The GASB Lease Standard Is Here…Are You Prepared?
February 1, 2022
By Timothy Doyle, CPA, Partner, The Bonadio Group
Many of you have already begun or will soon begin your fiscal year where this standard will be implemented. As you will see in this article, there is a significant amount of planning and work ahead. Don’t wait until year end. In the sections that follow, we hope to provide you with the basics and links to more detailed information to assist you in your work ahead. Let’s start answering some of the questions you should be thinking about now.
Why the change?
GASB 87 was adopted to improve the relevance and consistency of financial reporting of government leasing activities. GASB believes that, under previous guidance, similar leasing activities were reported differently resulting in a lack of comparability between governments’ financial statements.
What is a lease?
A lease is defined as a contract that conveys control of the right to use another entity’s nonfinancial asset (the underlying asset) as specified in the contract for a period of time in an exchange or exchange-like transaction.
The Bonadio Group has developed a decision chart that is helpful. Please don’t hesitate to contact us for assistance. We have tools that will assist in determining the overall impact and journal entries associated with the various lease arrangements.
What is a nonfinancial asset?
Examples of nonfinancial assets include buildings, land, vehicles, and equipment.
When is GASB 87 effective?
GASB 87 is applicable for fiscal years beginning after June 15, 2021. Financial statements with year-ends of June 30, 2022 are first to implement this standard.
What is the difference between capital and operating leases in the Statement?
GASB 87 does not distinguish operating vs. capital leases. All leases are considered financing leases.
How are short-term leases defined and treated in the Statement?
A short-term lease is defined as a lease that, at the commencement of the lease term, has a maximum possible term under the lease contract of 12 months (or less), including any options to extend, regardless of their probability of being exercised. Lessees and lessors should recognize short-term lease payments as outflows of resources or inflows of resources, respectively, based on the payment provisions of the contract.
What should lessees record?
A lessee should recognize a lease liability and a lease asset at the commencement of the lease term. The lease liability should be measured at the present value of payments expected to be made during the lease term (less any lease incentives). The lease asset should be measured at the amount of the initial measurement of the lease liability, plus any payments made to the lessor at or before the commencement of the lease term and certain direct costs.
What should lessors record?
A lessor should recognize a lease receivable and a deferred inflow of resources at the commencement of the lease term, with certain exceptions for leases of assets held as investments, certain regulated leases, short-term leases, and leases that transfer ownership of the underlying asset at the end of the lease term. The lease receivable should be measured at the present value of lease payments expected to be received during the lease term. The deferred inflow of resources should be measured at the value of the lease receivable plus any payments received at or before the commencement of the lease term that relate to future periods.
What is the financial statement impact?
The notes to the financial statement will be expanded to include a description of the leasing arrangements, the amount of lease assets recognized, a schedule of future lease payments to be made, five-year payout principal and interest requirements to maturity, and additional required disclosures. Additionally, there may be a restatement to net position in the first year of implementation because GASB 87 should be applied retroactively to the beginning balance of the earliest period presented.
What steps should I take now?
Take inventory of your leases — It is important to begin to work with other component units and other departments that are outside of the finance office to identify a complete listing of lease arrangements. For example, the Highway department may be renting equipment. Other examples of where agreements may qualify as leases include, the Sheriff’s Department (leased vehicles), Municipal Library (computers and printer leases), as well as other business-type entities that may have cell phone tower leases. Additionally, discussing with your legal department may be beneficial, as many lease arrangements are reviewed by a legal department.
Start determining the impact to financial statements — Whether you have only a small number or a significant number of leased assets, the disclosures to your financial statements may be impacted. The amount that is recorded may not be significant; however, disclosures will be added to your financial statements. It is important to begin to educate your Legislative Bodies on the overall changes that may be forthcoming as they relate to the new GASB leasing standard.
Consider engaging a professional to assist with implementation
Don't underestimate the complexity of this standard. The identification, valuation, accounting and financial reporting is daunting. Contract with a professional that has the experience and tools to assist you.
Short Term Leases
Background
The effective date for GASB 87 is fast approaching for state and local governments (effective for fiscal years beginning after June 15, 2021).
What is a short-term lease?
GASB 87 defines a short-term lease as “…a lease that, at the commencement of the lease term, has a maximum possible term under the lease contract of 12 months (or less), including any options to extend, regardless of their probability of being exercised.”
Lease Term Calculation and Examples
To determine if the lease can be considered short-term, the maximum possible term must be calculated. A lease term or option that is cancelable by both the lessee and the lessor without permission from the other party (or if both parties have to agree to extend) is excluded from the maximum possible term. If either the lessee or the lessor can cancel a lease term or exercise an option, that period is included in the maximum possible term. For a lease that is cancelable by either the lessee or the lessor, such as a rolling month-to-month lease, the maximum possible term is the noncancelable period, including any notice periods.
For example, a District (lessee) enters into a lease with a City (lessor) for 18 months. The District can cancel the lease at any time after 6 months. The City does not have the option to cancel the lease. The maximum possible term is 18 months, and the lease does not qualify as short-term lease.
A short-term lease will be analyzed twice; first, to calculate the maximum possible term to determine if it is a short-term lease; and secondly, to determine the lease term to be recorded in the financial statements.
Recording a Short-Term Lease
A lessee should recognize short-term lease payments as outflows of resources (expenditure/ expense) based on the payment provisions of the lease contract. The lessee should recognize an asset if payments are made in advance or a liability for rent due if payments are to be made subsequent to the reporting period.
A lessor should recognize short-term lease payments as inflows of resources (revenue) based on the payment provisions of the lease contract. Additionally, the lessor should recognize a liability if payments are received in advance or an asset for receivable if payments are to be received subsequent to the reporting period.
In summary, adoption of the new government leasing standard will be complex and challenging. In addition to the basic concepts noted in this article, consideration of transactions outside the government should be considered such as blended component units and discretely presented component units as well as specific Lessor and Lessee considerations.
Additional information can be found in the following links.