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New accounting standard for leases brings numerous compliance concerns

Tammy Whitehouse | March 15, 2016

The plot thickens for public companies learning the ins and outs of the brand new accounting standard that brings leases on to corporate balance sheets, as they now face a long list of implementation decisions and business implications.

Anastasia EconomosAccounting experts say they don’t expect any significant pushback on the requirements of the standard or the effective date, which is 2019 for public companies, so they are urging companies to move forward with preparing for the standard. “There’s a fair amount of both challenge and opportunity with this standard,” says Anastasia Economos, a partner with EY.
 
On the challenge side, companies need to move posthaste toward compiling a complete inventory of their lease contracts, says Rich Stuart, a partner with audit firm RSM. “Sometimes companies start in on a lease and they kind of forget about it until the lease ends,” he says. “They might not even know where the lease agreement is. It’s a big step just to gather all the lease information.”

In a recent webcast poll, participants revealed they expect the information gathering to be among the most challenging aspects of complying with the new standard, says Economos. “We see that for companies that are global or decentralized,” she says. Companies will need to decide a process by which they will gather all that information, she says.

Lehman-scott-0914Companies will need to think about whether any of their existing lease contracts need to be reclassified under the new standard, says Scott Lehman, a partner at Crowe Horwath. Following historical bright-line tests for determining which leases went on the balance sheet and which did not, companies routinely structured leases to take them right to the threshold, yet keep them off the balance sheet.

“The new principles-based approach might say if you’ve really transferred control of an asset, you have what we have referred to in the past as a capital lease,” says Lehman. Either way, the lease will go on the balance sheet, but the classification will be important in determining the effect on the income statement. “My main concern is the ones where we’re really close.”
 
Stuart-richard-0814Calculations will also prove challenging for some companies, says Stuart. In some cases, companies will have to perform calculations that have not been required under historic standards, like the fair value for certain assets or the likelihood of exercising a renewal option. “That may not be compiled anywhere,” Stuart says.

“Sometimes companies start in on a lease and they kind of forget about it until the lease ends. It’s a big step just to gather all the lease information.”

Rich Stuart, Partner, RSM

As companies assemble their lease obligations and consider the new accounting, they will face some business issues that they will need to consider. Debt covenants and financial ratios used to measure performance, for example, could be heavily affected as companies bring new leverage to the balance sheet, says Stuart. Companies need to communicate with investors and lenders to explain the impact and modify debt agreements where they can.

GET SOME HELP

Below Big 4 accounting firms PwC, KPMG, and Deloitte want companies to take advantage of their lease accounting resources as implementation nears.

KPMG:

KPMG stands ready to assist companies in performing a detailed assessment that is designed to lay the framework for successful adoption of the new leases standards. We have been helping companies manage accounting change throughout the firm’s history. Our professionals are deeply knowledgeable and experienced in uncovering how accounting and financial reporting, policies, processes and systems will need to change to comply with the new rules. By starting this assessment early, you will have more flexibility during the design and implementation phase given the expected broader organizational impacts beyond financial reporting.

Request a Demo: If you are interested in seeing a live demo of the KPMG Leasing Tool for IBM® TRIRIGA® please e-mail Rusty James, Director, Strategic Alliances, KPMG LLP.

Your access to data on Leasing and Revenue Recognition Standards. Take KPMG's Accounting Change Issues Survey

PwC:

Sweeping transformation of the current lease accounting model has been finalized, affecting all companies to varying degrees, across all sectors, in the US and internationally. The Financial Accounting Standards Board (FASB) and International Accounting Standards Board (IASB) have issued ASC 842 and IFRS 16, respectively, creating new lease accounting models that are not completely converged. The Standards impact both lessors and lessees, with significantly greater impact to lessees. Explore the resources here, which will be continually updated with new developments, to help you transition to the new leasing standards.

Details on the new FASB leasing standard: In brief; In depth

Register for PwC’s leasing Webcast series: March 17, New strategy

Take PwC’s lease accounting survey: How will the new standards impact you?

Deloitte:

The Financial Accounting Standards Board (FASB) initiated a joint project with the International Accounting Standards Board (IASB) in 2006 for the purpose of revising lease accounting standards. After their decade-long efforts, both Boards finalized their respective lease accounting standards in early 2016. The new standards fundamentally change the rules that govern accounting for substantially all leases, including equipment and real estate leases. We expect the standard will have far-reaching implications in areas such as accounting, finance and reporting, real estate, tax, and technology among others.

