On October 25, the Financial Accounting Standards Board (FASB) issued a simpler accounting option that will enable private companies to more easily measure certain types of shares they provide to both employees and nonemployees as part of compensation awards. Here are the details.

Complex rules

Many companies award stock options and other forms of share-based payments to workers to promote exceptional performance and reduce cash outflows from employee compensation. But accounting for these payments can be confusing and time-consuming, especially for private companies.

To measure the fair value of stock options under existing U.S. Generally Accepted Accounting Principles (GAAP), companies generally use an option-pricing model that factors in the following six variables:
1. The option’s exercise price,
2. The expected term (the time until the option expires),
3. The risk-free rate (usually based on Treasury bonds),
4. Expected dividends,
5. Expected stock price volatility, and
6. The value of the Company’s stock on the grant date.

The first four inputs are fairly straightforward. Private companies may estimate expected stock price volatility using a comparable market-pricing index. But the value of a private company’s stock typically requires an outside appraisal. Whereas public stock prices are usually readily available, private company equity shares typically aren’t actively traded, so observable market prices for those shares or similar shares don’t exist.

To complicate matters further, employee stock options are also subject to Internal Revenue Code Section 409A, which deals with nonqualified deferred compensation. The use of two different pricing methods usually gives rise to deferred tax items on the balance sheet.

Simplification measures

Accounting Standards Update (ASU) No. 2021-07, Compensation-Stock Compensation (Topic 718): Determining the Current Price of An Underlying Share for Equity-Classified Share-Based Awards, applies to all equity classified awards under Accounting Standards Codification Topic 718, Stock Compensation.

The updated guidance allows private companies to determine the current price input in accordance with the federal tax rules, thereby aligning the methodology used for book and federal income tax purposes. Sec. 409A is referenced as an example, but the rules also include facts and circumstances identified in Sec. 409A to consider for reasonable valuations. The practical expedient will allow private companies to save on costs, because they’ll no longer have to obtain two independent valuations separately for GAAP and for tax purposes.

Right for your Company?

Private companies that take advantage of the practical expedient will need to apply it prospectively for all qualifying awards granted or modified during fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022. Early application, including application in an interim period, is permitted for financial statements that haven’t yet been issued or made available for issuance as of October 25, 2021. Contact your CPA for more information.

© 2021

Updated accounting rules for long-term leases took effect in 2019 for public companies. Now, after several deferrals by the Financial Accounting Standards Board (FASB), private companies and private not-for-profit entities must follow suit, starting in fiscal year 2022. The updated guidance requires these organizations to report — for the first time — the full magnitude of their long-term lease obligations on the balance sheet. Here are the details.

In 2019, the FASB deferred Accounting Standards Update (ASU) No. 2016-02, Leases (Topic 842), to 2021 for private entities. Then, in 2020, the FASB granted another extension to the effective date of the updated leases standard for private firms, because of disruptions to normal business operations during the COVID-19 pandemic.

Currently, the changes for private entities will apply to annual reporting periods beginning after December 15, 2021, and to interim periods within fiscal years beginning after December 15, 2022. Early adoption is also permitted.

Most private organizations have welcomed these deferrals. Implementing the requisite changes to an organization’s accounting practices and systems can be time-consuming and costly, depending on its size, as well as the nature and volume of its leasing arrangements.

The accounting rules that currently apply to private entities require them to record lease obligations on their balance sheets only if the arrangements are considered financing transactions. Few arrangements are recorded, because current accounting rules give lessees leeway to arrange the agreements in a way that they can be treated as simple rentals, or operating leases, for financial reporting purposes. If an obligation isn’t recorded on a balance sheet, it makes a business look like it is less leveraged than it really is.

The updated guidance calls for major changes to current accounting practices for leases with terms of one year or longer. In a nutshell, ASU 2016-02 requires lessees to recognize on their balance sheets the assets and liabilities associated with all long-term rentals of machines, equipment, vehicles, and real estate. The updated guidance also requires additional disclosures about the amount, timing, and uncertainty of cash flows related to leases.

The new definition of a lease is expected to encompass many more types of arrangements that aren’t reported as leases under current practice. Some of these arrangements may not be readily apparent, for example, if they’re embedded in service contracts or contracts with third-party manufacturers.

You can’t afford to wait until year-end to adopt the updated guidance for long-term leases. Many public companies found that the implementation process took significantly more time and effort than they initially expected. Contact us to help evaluate which of your contracts must be reported as lease obligations under the new rules.

© 2021

Accounting departments across the country are facing multiple challenges, from daily cash management to complex accounting matters. In addition, most entities are navigating the available governmental relief programs related to the COVID-19 pandemic and are negotiating rent deferrals and concessions with their lessors. Accounting for rent deferrals and concessions raised a number of questions by the lessor and the lessee. Can you imagine the number of leases Walmart or Starbucks have?

The Financial Accounting Standards Board (“FASB”) staff has developed a question-and-answer document to address frequently asked questions in regards to rent concessions resulting from the COVID-19 pandemic. The FASB staff has provided interpretive guidance, in the form of an accounting policy election, to simplifying the accounting for lease concessions resulting from the COVID-19 pandemic. If such election is made, entities will not have to analyze each lease agreement to determine if enforceable rights and obligations for rent concessions exist in the agreement. In other words, they can elect to not apply the lease modification guidance as outlined in the new lease accounting standard (Topic 842) or the accounting for a change in lease provisions guidance as outlined in the legacy lease accounting standard (Topic 840) to those agreements.

