Highlights of Accounting Lease Standard ASC 842
All entities are now required to adopt ASC 842, the new Accounting Lease Standard, for fiscal years beginning after December 15, 2021 (calendar year 2022). Publicly held companies already had to implement the new standard for fiscal years beginning after 12/15/18 (calendar year 2019). Below are highlights to be aware of that will impact 2022 financial statements.
1. All property, plant and equipment leases that have a term greater than 1 year will be recorded on the balance sheet as an Asset (Right of Use Asset) and Liability (Lease Liability) for both operating and finance leases.
The main purpose of recording leases on the balance sheet is to increase transparency to the reader of the financial statements. Capital leases were previously required to be recorded on the balance sheet, but will now be required for operating leases as well. Previous requirements were to disclose the terms, current rent expense and future payments of operating leases in the footnotes, and capital leases were recorded on the balance sheet and included in debt disclosures.2. Leases previously determined to be capital leases will be renamed finance leases.
A similar methodology to that previously used to determine if a lease was a capital lease will now be used in distinguishing between operating and finance leases.
Operating leases are similar to renting and do not transfer ownership at the end of the lease. The most common ways to distinguish if you have a finance lease is ownership of the asset will transfer at the end of the lease or allow an option to purchase the asset at a discounted price at the end of the term, commonly $1.3. The Right of Use Asset and Lease Liability will be determined based on the present value of the lease payments.
Present value calculations will need to be utilized to determine the amounts to record on the balance sheet. This is the most significant change of the new lease standard.4. The Right of Use Asset will be amortized and the Lease Liability will be reduced based on the payment stream.
Amortization tables will be needed for both operating and finance leases to determine the amount to be recorded for monthly journal entries.5. The impact to the income statement and cash flows is mainly terminology.
On the income statement, finance leases will record amortization of the Right of Use Asset and interest expense on the Lease Liability. The principal repayments will be presented in financing activities in the cash flow while presented as interest expense in the operating activities. Operating leases will record lease expense and will be presented in the operating activities on the cash flow.
Implementation of this standard in the financial statements will be a prospective approach for fiscal years beginning after December 15, 2021. While this new standard will mainly impact 2022 financial statements, it is a good idea to start the implementation early in 2022 to avoid potential cumbersome implementation later in the year. Meaden & Moore is looking to use a tool to simplify the implementation of this new standard. It will provide initial journal entries to record the Right of Use Asset and Lease Liability, amortization tables to record monthly journal entries and also provide the necessary financial statement disclosures.
Please contact a Meaden & Moore professional if you would like to discuss the implementation of the new lease standard.