital leases have been reported at a long-term asset with a corresponding liability, the new lease accounting standards will have them reported as a long-term right-to-use asset.
- Operating leases: If the property in a lease isn’t purchased or likely to be purchased, or the terms of the lease don’t cover a major part of the economic life of the asset, or the asset was not specially designed for the lessee, it most likely qualifies as an operating lease. While operating leases may have been considered an ‘off-balance-sheet risk,’ they are now recorded on the income statement and cash flow statement.
Potential impacts to businesses and non-profit organizations
A change in reporting requirements may seem irrelevant to the rest of business operations and there are a few funding and obligation matters that may be affected. Covenants written into loan agreements with banks may no longer be met if the new reporting methods change financial ratios. In addition, for construction companies with surety capital loans granted based on working capital, that capital may seem lower than previous years on the financial statements.
Things to remember when transitioning
The process of transitioning your lease accounting method can take time if your contracts are not centralized. If your organization hasn’t started the transition, it may be helpful to assign a team to compile the necessary information. As you start, keep in mind these tasks to help make a smoother transition.
- Give yourself time to review every contract.
- Locate executed copies of all leases.
- Decide how to store these copies centrally.
- Create a system to review contracts regularly to make sure a change in terms hasn’t occurred whether the lease is required to be reported or not. Be sure to include non-lease components that may need to be separately assessed.
- Update policies and procedures with new lease accounting standards in mind and train employees on these updates.
- Communicate the changes to board members.
- Review covenant requirements on all loans to determine if the new reporting method will cause any violations. If they will, consider talking with your banker.
- Consult with us as your accounting professional as needed.
Make time to review the lease accounting standard updates and transition lease agreements over to the new process. Waiting until the balance sheets are created and published will leave your teams rushing, which can lead to mistakes and oversights.
As you go through the process of updating your lease accounting practices at your businesses and non-profit organizations, consulting with us can help streamline the process. Reach out to our team of professionals today.
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Unless expressly stated otherwise, any federal tax advice contained in this communication is not intended or written to be used, and cannot be used or relied upon, for the purpose of avoiding penalties under the Internal Revenue Code, or for promoting, marketing, or recommending any transaction or matter addressed herein.