As both public and private companies scramble to complete the new revenue standard, Topic 606, they should not lose track of the fast approaching effective date for the FASB’s new lease accounting guidance, Topic 842. In addition to requiring the capitalization of all leases by companies, along with the related lease liability, the new lease standard also makes a variety of other changes to the current accounting guidance for leases which if found in Topic 840. While generally less complex to implement that the new guidance in Topic 606, this new guidance will nonetheless require significant effort by both lessees and lessors, particularly those lessees with many operating leases. Add an effective date of January 1, 2019 for public business entities (PBEs) and one year later for non PBE’s to the mix and its easy to understand many companies’ concerns about implementing the new guidance in the heels of their Topic 606 efforts.

FASB Accounting Changes to the Guidance in Topic 842

As companies have gone through the implementation process, they have started to identify some common issues, which have been raised to the FASB for consideration in additional standard setting. This process has already resulted in the issuance of one new ASU, ASU No. 2018-01, Leases (Topic 842): Land Easement Practical Expedient for Transition to Topic 842, which provided relief to companies with easements. Additionally, the FASB is proposing other changes to the guidance in Topic 842 which may greatly reduce the efforts necessary to implement the new standard.

In ASU No. 2018-01, the FASB clarified that easements, which are rights of way for companies, generally utilities and energy companies, to use land, are within the scope of Topic 842 and should be considered in any transition accounting. However, given the current diversity in accounting for existing easements, the FASB essentially grandfathered existing easements which were not already accounted for as leases from the guidance in Topic 842.

Of potentially significantly greater significance is the proposed change to the transition guidance for existing operating leases which the FASB circulated for comment in early 2018. Under the current transition guidance in Topic 842, companies adopting the new guidance will need to record a cumulative effect adjustment that converts leases existing as of the beginning of the earliest year presented in the financial statements to the accounting guidance of Topic 842. For example, for a private company adopting Topic 842 as of January 1, 2020 and who prepares comparative financial statements, it would analyze all leases which existed as of January 1, 2019 for adjustment, even if the lease expired during 2019.

Under the proposed Update, companies would look only to those leases which existed as of the effective date of the new guidance to apply the transition guidance. In our example above, this would be leases that existed as of January 1, 2020. The net effect of this proposed Update is that a non-PBE company would no longer need to apply the transition guidance to leases which expired during 2019, a potentially significant reduction in the effort to adopt Topic 842. As PBEs present financial statement information for three years, their benefit from this proposed Update would be even greater, as they would not need to apply the transition guidance to existing leases which expired in 2017 and 2018.

If this Update is adopted as proposed, it will potentially provide a significant reduction in the scope of effort for companies as they adopt the new guidance in Topic 842. Additionally, the FASB is proposed other changes to Topic 842 which will both clarify and improve the existing guidance of Topic 842 for both lessees and lessors. Chief among these proposals is a practical expedient for lessors to not separate lease and non-lease components for operating leases, in certain circumstances.

Staying Up to Date with Lease Accounting Standards

The key takeaway is that the guidance in Topic 842 is continuing to evolve, making it critical to stay on top of the issues surrounding the implementation of this wide-ranging topic. Surgent has several resources for you to enhance your understanding of the new lease accounting model under Topic 842 and the proposed changes to it, including our webinar, Lease Accounting: The Impact of Changing Standards on Both Lessors and Lessees, in which we’ll review the Topic 842 model and the challenges companies have had in implementing it.

Rich Daisley, CPA, is Senior Director, Accounting and Financial Reporting Content for Surgent CPE. With over 26 years of experience in the accounting and auditing field, Mr. Daisley has worked in both the client service setting, mainly for PwC’s Capital Markets and Accounting Advisory Services Group and for PECO Energy’s Merger and Acquisition Group, and in the internal capacity setting as a course developer and facilitator creating leading training courses for PwC and Surgent. Rich lives in suburban Philadelphia.

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