The FASB issued Accounting Standards Update (ASU) No. 2016-12 (ASU 2016-02), Leases (Topic 842), to provide a better representation of the economic effect of an organization’s leasing arrangements. Under previous guidance, most leases were accounted for as “off-balance sheet” and were only disclosed in the financial statement footnotes. ASU 2016-02 improves the transparency of financial statements by requiring leases to be recognized as assets and liabilities on the balance sheet.
When is change effective?
For most employee benefit plans and not for profit organizations, ASU 2016-02 takes effect in 2020.*
- Leases with a term of more than 12 months will be recognized as assets and liabilities on the balance sheet. The assets are referred to as a “Right-of-use asset,” and liabilities as a “Lease liability.” Under the previous accounting guidance, only capital leases were required to be reflected on the balance sheet.
- The definition of a lease is clarified as a contract (or part of a contract) with the right to control an asset.
- Leases are now classified as finance or operating leases. Prior to ASU 2016-02, leases were classified as either capital or operating leases. The definitions of a finance and operating lease are similar to the previous definitions but do differ.
- Expanded financial statement disclosures are required to provide information about the nature and amounts relating to your organization’s leasing activities.
- The accounting by the lessor (the organization that owns the leased asset) will remain largely unchanged.
Significant changes are ahead for the accounting of leases. These changes will require more time and resources to review lease contracts, calculate the assets and liabilities, and gather information for the financial statement disclosures.
Preparation and planning are key to efficiently applying ASU 2016-02. Stay tuned for a checklist from Lindquist LLP to assist your organization with implementing the new lease standard.
*ASU 2016-02 is effective for years beginning after December 15, 2019; except for a not-for-profit entity that has issued, or is a conduit bond obligor for, securities that are traded, listed, or quoted on an exchange or an over the-counter market, or an employee benefit plan that files financial statements with the U.S. Securities and Exchange Commission (SEC), in which the effective date is effective for years beginning after December 15, 2018.