This election is available for rent concessions that are related to the COVID-19 pandemic and do not result in a substantial increase in the lessor’s rights or the lessee’s obligations under the agreement. For example, total cash flows resulting from the modified agreement are substantially the same as or less than the total cash flows required by the original agreement. However, the term “substantially the same or less” was not defined by the FASB staff and entities will need to use reasonable judgement.

The FASB staff noted that there are multiple ways to account for rent deferrals when electing to not apply the lease modification method; however, the FASB staff has not indicated a preference for one method over the other. The FASB staff listed the following two methods:

1. Account for the concessions as if no changes to the lease contract were made. Under this method, a lessor would increase its lease receivable, and a lessee would increase its lease payable. In the income statement, a lessor would continue to recognize income, and a lessee would continue to recognize expense during the deferral period.

2. Account for the deferred payments as variable lease payments.

Regardless of the election made, entities should disclose material concessions and its accounting impacts. This FASB staff interpretive guidance is a welcomed simplification for many businesses that are already working through several new accounting changes, such as revenue recognition, leases, and credit losses.
Visit Haskell & White’s COVID-19 Resource Center for ongoing updates and resources available to further assist you, or contact our local accounting firm so we can discuss your particular situation.

Private companies and most nonprofits were supposed to implement updated revenue recognition guidance in fiscal year 2019 and updated lease guidance in fiscal year 2021. Amid the novel coronavirus (COVID-19) crisis, the Financial Accounting Standards Board (FASB) has decided to give certain entities an extra year to make the changes, if they need it.

On April 8, the FASB agreed to issue a proposal that would have postponed the effective dates for the revenue recognition guidance for franchisors only and the lease guidance for private companies and nonprofit organizations that haven’t already adopted them. In a surprise move, on May 20, the FASB voted to extend the delay for the revenue rules beyond franchisors to all privately owned companies and nonprofits that haven’t adopted the changes. FASB members affirmed a similar delay on the lease rules.
The optional “timeout” is designed to help resource-strapped private companies, the nation’s largest business demographic, better navigate reporting hurdles amid the COVID-19 crisis. A final standard will be issued in early June.

Under the changes, all private companies and nonprofits that haven’t yet filed financial statements applying the updated revenue recognition rules can opt to wait to apply them until annual reporting periods beginning after December 15, 2019, and interim reporting periods within annual reporting periods beginning after December 15, 2020. Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606), replaces hundreds of pieces of industry-specific rules with a principles-based five-step model for reporting revenue.
FASB members extended the revenue deferral to more private companies and nonprofits to help those that were in the process of closing their books when the COVID-19 crisis hit. Private entities told the board that having to adopt the standards amid the work upheaval created by the pandemic layered on unforeseen challenges. In today’s conditions, compliance may need to take a backseat to operational issues.

Last year, the FASB deferred ASU No. 2016-02, Leases (Topic 842), for private companies from 2020 to 2021. This standard requires companies to report — for the first time — the full magnitude of their long-term lease obligations on the balance sheet.
The FASB’s recent deferral will allow private companies and private nonprofits that haven’t already adopted the updated lease rules to wait to apply them until fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022. Public nonprofits that haven’t yet filed financial statements applying the updated lease rules can opt to wait to apply the changes until fiscal years beginning after December 15, 2019, including interim periods within those fiscal years.

The new revenue recognition and lease accounting rules will require major changes to your organization’s systems and procedures. If you haven’t yet adopted these rules, Haskell & White can help you develop a plan that fits your schedule while you work through the many operational changes of operating safely in a global pandemic.

© 2020

There’s been lots of back and forth about the merits and drawbacks of off-balance sheet accounting, but no matter which side of the argument you’re on, a new standard for lease accounting has been established and it will affect your business. As demands for transparency in financial reporting rise, all leases—from office equipment to warehouses to manufacturing equipment—will need to be presented on your company balance sheet. Organizations that were previously expensing all lease payments through operations under the historical lease accounting treatment will see a significant change in their financial statements.

Here’s what you need to know about how these new lease accounting practices will apply to your business.

The new standard essentially requires all leases to receive similar treatment to what were formerly called “capital leases,” specifying that property under lease now must be recorded as an asset. The related leasing obligation is then recorded and accounted for in a manner that closely mirrors a mortgage. Capital leases are now known as “financing leases,” with similar accounting to that from days of old. Leases that were formerly expensed as operating leases will now result in a capitalized asset—along with a corresponding liability.

The new standard presents changes to wording and underlying definitions as well as practical changes that can complicate accounting and disclosures.

First, you’ll have to identify all leases. Some will be easy to spot, since the title on the top of the document will be clearly marked. However, the new standard also applies to certain leases that may be embedded within other contracts for services. Depending on the size and scope of your business, combing through all service agreements can take time, so it’s best to get on top of this task right away. Even though you may consider this an easy step, ask for help from your CPA firm. They will be able to provide guidance that addresses any specific issues with the leases.

Next, you’ll need to identify a number of variables related to each lease/classes of leases, some of which can be difficult to ascertain. These variables include: the lease term, what is included in payments, and the underlying interest rate. Additionally, whether a lease is classified as a financing lease or operating lease can actually shift over time, based on changes in circumstance. This classification adjustment also applies to overall accounting and disclosure when significant events occur, such as renewal or early termination.

If you haven’t begun to review your lease holdings, you’re not alone. Early indicators suggest that many companies have not yet started preparation to implement this new standard, even though it is effective if your year-end is after December 15, 2018 (for public companies). For private companies, implementation of the new standard can begin for your 2020 calendar year if your fiscal is on the calendar year. In either case, the transition to this new standard will require you to calculate the effects on a retrospective basis for at least one year prior to implementation.

Reach out to your CPA firm to start digging into this ASAP. With such a large volume of data to collect and analyze, the sooner you begin, the better.