By 2020, your organization’s balance sheet will undergo a significant change if your company is a non-public organization that has operating leases. The Financial Accounting Standards Board (FASB) recently issued new guidance on lease accounting, FASB ASU 2016-02, that will be effective for fiscal years beginning after December 15, 2019 for non-public companies and will be effective for fiscal years beginning after December 15, 2018 for public companies.
What Are the Accounting Lease Changes?
Currently, there are two types of leases: capital leases and operating leases. Currently, capital leases are recorded as assets and liabilities on the balance sheet. However, under the current guidance, operating leases are not required to be recorded on the balance sheet. This will change with the new FASB lease accounting standards.
Under the new FASB guidance, any lease with a term of more than 12 months is required to be accounted for on the balance sheet, both capital leases and operating leases. The asset recorded is the right to use the leased item and the liability recorded is the obligation for the right to use the leased asset. As a result, the assets and the liabilities on the balance sheet will be significantly larger in 2019 than they are now. According to the CFO.com article written by David M. Katz, FASB technicians discovered more than one trillion dollars of undiscounted lease obligations reported in footnotes while working on this standard.
New Changes for Chief Financial Officers (CFOs) and Accounting Staff
This change to the balance sheet will require CFOs and those involved in the accounting department to pay closer attention to the loan covenants they may have with their creditors. With additional liabilities being recorded, any ratios dealing with debt will be affected. Companies may be in violation of their loan covenants with creditors as the impact of recording all leases on the balance sheet may impact equity and common ratios measured as bank covenants. CFOs will also need to be prepared to explain these changes to investors and other senior management as there will likely be questions regarding this new accounting requirement.
CFOs and those involved in the accounting department will also want to start looking at all of their agreements and contracts to ensure a lease commitment is not hidden in the details somewhere. For companies with branches in different states or countries, it may be beneficial to designate an employee to accumulate the leases company-wide to ensure all leases have been accounted for.
Even though 2020 is a few years away, it is crucial to begin preparing now for this new standard so the transition goes smoothly when implementation is required. If you have any questions or are not sure if you will be affected by this change, contact the team at BSSF today!
ABOUT THE AUTHOR
Lauren Fulmer, CPA
Lauren is a Senior Staff Accountant with Brown Schultz Sheridan & Fritz. She specializes in providing audit and review services to not-for-profit organizations.