Changes in Lease Accounting (ASU 2016-02)

By Mark Mooney

Lease Accounting Standard Update

The accounting standard update ASU 2016-02 requires changes to the lease accounting model we all know. The new standard categorizes leases into two categories: finance and operating.

While accounting for finance-type leases remain similar to what we currently use for capital leases, there are consequential changes to how we need to account for operating leases.

The most significant change is the requirement for all operating leases, with third parties and related parties, to recognize a right-of-use asset and lease liability on the balance sheet. Implementation of this new standard can be detrimental for companies.

For instance, additional lease liabilities recognized on the balance sheet could cause some companies to violate debt covenants or make it more difficult to obtain credit.

In most cases, related party leases can include unique terms that are most advantageous to the related party or group as a whole. Leading up to the implementation date of ASU 2016-02 (2020), related party leases can be revised to decrease any negative ramifications from implementation.

For instance, the updated standard provides a “short-term” lease exception which permits a lessee to make an accounting policy election not to recognize lease assets and lease liabilities for leases with a term of twelve months or less.

Leases Signed in 2018 and 2019

Leases a company enters into during 2018 and 2019 will most likely be impacted by the new lease accounting rules. It is important to be cognizant of the new rules if your company enters into third party and related party leases, as the effective date of this new standard for private entities is for fiscal years beginning after December 15, 2019.

How DHJJ Can Help

DHJJ can review lease agreements to ensure you are aware of how it will impact your company’s balance sheet and provide recommendations for lease terms that will be best for your company.

DHJJ’s Audit and Accounting team is available to help you understand the changes, assess their impact on your company, and successfully implement the required modifications. For more information on how to account for finance and operating leases in the Chicago suburbs, contact us at 630-420-1360 or fill out the form below.

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