Navigating Lease Accounting Standards: ASC 842, GASB 87, And IFRS 16

Tuesday, 20 June 2023, 8:07 am
Article: Hugh Grant

Lease accounting has undergone significant changes in recent years, with new standards being introduced to improve transparency and comparability in financial reporting. Three major standard-setting organizations – the Financial Accounting Standards Board (FASB), the Governmental Accounting Standards Board (GASB), and the International Accounting Standards Board (IASB) – have each released new lease accounting standards: ASC 842, GASB 87, and IFRS 16, respectively. While these standards share some similarities, they also have key differences that organizations need to understand to ensure compliance. In this blog, we'll explore the main aspects of each standard and highlight their differences.

ASC 842: Lease Accounting for US Companies

ASC 842, issued by FASB, is the lease accounting standard for companies following US Generally Accepted Accounting Principles (GAAP). It replaces the previous standard, ASC 840, and aims to increase transparency by requiring lessees to recognize most leases on their balance sheets. ASC 842 is effective for public companies for fiscal years beginning after December 15, 2018, and for private companies for fiscal years beginning after December 15, 2021.

Key Features of ASC 842

• Lease Classification: ASC 842 classifies leases as either finance leases or operating leases. Finance leases are those where the lessee effectively obtains control of the underlying asset, while operating leases do not transfer control. The distinction between the two types of leases impacts the lessee's expense recognition pattern and cash flow presentation.
• Balance Sheet Recognition: Both finance and operating leases require lessees to recognize a right-of-use (ROU) asset and a corresponding lease liability on their balance sheets.
• Expense Recognition: For finance leases, lessees recognize interest expense on the lease liability and amortization expense on the ROU asset separately. For operating leases, lessees recognize a single lease expense on a straight-line basis over the lease term.
• Lessor Accounting: Lessor accounting remains largely unchanged from ASC 840, with lessors continuing to classify leases as sales-type, direct financing, or operating leases.

GASB 87: Lease Accounting for US Government Entities

GASB 87 is the lease accounting standard for state and local governments in the United States. It replaces the previous standard, GASB 62, and establishes a single model for lease accounting, applicable to both lessees and lessors. GASB 87 is effective for reporting periods beginning after December 15, 2019.

Key Features of GASB 87

• Single Model: Unlike ASC 842, GASB 87 does not differentiate between finance and operating leases. All leases are accounted for using a single model, with some exceptions for short-term leases and contracts that transfer ownership of the underlying asset.
• Balance Sheet Recognition: Lessees recognize an intangible right-to-use lease asset and a corresponding lease liability on their balance sheets. Lessors recognize a lease receivable and a corresponding deferred inflow of resources.
• Expense Recognition: Lease expense is recognized on a straight-line basis over the lease term, unless another systematic and rational basis is more representative of the pattern of the lessee's benefit.
• Revenue Recognition: Lessors recognize lease revenue systematically over the lease term, consistent with the pattern of the lessee's benefit.

IFRS 16: Lease Accounting for International Companies

IFRS 16, issued by IASB, is the lease accounting standard for companies following International Financial Reporting Standards (IFRS). It replaces the previous standard, IAS 17, and requires lessees to recognize most leases on their balance sheets. IFRS 16 is effective for annual reporting periods beginning on or after January 1, 2019.

Key Features of IFRS 16

• Single Model: Like GASB 87, IFRS 16 does not differentiate between finance and operating leases for lessees. All leases are accounted for using a single model, with some exceptions for short-term leases and low-value asset leases.
• Balance Sheet Recognition: Lessees recognize a right-of-use (ROU) asset and a corresponding lease liability on their balance sheets. Lessor accounting remains largely unchanged from IAS 17, with lessors continuing to classify leases as finance or operating leases.
• Expense Recognition: Lessees recognize interest expense on the lease liability and depreciation expense on the ROU asset separately, similar to finance leases under ASC 842.

Comparing ASC 842, GASB 87, and IFRS 16

While all three standards require lessees to recognize most leases on their balance sheets, there are notable differences among them:

1. Lease Classification: ASC 842 retains the distinction between finance and operating leases, while GASB 87 and IFRS 16 adopt a single-model approach for lessee accounting.
2. Expense Recognition: Under ASC 842, expense recognition differs for finance and operating leases. In contrast, GASB 87 requires straight-line lease expense recognition, and IFRS 16 uses an approach similar to finance leases under ASC 842.
3. Lessor Accounting: Lessor accounting remains largely unchanged under both ASC 842 and IFRS 16, whereas GASB 87 introduces a single model for lessor accounting as well.
4. Exemptions: ASC 842 and IFRS 16 provide exemptions for short-term leases, while IFRS 16 also has an exemption for low-value asset leases. GASB 87 provides exceptions for short-term leases and contracts that transfer ownership of the underlying asset.

Conclusion

ASC 842, GASB 87, and IFRS 16 each bring significant changes to lease accounting practices, with the primary goal of increasing transparency in financial reporting. Organizations must carefully examine the requirements of the applicable standard(s) and implement necessary changes to ensure compliance. Understanding the differences among these standards can help organizations navigate the complexities of lease accounting and enhance the quality of their financial reporting.

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