A Warning to Private Companies About Maintaining ASC 842 Compliance

3 min read
July 14, 2021
CoStar Real Estate Manager Blog

A Warning to Private Companies About Maintaining ASC 842 Compliance

With less than six months to comply with ASC 842, a warning must be shared with private companies. These companies need to prepare now and understand the pitfalls that can hinder them throughout their compliance journey. The deadline to implement ASC 842 for private calendar year-end companies is January 1, 2022. Non-calendar companies follow at the start of their respective fiscal years.

Beginning the ASC 842 Compliance Process

Implementing the new leasing standard takes time and resources, so starting many months in advance is best. Some companies may have procurement departments that handle and store all leases, while others obtain and store documents within various departments. Operating leases for real estate, vehicles, IT equipment, heavy machinery, and manufacturing equipment must now be accounted for on the balance sheet. Companies may need to be aware that inside their service contracts, such as one for IT services, a lease is embedded for routers or fiber optic cables.

It takes time for companies to find all their leases and the associated documents, mainly when housed within different departments. Many departments have been accustomed to leasing assets with little impact on or involvement from other internal groups. Because old accounting rules did not require operating leases to be capitalized, many leases were approved based on expense budgets in a decentralized process, and each department kept records. 

For this project and in the future, all company leases should be stored in one location as they may need to be reviewed by accountants or auditors.  

Elect a Project Lead

Since ASC 842 compliance requires detailed expertise and input from different departments, private companies should elect someone with knowledge of ASC 842 to lead the project and work with other stakeholders, such as the real estate, business, financial, IT, legal, and procurement teams, to ensure they all understand their part in compliance. ASC 842 knowledge can be gained by reading documents on the websites of the Financial Accounting Standards Board (FASB) and the Big Four accounting firms, as well as by taking eLearning classes that simplify ASC 842 so that it’s easily understandable.

What’s Next?

Once all hard and digital lease documents have been gathered, they should be compared to lease data in spreadsheets to ensure that no missing data and all entries are accurate, including the lease classification. What used to be called a capital lease under ASC 840 is now called a finance lease under 842. Companies have misclassified their leases under 840 and re-misclassified them again under 842. Companies may elect a practical expedient to avoid reassessing lease classification upon adoption of ASC 842, but that expedient is not intended to grandfather in errors.  An accounting test determines whether a lease is an operating or a finance lease. Based on ASC 842 policies, mature lease accounting software determines when a lease may have been wrongly classified and will send a user an immediate warning to double-check.

Unless they only have a handful of leases, private companies will need lease accounting software as it’s too time-consuming to perform in spreadsheets all the calculations required to comply with ASC 842. Most lease accounting software can create initial amortization schedules in seconds, but only the most powerful lease accounting software can automatically revise schedules. For example, creating an initial amortization schedule can take up to an hour; each time it’s revised, it can take just as long.

As well as getting educated on the technicalities of ASC 842, it’s essential to learn about the differences among lease accounting software solutions. It’s deceiving to watch online product demonstrations. It’s not until a company begins using the software and following the processes to comply with ASC 842 that accountants can readily determine the numerous flaws in a product that forces them to conduct manual workarounds that take an hour in spreadsheets.

The best way to learn about these flaws before getting stuck with a product that won’t handle many ASC 842 processes is by reading about them and then talking with a few providers to discuss common issues thoroughly. Verify that information a provider claims to be true is. For example, lease accountants could ask to see samples of a vendor’s standard financial reports, such as the roll-forward and disclosure, so they can be sure the supporting details are clearly in the report.

Although the initial processes of reaching compliance may seem daunting, the quicker private companies begin gathering their lease documents, educating themselves on ASC 842 requirements, and understanding the flaws and benefits of lease accounting software, the easier the road to reaching and maintaining compliance.