2022 GASB LEASE Summit: Q&A, Important Insights for GASB 87 Adoption

by | Jan 28, 2022 | 0 comments

As companies review the new GASB standards, questions may emerge. Below are some of the questions submitted for our LEASE Summit – The GASB Series in January. Stay tuned for more LeaseQuery hosted virtual summits to assist with your implementation of GASB 87 and for a chance to ask your own questions regarding the complexities of the new lease accounting standards.

Lease inventory

1. What are some best practices for organizations to perform to ensure completeness of the lease population?

Here are some of the steps and tips we list in our GASB 87 Transition Guide and Transition Checklist:

  • Have each department send a list of their leased assets, including the lease start date, lease end date, and payment terms.
  • In a separate step identify all offices, garages, maintenance and storage facilities, all locations, including owned properties, and have all of these locations send you their lease data as well.
  • The easiest way to conduct this is to send a template to a point person for each department and each location to complete. Using a template will make compiling and analyzing the data more efficient. This template should include:
    • Asset type
    • Internal identification information
    • Lease start date
    • Asset possession date
    • Lease end date
    • Payment terms
  • Consolidate the data gathered from each source and double-check for duplicates. Using a template as mentioned above will make this step easier.
  • Match the leased assets to the correct lease agreements, focusing on the lease identification information—location, asset serial number, contract, vendor data, etc.—to ensure there are no duplicates.
  • Once you have identified and removed duplicates and correctly matched leased assets to lease contracts, this is your lease listing – validate its completeness.
  • Gather the details of the five-year lease commitment schedule in the notes to your financial statements and compare the lease commitments schedule to your newly compiled lease inventory
  • Obtain a listing of recurring payments in your various rent accounts from your AP department. Compare these recurring payments with the lease agreements you compiled as another check your lease inventory is complete.
  • Extrapolate your expected annual rent expense using the payment terms for each lease on your lease listing. Then, perform a reasonableness test by comparing your estimated annual rent expense to the total annual rent expense from the general ledger. The amounts should be materially consistent. Understanding any significant variances will help you determine if your lease inventory is correct.

2. Is there a list of questions we should ask to determine if a lease is capitalized or not? Under legacy GASB we had 4 questions…does this still apply under GASB 87?

Under GASB 87 we no longer have capital or operating leases, only finance leases. Therefore you only have to determine if your contract contains a lease. The list of criteria to review to determine if a lease is capitalized under GASB 87 is as follows:

  1. Is there an underlying nonfinancial asset?
  2. Does the contract transfer control of the underlying asset to the lessee? The control criteria as two separate components:
    • Does the lessee have the right to obtain the present service capacity of the underlying asset?
    • Does the lessee have the right to determine the nature and manner of use of the underlying asset?
  3. Does the contract specify a period of time in which the entity can control the underlying asset?
  4. Do you have an exchange or exchange-like transaction?

In addition to answering the questions above, an organization will also need to consider the nature of the contract to determine whether or not an agreement is within the scope of GASB 87. The following types of contracts are not in scope for GASB 87

  • Contracts transferring ownership of the underlying asset to the lessee at the end of the lease term
  • Contracts for intangible assets, biological assets, or inventory
  • Contracts where the underlying asset is financed with conduit debt
  • Supply contracts
  • Service concession arrangements

You can also check out LeaseQuery’s GASB 87 Lease Identifier – a tool that will record your answers to the criteria above and send you the results via email.

Materiality

3. GASB does not address a materiality threshold for leases. Can an organization set a materiality level to exclude lease populations? Currently, we use $5,000 for capital leases.

GASB 87 does not define or suggest a materiality threshold for determining whether or not a lease falls within its scope. However, the standard also does not prohibit using a materiality threshold. Common practice is for entities to look at the facts and circumstances of their organization and determine what an appropriate threshold may be for the capitalization of lease liabilities and lease assets. Also consider that excluding a large quantity of low dollar leases might result in a material impact on the financials, so the analysis may need to be completed from a couple of different perspectives. The next step is to discuss the threshold and your application of it with your auditors before you are too far along in the transition process.

As for the specific question of whether to apply your current asset capitalization threshold, LeaseQuery recommends reviewing your lease capitalization threshold separately from your asset capitalization threshold as the facts and circumstances of your leases are separate from your fixed assets.

Discount rate

4. How do you determine the incremental borrowing rate? What are some methods your clients have used to determine the incremental borrowing rate when it’s not explicitly stated in the lease?

