Authored by Phil Santarelli
As the adoption date1 for Accounting Standards Codification 842: Leases (ASC 842), rapidly approaches, the Financial Accounting Standards Board (FASB) has issued, or plans to issue, some additional guidance related to the transition. This guidance is a result of FASB stakeholders requesting the board for relief in narrow areas where applying the extant guidance is burdensome and generally does not provide the users of the financial statements with highly relevant information. These include a practical expedient for accounting for land easements (ASU 2018-01), and targeted transition improvements (ASU 2018-11), each of which is discussed below.
ASU 2018-01, Leases (Topic 842) Land Easement Practical Expedient for Transition to Topic 842
In this accounting standards update (ASU), the FASB addressed concerns of stakeholders with respect to the accounting for land easements. Land easements2 are defined as “… the right to use, access, or cross another entity’s land for a specified purpose.” Prior to the issuance of ASC 842, the accounting for these land easements was somewhat diverse. Entities accounted for them by applying ASC Topic 840, Leases, Topic 350, Intangibles-Goodwill and Other, or Topic 360, Property, Plant and Equipment. Additionally, many of these easements were very old and in some industries (such as gas pipelines) exceedingly numerous. The stakeholders also pointed out that in many cases, the easements were prepaid and therefore already reflected on the balance sheet as an asset.
In response, the FASB has provided an optional practical expedient for land easements existing at the transition date to ASC 842. Entities may elect to not evaluate these easements in accordance with ASC 842, and to continue the existing accounting treatment. The basic requirements, if the practical expedient is elected, are as follows:
- An entity must not have accounted for land easements as leases in accordance with ASC 840, _Leases_3
- An entity must apply this practical expedient consistently to all current or expired land easements
- An entity should continue you to apply its current accounting policy (under ASC 350 or ASC 360) for existing land easements at transition
- Topic ASC 842, should be applied prospectively to all new land easement contracts, to determine whether the contract contains a lease
- If the entity elects this practical expedient, it should disclose this along with other practical expedients
- If an entity determines not to apply this practical expedient it should apply transition guidance provided for applying ASC 842, to all its easements.
ASU 2018-11, Leases (Topic 842) Targeted Improvements
In this ASU, the FASB provides some technical improvements to the standard, which will provide some relief to the adoption with two practical expedients as follows:
- Comparative reporting at transition: In response to concerns voiced by many constituents as to the difficulty of retrospectively applying the new lease standard to the earliest period presented, the FASB has provided an alternative. Entities may now elect to adopt the new lease standard for the first time in the year of adoption (see footnote 1). Entities may now present the right to use asset and related lease liability as of the beginning of the adoption year, with any difference being recorded as a cumulative effect adjustment to retained earnings. This does not change how the requirements of the standards apply.
- Separating components of a contract: The standard requires that lease and nonlease components (such as maintenance services or other activities) be separated and nonlease components should be accounted for in accordance with other standards such as ASC 606, Revenue from Contracts with Customers. The consideration in the contract is to be allocated to each component based on relative standalone prices basis. The standard does provide a practical expedient for lessees which permits accounting for the lease and nonlease components together as a single lease component. Certain disclosures are required if the lessee adopts this practical expedient.The standard did not permit this practical expedient to be used by lessors. After hearing from lessor constituents about the difficulty of applying this requirement, the FASB has extended the practical expedient to lessors as well. However, the timing and pattern of revenue recognition must be the same for the nonlease components and related lease components; and the combined single lease component would be classified as an operating lease.
The issuance of these ASUs related to ASC 842, is welcome news and is likely to significantly reduce the degree of difficulty in initially applying the new lease standard.
We recommend you speak with your Baker Tilly advisor to discuss how to implement the changes for leases accounting in your organization.
For more information on this topic, or to learn how Baker Tilly assurance specialists can help, contact our team.
1Fiscal years beginning after Dec. 15, 2018 for public business entities, and one year later for all other entities, with early adoption permitted.
2Also referred to as rights of way.
3Extant GAAP for leases