New Lease Accounting Standards Will Impact Year-End Financial Statements

Published by Erica Giessler on Wednesday, September 28, 2022 - 12:00am

A new lease accounting standard took effect Jan. 1 for private companies and nonprofit organizations in fiscal years beginning after Dec. 15, 2021, which means the time is now to begin preparations for the change to year-end financial statements.

Specifically, Accounting Standards Codification (ASC) 842, Leases, impacts the way certain contracts are accounted for under generally accepted accounting principles, with the greatest impact on entities that are lessees. ASC 842 defines leases as contracts, or portions of contracts, granting control of an identifiable asset for a specific period of time in exchange for payment.

Background

The new standard is the culmination of the Financial Accounting Standards Board’s multiyear effort to improve financial reporting standards for leasing activities. These efforts go back to 2016, when the current guidance later codified as ASC 842 came into existence. The goal of these changes is to streamline the accounting for leases, increase lease accounting transparency for liabilities resulting from leasing arrangements and to reduce off-balance-sheet activities.

What’s different under ASC 842

Under the previous standard, ASC 840, operating leases were disclosed in the notes to the financial statements, but not recorded on the balance sheet. On the other hand, ASC 842 requires lessees to record a right-of-use asset for the leased asset and a corresponding lease liability equal to the financial obligation over the lease term, as well as adds new disclosure requirements. Accounting for lessees for finance leases, formerly capital leases, and lessors is largely unchanged.

What ASC 842 means for lessees and tax credit investments

Now is the time for lessees to examine contracts to see if the contracts qualify as leases under ASC 842. Clearly named and titled leases are affected, of course, but leases can exist within other contracts, too. The spirit of an agreement can constitute a lease even if the language does not use that term.

Those working with low-income housing tax credits, historic tax credits, renewable energy tax credits such as the investment tax credit and production tax credit are likely affected by the new standard among others. Due to the intricacy and novelty of the standard as well as the potential for unforeseen complications, it is advisable to seek the expertise of accounting professionals well before year-end.

How to adopt ASC 842

To learn more about adopting this new lease standard, contact Novogradac’s tax and audit service professionals. Novogradac professionals can offer tips for getting ready for adopting ASC 842, advise on the information needed for adopting ASC 842, assist with identifying contracts within the scope of ASC 842 that qualify as leases, and calculate lessee lease assets and liabilities along with monthly journal entries using LeaseCrunch. LeaseCrunch is a software tool that offers a simple solution for generating monthly journal entries, amortization schedules and quantitative footnote disclosures.