With less than five months to go, financial reporting executives are worried about implementing the Financial Accounting Standard Board’s (FASB) much-watched lease accounting overhaul on time, according to survey results an international accounting firm released on Aug. 1, 2018.
Of those polled by the audit firm, 29.5 percent said they felt unprepared for the guidance in Accounting Standards Update (ASU) No. 2016-02, Leases (Topic 842). More troubling, the percentage of the executives concerned about following the new guidance on time is up from 22.4 percent in January, the last time the audit firm conducted a lease accounting survey. The latest survey is based on a poll the firm conducted in April. The standard goes into effect for public companies in 2019 and private companies in 2020.
“The trend of our polling results is actually going in the opposite direction of what you’d be expecting,” said Sean Torr, risk and financial advisory managing director for an international accounting firm. Several factors play a role. Leasing is a pervasive practice across industries, with companies renting goods from photocopiers to fleets of trucks to real estate. Compiling information about the leases and then tracking it into a financial system is a big undertaking for most companies. Many commercial software systems cannot capture all of the nuances of lease contracts, from lease modifications to foreign currency adjustments.
As the 2019 public company effective date creeps closer, some companies are so worried about their accounting systems working properly that they are abandoning automated solutions, said James Barker, senior consultation partner for lease accounting in an international accounting firm.
“They’re going to adopt the standard manually and get their systems fully implemented at some later date,” Barker said. “That’s a bad situation for companies and auditors.”
The premise of the new accounting sounds simple enough: Report on the balance sheet the assets and liabilities associated with renting office space, vehicles and most other rented property or equipment. Many companies have for years disclosed in the footnotes to their financial statements details about the rent payments they make for these items.
But then the details kick in. In some cases, a contract that qualifies as a lease will not have the word “lease” written across the top of it. In other cases, a lease may be embedded in the fine print of a service contract. A multinational company will have to dig through records overseas, in multiple languages and currency denominations, to tally up lease obligations. If a lease contract allows for modifications, such as rent price changes, this also must be taken into account.
“There’s a lot of complexity that’s really unforeseen when you look at simple examples on how to do the math,” Barker said.
The FASB published the lease standard in an attempt to end the decades-old, much-criticized practice by which the assets and liabilities associated with leased equipment and property were kept off of company balance sheets. Businesses that do not record their leases as liabilities look like they have higher earnings and more available funds than companies that finance new pieces of equipment or take out mortgages to build offices and stores.
The new standard is expected to usher in a major change to company balance sheets. In certain industries, balance sheets are expected to expand greatly.
The FASB debated lease accounting for a decade before publishing the standard, and companies have known that significant changes are coming. When they turned to the lease accounting software market for assistance, the solutions were not readily available, said Bruce Pounder, founder and executive director an accounting advisory service.
“What they found was lots of lease accounting software would say they do what the new standard requires, but the reality was it didn’t — it just plain didn’t do it,” Pounder said. “So a lot of them are feeling like they’re behind the curve. Some of that is because there weren’t any technological solutions available earlier to help them.”
The FASB on July 30 published an update to U.S. generally accepted accounting principles (GAAP) that is expected to ease implementation of the new standard on two fronts. ASU No. 2018-11, Leases (Topic 842): Targeted Improvements, relieves businesses and organizations from having to present prior comparative years’ results when they adopt the new standard. It also lets landlords and other lessors avoid breaking out the parts of a rental contract that are not specifically being leased, such as the cost of snow removal services, and account for them separately from the base rent.
While the update is welcomed by most businesses, it does not make the leases standard significantly less complex or time-consuming to implement, Torr said.
“Most companies had already factored in that,” he said, of the polling results.
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