For many organizations, leasing assets, such as office space, warehouse and manufacturing facilities, computers, vehicles, and other equipment, can be a cost-effective alternative to buying them. The treatment of leases in accounting has recently undergone a significant change, and as of January 1, 2022, private companies and nonprofit organizations are now required to comply with the new leasing standard ASC 842.
What is ASC 842?
Published by the Financial Accounting Standards Board (FASB), ASC 842 replaces the previous United States generally accepted accounting principle (GAAP) lease standard, ASC 840. Its purpose is to increase transparency by requiring the recognition and disclosure of all leases on an organization’s statement of financial position.
Under the previous lease standard, ASC 840, leases were categorized as either “operating” or “capital.” Operating leases were not capitalized and recorded on the statement of financial position, which had the potential to create a misleading picture of an organization’s financial position and performance.
ASC 842, however, requires that all leases with an original term longer than 12 months be recorded as right-of-use (ROU) assets and liabilities on the statement of financial position, regardless of how they are categorized. ASC 842 also extends beyond traditional leases, encompassing leases embedded in service contracts, usage contracts and other arrangements, making it a challenge for organizations to identify and categorize all their leases.
To successfully adopt ASC 842, organizations will need to collect detailed information about their lease portfolio, including lease term, renewal options, lease payments and discount rates. This data may not be readily available, so entities may need to adapt their processes, enhance IT systems and refine internal controls to meet the reporting requirements effectively. Training employees in the new standard and working closely with auditors are also crucial steps to ensure compliance.
Organizations that fail to adopt ASC 842 will be out of compliance with U.S. GAAP standards. As a result, they may face significant delays in completion of their audit and risk a qualified audit opinion. Further, ASC 842 could impact key ratios and affect compliance with loan covenants.
ASC 842 represents a significant shift in lease accounting, but with careful planning, investment in technology and collaboration with consultants or third-party accountants, organizations can navigate the complexities of ASC 842 and ensure compliance with the new requirements.
To learn more about ASC 842, please join Kendall Kuhn, Assurance and Technical Accounting Senior Manager, for a webinar on the topic on June 15, 2023, at 10 a.m. Pacific Time. Assess the impact of ASC 842 as Kendall explains its key concepts and what it means for you and your organization.