Join Deloitte for a 90-minute Dbriefs webcast on Tuesday, March 15, 2016, at 2:00 p.m. Eastern to learn about FASB’s new lease accounting guidance and the associated implementation challenges. Earn up to 1.5 Intermediate CPE credits for attending. Learn more and register now.

Read Deloitte’s Heads Up publication for a comprehensive summary

EY:

Let’s talk: Practical matters – Leases make their way onto the balance sheet

  • New US GAAP (Generally Accepted Accounting Principles) and IFRS (International Financial Reporting Standards) standards will require lessees to recognize most leases on their balance sheets and make other changes to lease accounting. All companies with significant leasing activities should review the standards and begin thinking about the implications now to avoid unwanted surprises and costly mistakes.

To the Point: FASB issues final guidance that will change the accounting for leases

  • Provides overview of Financial Accounting Standards Board’s (FASB) new standard and outlines what companies should consider as they move through the implementation period.

Webcast replay available: EY partners provide overview of new leases standard

  • EY recently hosted a webcast on the FASB’s new leases standard, and the replay is now available. More than 5,500 people participated in the webcast to hear an overview of the new standard, including a discussion of scope, definition of a lease, key concepts and accounting for both lessees and lessors.

Sources: PwC; Deloitte; KPMG; EY

Taxes also will crop up as a consideration during implementation, says Ryan Brady, senior manager at Grant Thornton, particularly state and local taxes. “There are some questions right now around how this standard affects state and local taxes,” he says. “That’s one of the knock-on effects of this accounting change.” Lehman says the standard might lead to some timing differences in the recognition of income or expense, which could affect taxes, so companies would be wise to include tax expertise in the adoption planning.

Kimber BascomAs preparers get their arms around lease obligations and take more careful stock of them, that likely will lead to reconsiderations around how assets are managed, says Kimber Bascom, partner and global leasing standards leader for KPMG. “Because the lease is going to be on the balance sheet, there’s likely to be more visibility into that than there has historically,” he says. “There are many good business reasons for leasing that don’t go away because of the new accounting requirement, but companies will want to be alert to the questions.”

Sheri WyattThe transparency that comes from gathering and reporting leasing information might reveal synergies and cost-savings opportunities, says Sheri Wyatt, managing director at PwC. “It will not be just a compliance exercise,” she says. “When you gather that data into a central repository, you might see the potential to combine vendors or find costs savings, and that could mitigate the cost of compliance.”

Companies might also want to take a look at what they’re doing currently to adopt another even bigger accounting change, the new standard on revenue recognition that takes effect in 2018. They might find there are synergies to be gained by possibly integrating the implementation efforts, or it might be best to keep the exercises separate, experts say.

For companies that are lessors, there’s a strong correlation between the revenue recognition and lease standards because those companies generate revenue by leasing out property or equipment, says Stuart.  “There is alignment of revenue recognition guidance with leasing guidance now so it’s certainly something they need to consider,” he says.

Companies might also want to consider whether to adopt both major accounting changes at once, even though the required effective dates are a year apart. Revenue recognition takes effect in 2018 and leasing in 2109. “Leasing can be early adopted,” Stuart says. “There might be some economy to adopting both at the same time. That would be a significant resource commitment.”

Lehman says he sees benefit in keeping the implementation exercises separate. “I wouldn’t assign this to the revenue recognition team,” he says. “This is different. You may want to have someone who is versed on revenue recognition on the task force, but not the same team. Yet depending on the organization, you may not have enough people to have separate teams.”

Michael Keeler, CEO of solutions provider LeaseAccelerator, says he sees companies so busy with revenue recognition they haven’t yet given much thought to the leasing standard. “They just don’t have a lot of bandwidth to do this work,” he says.

Erik BradburyFor all companies now facing both revenue recognition and leasing standards, the last word from accounting experts is to get busy. The changes coming under the new revenue recognition are most challenging for the enormity of the technical accounting change, says Erik Bradbury, professional accounting fellow at Financial Executives International. “With the leasing standard, it’s the practical side of adoption that will be more challenging than the accounting,” he says. “The key is getting ahead of this.”

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