The new lease accounting regulations are set to change the way companies account for leases. The new standards will require entities that lease assets, or “lessees” to recognize on their balance sheets, assets, and liabilities of such leases. The guidance requires lessees to recognize assets and liabilities for leases having a lease term of more than 12 months. The new standards aim to aid the investors and other users of financial statements to understand the cash flows from leases.
Here’s is a comparison of ASC 842, IFRS 16 and IAS 17.
Per ASC 842 an entity shall classify each separate lease component at the commencement date. The lessee must classify leases into Finance or operating lease and the Lessor can classify the lease in to, Sales-Type Lease, Direct Financing Lease, and Operating Lease.
The classification of the lease depends on the 5 criterion process, The accounting treatment for lease is contingent on the type of the Lease classification.
There are major changes in lease accounting that comes with ASC 842 replacing the US GAAP standard 840. The one big reason behind the introduction of ASC 842 was basically to include the operating lease accounting treatment captured in balance sheet, which was not in the case of old standard (US GAAP).
The new standard aims to overcome the major loophole in ASC 840 – “Off-Balance Sheet operating Leases”.