Talk to your bank or lending institution, or if you currently have no debt, talk to a bank or lender and understand what they would charge your organization for borrowing the same amount as the lease over a similar term with similar risk.

Valuation

5. When considering the life of the ROU assets, should it be the life of the contract or the life of the asset?

The lease asset should be amortized over the shorter of the lease term or the useful life of the underlying asset. However, if the lease agreement contains a purchase option the lessee is reasonably certain they will exercise, the lease asset should be amortized over the useful life of the underlying asset.

6. How do you calculate the initial amount of the lease liability to record if rent has future escalation(s) based on CPI, which cannot be known ahead of time?

When the lease payments depend on an index or rate, such as CPI, you would calculate the initial value of the lease liability with the CPI in effect as of the commencement date of the lease. Then, the lease liability is only adjusted for changes in the index or rate if remeasurement is triggered by other circumstances and the change in the index or date is expected to significantly affect the lease liability value.

If no other changes trigger a remeasurement of the lease liability, and variance between the originally calculated payment amount and future payment amounts adjusted by changes in the index or rate will be recorded to outflows (or decrease of outflows) in the period incurred.

Fund accounting

7. Do we have to apply GASB 87 at the fund accounting level or the government-wide financial statement level?

If a lease is expected to be paid from general government resources, the lease should be accounted for and reported on a basis consistent with governmental fund accounting principles. There is not a requirement to include in a specific fund but leases are required to be included in your ACFR or annual government-wide financial statement.

8. Will the lease payments be recorded as principal/interest debt service on fund level financial statements for governmental funds?

Correct. Under GASB 87 you will account for all leases in fund accounting like you are accounting for capital leases today. Check out our article Government Fund Accounting: Types of Funds and Leases Under GASB 87 w/Journal Entries for an example of initial and subsequent entries for a lessee and a lessor.

9. Do we have to record other financial sources and/or other financial uses in fund financial statements when recording the initial lease liability as lessee and/or initial lease receivable as lessor?

Correct. Under GASB 87 you will account for all leases in fund accounting like you are accounting for capital leases today. Check out our article Government Fund Accounting: Types of Funds and Leases Under GASB 87 w/Journal Entries for an example of initial and subsequent entries for a lessee and a lessor.

Effective date and transition

10. We are a 9/30 year-end entity. Our 2022 fiscal year is 10/1/2021 – 9/30/2022. Please clarify again when GASB 87 is to be effective for us?

GASB 87 is effective for reporting periods beginning after June 15, 2021. This translates to any fiscal year beginning July 1, 2021, and later, or for a 9/30 year-end entity, the reporting period 10/1/2021 – 9/30/2022. Your financial statements issued as of 9/30/2022 will need to account for leases under GASB 87.

11. Are comparative statements required? In other words, if we are reporting 9/30/2021 and 9/30/2022 financial statements comparatively, must we also apply GASB 87 to the 9/30/2021 accounts?

GASB 87 should be presented retroactively to all prior periods presented by restating those prior periods if practicable. If your organization determines that restatement of prior periods is not practicable, you do have the option of applying the cumulative effect of GASB 87 as a restatement of the beginning net position (of fund balance or fund net position, as applicable) for the earliest period restated.

However, the guidance specifies that reasonable efforts need to be taken to calculate the restatement of prior periods, and not practicable is not meant to be synonymous with inconvenient. The notes to the financial statements will need to disclose the nature of the restatement and its effect, as well as the reason for not restating prior periods.

GASB 87 vs. GASB 96

12. How is an IT contract accounted for that has both software and hardware components?

Government IT contracts with software and/or hardware components may need judgment applied to appropriately account for them. If the contract is for hardware or tangible assets with or without maintenance included and meets the criteria for a lease, it will be accounted for under GASB 87. If the contract is for software or software and maintenance of the software only and meets the requirements, it should be accounted for under GASB 96. Any contract for service or maintenance only will not be in scope for either GASB 87 and GASB 96.

If the contract is a combination of tangible assets and software components, compare the costs of the software and tangible asset components. If the software component is insignificant compared to the tangible asset costs, apply GASB 87 accounting. On the other hand, if the tangible asset costs are insignificant compared to the software component costs, apply GASB 96.

Summary

These are some of the important questions our experts answered during our LEASE Summit – The GASB Series. If you want more information about the application of GASB 87 or GASB 96, check out our 2022 LEASE Summit GASB Series Recap.

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