In 2019, new accounting rules for long-term leases took effect for public companies. These changes were deferred for private companies several times by the Financial Accounting Standards Board (FASB), but starting in fiscal year 2022, private companies and private not-for-profit entities will be required to follow suit.
Under this updated guidance, private organizations will be required to report the full extent of their long-term lease obligations on the balance sheet for the first time. Here are a few important details you should know.
Accounting Standards Update (ASU) No. 2016-02, Leases (Topic 842), was initially deferred for private entities in 2019, when the FASB deferred the update to 2021. In 2020, another extension was granted to private firms regarding the effective date of the updated leases standard, due to disruptions caused by the COVID-19 pandemic.
As of right now, the new reporting standard for private entities will apply to annual reporting periods—and to interim periods within fiscal years—beginning after December 15, 2021. Private entities are also permitted to adopt this new standard early.
Depending on the size of your organization, as well as the nature and extent of its leasing arrangements, it may be time-consuming and costly to implement the required changes to your organization’s accounting practices and systems. Because of this, many private organizations have welcomed these deferrals.
The new standard for long-term lease reporting
Currently, private entities are only required to record lease obligations that are considered financing transactions on their balance sheets. The accounting rules give lessees enough leeway that agreements can be arranged such that they are treated as simple rentals for the purposes of financial reporting—and as a result, few arrangements are recorded. Leaving these obligations unreported on the balance sheet can make a business appear to be less leveraged than it really is.
However, the FASB’s updated guidance will require major changes to current accounting practices regarding leases with terms of a year or longer. Under ASU 2016-02, lessees are required to recognize assets and liabilities associated with all long-term rentals of vehicles, real estate, equipment, and machines on their balance sheets. In addition, private businesses will now be required to make additional disclosures regarding the amount, timing, and uncertainty of any cash flows related to these leases.
Under the updated guidance, most existing arrangements that are currently reported as leases will still be reported as leases—but the new definition is also expected to encompass many additional kinds of arrangements that haven’t been reported as leases previously. In addition, arrangements that now need to be reported as leases may not always be readily apparent—such as arrangements that are embedded in service contracts or included in contracts with third-party manufacturers.
Need guidance? We can help
You won’t want to wait until the end of the year to adjust your reporting practices to the FASB’s new guidance. For many public companies, the implementation process for these new rules was more difficult and time-consuming than initially expected. If you need help evaluating which of your contracts need to be reported as lease obligations, contact us.