What Do the New Lease Accounting Standards Mean for Your Business?
For private business owners who have been hearing about a proposed accounting change for lease accounting, a decade of back-burner speculation has come to an end. The new accounting standard, also known as “ASC 842,” is no longer a proposal but a rule change that applies to private companies who issue financial statements in accordance with generally accepted accounting principles (GAAP) for reporting periods that began after year-end 2021.
Prior to implementing the new lease standard, operating lease payments were expensed on the company’s income statement while capital leases were recorded on the balance sheet. After implementing the new lease accounting standard, virtually all leases will be recorded on your company’s balance sheet and additional financial statement disclosures will be required.
If your financial statements are issued on a tax or cash basis of accounting, the ASC 842 lease standard does not apply to you.
The long-delayed implementation means the changes may seem intimidating for businesses who were free to ignore the proposal for years. As the end of the year is quickly approaching, the time to begin evaluating the impact of ASC 842 on your business is now.
Moving Lease Obligations to Your Balance Sheet
The purpose of the new lease standard is to provide business owners and their financial statement users with a more transparent picture of their short and long-term financial obligations. Implementing ASC 842 will not only require a thorough review of all contracts containing leases, but also a change in accounting for operating leases.
The process to comply with the new standards requires the following steps:
1. Gather all lease contracts: everything from telephone systems to copy machines and other equipment, vehicles and office space, etc.
2. Calculate the cost and value of your leases over time, taking into consideration renewal terms and appropriate interest rates to use
3. Review your financing agreements to determine if you are subject to covenants that could be impacted by the changes to your financial statements after implementing the new lease standard
4. Ensure that your reporting processes are compliant
Alternatives to Adopting Topic 842
Many business owners rely on financial statements in accordance with GAAP because it provides them with the best information about the health of their business. At Kirsch, as many as two-thirds of our private business clients fall into this category.
However, if the idea of implementing this new accounting standard seems daunting, there are other options that could be available. If you are reporting your financial statements in accordance with GAAP, you have the following options:
- Change your basis of accounting from GAAP to a tax or cash basis reporting instead
- Include a GAAP exception and continue to issue financial statements as you have historically; this disclosure states that your financial statements do not comply with all aspects of GAAP as ASC 842 was not adopted
If you produce financial statements based on an external reporting requirement, such as lender covenants requiring GAAP financial statements, neither of these options may be available.
The Right Accounting Partner for Headache-Free ASC 842 Compliance
If you have concerns about ASC 842 reporting requirements, you’re not alone. It may sound easy in theory to move your lease obligations over to your balance sheet, but there are numerous considerations that can come into play, from your expectations around renewal to amortization to the impact on your company’s debt covenants.
The good news is you don’t have to do it alone. Kirsch CPA Group advisors are experts at navigating the leases with a process that takes your needs and goals into account. It is a holistic approach that leaves our clients with more than an accurate balance sheet; it leaves them positioned to thrive and grow over the long-term.