The FASB has amended ASC 842 three times already in 2018, with a fourth set of amendments expected before year’s end.
As we learned with the new revenue recognition standard (ASC 606), a “final” standard may not actually be final. In the case of ASC 606, significant changes were made after the “final” standard was issued. While the scope of the enacted and proposed changes to the new leases standard are not as fundamental, many of them are significant, particularly to lessors. In this article, we summarize these changes.
Accounting Standards Update (ASU) No. 2018-11, issued in late July, amended the transition guidance to permit a company to use its effective date as its date of initial application (Jan. 1, 2019, using the above dates). A company electing this alternative will:
In response to operational concerns and questions about the information benefit of these requirements, the FASB, in ASU 2018-11, created a practical expedient that permits a lessor to combine a lease component and a non-lease component that is in the scope of Topic 606 when:
The lessor accounts for the combined component as a single ASC 606 performance obligation if the non-lease component(s) is (are) the predominant element(s) of the combined component, and as an operating lease if not.
This practical expedient is an accounting policy election by class of underlying asset and requires the lessor to make certain qualitative disclosures.
In response to operational concerns, the FASB proposed in August that a lessor recognize lessor costs and the related lessee payments on a net basis in the income statement; if the amount of those costs paid by the lessee is not readily determinable.
For example, a lessee is required to insure the underlying asset for which the lessor is deemed the primary beneficiary, but the lessee is neither required nor expected to provide the lessor with premium information. Because the premium may be affected by a number of lessee-specific factors (e.g., the lessee’s claim history and credit standing) or because the underlying asset may be covered under an umbrella insurance policy, the premium may not be readily determinable by the lessor. In that case the lessor would not estimate those costs; instead, the insurance costs and the lessee’s payment thereof would be presented net in the lessor’s income statement.
ASU 2018-10 (issued in July) made 16 minor technical corrections to ASC 842, none of which changed core aspects of the standard.
The FASB has not yet established the effective date or transition provisions for the lessor costs and sales tax proposals.
As we learned with the new revenue recognition standard (ASC 606), a “final” standard may not actually be final. In the case of ASC 606, significant changes were made after the “final” standard was issued. While the scope of the enacted and proposed changes to the new leases standard are not as fundamental, many of them are significant, particularly to lessors. In this article, we summarize these changes.
Alternative Transition Method
ASC 842 originally required application (including disclosures) to all comparative periods presented. For public companies with a Jan. 1, 2019, effective date, the date of initial application would be Jan. 1, 2017. This is the date on which lessees would first put their existing operating leases on-balance-sheet, and the date on which all entities would recognize their cumulative-effect transition adjustments.Accounting Standards Update (ASU) No. 2018-11, issued in late July, amended the transition guidance to permit a company to use its effective date as its date of initial application (Jan. 1, 2019, using the above dates). A company electing this alternative will:
- not restate comparative period financial information;
- not make the new standard’s lease disclosures in periods before the effective date; and
- recognize its cumulative-effect transition adjustments as of the effective date, rather than as of the beginning of the earliest comparative period presented.
Lessor Practical Expedient Not to Separate Lease and Non-Lease Components
ASC 842 originally required a lessor to always separate lease from non-lease components. The lessor would then allocate the consideration in the contract to each separate lease and non-lease component based on the ASC 606 transaction price allocation requirements.In response to operational concerns and questions about the information benefit of these requirements, the FASB, in ASU 2018-11, created a practical expedient that permits a lessor to combine a lease component and a non-lease component that is in the scope of Topic 606 when:
- the timing and pattern of transfer of the lease and the non-lease component are the same; and
- the lease component, if accounted for separately, would be classified as an operating lease.
The lessor accounts for the combined component as a single ASC 606 performance obligation if the non-lease component(s) is (are) the predominant element(s) of the combined component, and as an operating lease if not.
This practical expedient is an accounting policy election by class of underlying asset and requires the lessor to make certain qualitative disclosures.
Lessor Costs Paid Directly by the Lessee
Under ASC 842 a lessor recognizes lessee payments of lessor costs as additional lease revenue separate from the related cost (i.e., on a gross basis) regardless of whether the lessee makes the payments to the lessor or directly to a third party (e.g., a taxing authority or insurance company). Examples of lessor costs include taxes for which the lessor is the primary obligor, and insurance covering the underlying asset for which the lessor is the primary beneficiary.In response to operational concerns, the FASB proposed in August that a lessor recognize lessor costs and the related lessee payments on a net basis in the income statement; if the amount of those costs paid by the lessee is not readily determinable.
For example, a lessee is required to insure the underlying asset for which the lessor is deemed the primary beneficiary, but the lessee is neither required nor expected to provide the lessor with premium information. Because the premium may be affected by a number of lessee-specific factors (e.g., the lessee’s claim history and credit standing) or because the underlying asset may be covered under an umbrella insurance policy, the premium may not be readily determinable by the lessor. In that case the lessor would not estimate those costs; instead, the insurance costs and the lessee’s payment thereof would be presented net in the lessor’s income statement.
Practical Expedient for Sales and Other Similar Taxes
Also in August the FASB proposed giving lessors an accounting policy election (applied to all leases for which it is lessor) to present payments and collections from lessees of sales and other similar taxes on a net basis in the lessor’s income statement. This is instead of assessing for each taxing jurisdiction whether a tax is a “lessor cost” because the lessor is the primary obligor for the tax. Similar taxes include use, value added and some excise taxes that are imposed on and concurrent with a specific leasing transaction, and exclude taxes assessed on a lessor’s total gross receipts or on the lessor as owner of the underlying asset.Other Amendments
ASU 2018-01 (issued in January) clarified the applicability of ASC 842 to land easements. It also granted an optional practical expedient for existing land easements, effectively “grandfathering” a company’s accounting for those easements in transition.ASU 2018-10 (issued in July) made 16 minor technical corrections to ASC 842, none of which changed core aspects of the standard.
Effective Dates and Transition
The effective dates of the issued amendments coincide with the effective date of ASC 842 for companies that have not early adopted. For companies that have early adopted, ASUs 2018-01, 2018-10 and the transition portion of ASU 2018-11 were effective on issuance. ASU 2018-11 included specialized transition provisions related to the lessor non-separation practical expedient for lessors that early adopted ASC 842.The FASB has not yet established the effective date or transition provisions for the lessor costs and sales tax proposals.
Still to Come
The public comment period for the proposals made in August ended on Sept. 12. If, after considering the feedback and redeliberating, the FASB decides to finalize the proposals, a final ASU will be issued. The expected timing for issuance of any final ASU is not presently known, but it would likely be before the end of 2018.
Don’t miss the session “New Standard: A New Way of Approaching Lease Accounting” at the 2018 ELFA Annual Convention.
Learn more at www.elfaonline.org/events/2018/AC/.
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2018