GreatAmerica has been getting more questions lately from office technology dealers about the status of the new lease accounting standard. As you may know, in February 2016, the Financial Accounting Standards Board (the “FASB”) issued a new lease accounting standard (Topic 842). The new lease accounting standard will impact financial reporting for entities that are required to report their financial results in accordance with U.S. generally accepted accounting principles. Topic 842 does not impact the tax treatment of leases. In addition, Topic 842 will not impact the many economic benefits realized by utilizing leasing as a source of financing. Leasing is still a great financing option for your customers!
Topic 842 is effective for public companies for fiscal years beginning after December 15, 2018, and is effective for private companies one year later. Early adoption is permitted for all entities. Upon adoption, companies will be required to recognize and measure leases at the beginning of the earliest period presented in their financial statements. Although the new standard will be applied to all active leases at the time of transition, lessees may not be required to reassess lease classification upon transition.
The FASB did retain a dual lease classification model. In other words, the new lease accounting standard maintains the concept of a finance lease (formerly a capital lease), and an operating lease. There were minor changes made to the lease classification criteria, primarily to remove the “bright lines” that exist in the current standard. A summary of the changes to the lease classification criteria can be found here.
The main difference between the current standard and Topic 842 is the recognition of lease assets and lease liabilities by lessees for leases previously classified as operating leases. Although operating leases will be reported on-balance sheet, the lease liability is intended to be classified as an operating liability, rather than debt. Lessees should consult with their lenders to determine any potential impacts on their credit lines and covenants.
Topic 842 applies to all leases, except short term leases (i.e., lease term is 12 months or less). Real estate leases will likely have a larger impact than equipment leases due to the size of the transactions. Entities should also consider adopting reasonable capitalization thresholds, below which, lease assets and lease liabilities are not recognized.
In bundled lease transactions that include both equipment and service/maintenance, only the equipment portion of the lease is required to be reported on-balance sheet. The lessee would make this determination based on the relative standalone price of the lease and non-lease components on the basis of their observable standalone prices. A price is observable if it is the price that the supplier or a similar supplier would sell similar lease or non-lease components on a standalone basis. If observable standalone prices are not readily available, the lessee can estimate the standalone prices, maximizing the use of observable information.
Many entities have begun the process of evaluating the potential impacts of the new lease accounting standard. In addition to consulting with lenders, lessees should also consider consulting with their auditors regarding how the new standard will impact their financial statements, and their technology and software providers regarding changes to support the new standard.
Please join BTA along with GreatAmerica Financial Services for a lease accounting update on April 6, 2017 at 3:00pm central time. During this webinar, we will provide a brief background of the lease accounting rules, discuss some of the reasons leading to the changes in the new standard, review the changes in the new standard, and discuss the potential business impacts of the changes. You can register for this complimentary webinar at here.
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