Stay Compliant With Lease Accounting Regulations In 7 Simple Steps
With the implementation deadline for the new changes to lease accounting regulations fast approaching, many companies have at least started the early assessment stages of the transition process.
But too many are still wondering how to prepare for IFRS 16 whilst others need to find out how to prepare for FASB 842.
There are some steps which need to begin immediately in order for your business to achieve compliance when the lease accounting impact hits and the established way of reporting lease data changes.
Why You Cannot Be Complacent
After a decade of consultation, lobbying, discussion and drafting, the lease accounting standards changes were finalised within the past couple of years. The Chairman of the International Accounting Standards Board, Hans Hoogervorst, has commented that these changes end “the guesswork involved when calculating [a] company’s often-substantial lease obligations.”
Whilst this may feel a little unfair if you aren’t a company who takes advantage of the existing lease accounting standards to put a more positive slant on their financial figures, the harsh truth is that there are businesses and whole industries out there that do. For example, take the aviation industry.
Mr. Hoogervorst’s predecessor, Sir David Tweedie, delivered a telling speech, back in 2008, which showcased the flaws within the existing lease accounting practices and used aviation as the means of illustration. Companies leased their aircraft from vendors, had long and binding contracts, but could and even now can escape from showing the cost as a liability due to lease accounting rules. The world's largest airlines could operate with no aircraft if an investor relied on balance sheet and P&L information alone!
Now that the standards are being changed, operating leases will be brought onto balance sheet. Additionally, the definition of what constitutes a lease itself is being changed. This is far from all of the changes that are involved when moving to IFRS 16 and FASB ASC 842, but these two do encompass a lot of the work that your business now faces.
Your whole portfolio needs assessing against the new standards, once agreements have been checked as to whether they are or aren’t a lease under the new definition, of course. You then need to assess which agreement exemptions you wish to apply when compared against the lease accounting impact on your different financial ratios and reports.
But how to do it?
The 7 Steps To Stay Compliant With New Lease Accounting Regulations
Hopefully, your management team has already acknowledged the size of the task at hand. This should make it easier to stop any further delays and get the ball rolling with becoming compliant.
Here’s an overview of the seven steps and each one is explored a little further below:
- Designate A Dedicated Transition Team
- Set Success Objectives & Control Measures
- Establish A Unified Platform For Lease Information & Processes
- Review Current Lease Portfolio & Comparative Financial Reports
- Decide Implementation Date & Best Approach For Transition Reports
- Produce Required Reports & Fiscal Statements
- Establish A Long-Term Lease Management Strategy
1. Designate A Dedicated Transition Team
Your preparation should start by forming a designated transition team. It’s expected that compliance will take larger companies an average of 12 months or more to collate all the data needed. The less centralised your current data is then the harder this task will be to complete.
Multiple or fluid points of responsibility will complicate this further.
2. Set Success Objectives & Control Measures
Draw some clear lines in the sand when it comes to what constitutes success. “Compliance” is too vague and too far away to keep the task efficient and manageable for your team.
- Develop a process for identifying, gathering and analysing historical data for all active leases.
- Run internal and external reports against the new standards to gain cost impact awareness.
- Plan a long term strategy which facilitates tracking, analysis, reporting and savings on existing and new lease agreements.
Also, the team should identify which leases will continue under current legislation prior to implementation of the new standards, which will undergo crossover reporting and which will solely be reported under the new standards.
And set dates for each task and review progress.
3. Establish A Unified Platform For Lease Information & Processes
Software dedicated to lease accounting is the best option for establishing a platform and process which is suitable for the transition. It’s a superior option to using traditional spreadsheets or paper systems because it will give: a full scope of transition project, manage all aspects of your lease accounting, visualise the impact on financial statements, automate the creation of reports, forecast strategy, keep all data instantly accessible and this helps make the whole process more efficient.
4. Review Current Lease Portfolio & Comparative Financial Reports
The full scope of impact can only be assessed if the business has full access to the full lease portfolio currently in use. Accurate and wholly representative data is needed to ensure successful compliance because any gaps in this database build run the risk of either non-compliance or missed financial opportunities.
How many leases are in your current portfolio and do you have easy access to all the required data? Can your “transition team” differentiate any operating leases and will they know how to report them under the new standard?
Make sure you have these questions, and more, answered in order to fully equip your team with the best approach. You’ll need to analyse the full portfolio, identify leases that must adhere to the new standards, highlight the lease accounting impact on reports, then make any necessary accounting adjustments to bring the item on balance sheet.
5. Decide Implementation Date & Best Approch For Transition Reports
You and your transition team will need to decide on a date of initial application of the new standards (will it begin early?), whether to pursue a full or modified retrospective approach, whether or not to take up early adoption and investigate any other optional accounting reliefs.
Make sure it’s noted and understood that the IASB and FASB’s “modified retrospective” approaches are actually different despite sharing the same name.
6. Produce Required Reports & Fiscal Statements
Compliance will be achieved by making sure respective leases are accounted for under the following guidelines:
- Existing IAS 17 and FAS 13/Topic 840 guidelines for leases that end before the implementation date or leases under 12 months in length.
- The new regulations for IFRS 16 or FASB ASU Topic 842 to be applied to leases which begin after the implementation date.
- A transitionary retrospective method for all leases active before the implementation date that will continue past it.
7. Establish A Long-Term Lease Management Strategy
Gartner has predicted that 75% of organisations will deploy advanced analytics as part of a platform to improve business decision making, by 2020. And managing a lease portfolio should be addressed in this way as a matter of urgency.
The new lease accounting standards mean that the reporting of your leases is more vital than ever before. The lease accounting impact on your financial performance is set to be under more pressure and this heightens the need to have an efficient, optimised lease management process.
But, first, you need to ensure you can achieve compliance. Take a look at this more in-depth, completely complimentary lease accounting guide to achieving compliance in light of the IFRS 16 and FASB ASC 842.