Most state and local government entities that deal with leases are required to comply with a new lease accounting standard, GASB 87 as of January 1, 2020. This new standard brings leases onto the Statement of Net Assets that were previously off the Statement of Net Assets. Although the effective date has passed, many agencies are still struggling to implement the new standard, and they are not alone, as international and public companies are similarly transitioning to their own new lease accounting standards (IFRS 16 and ASC 842). Here’s a quick summary of the key components of GASB 87 that all government agencies should know.
GASB 87 History
The GASB first issued a lease accounting standard (GASB 13) in 1990 that closely resembled the FASB’s guidance on lease accounting. Shortly after the issuance of new IASB and FASB guidance on lease accounting (IFRS 16 & ASC 842), the GASB followed suit and issued new guidance of their own in June 2017. Here’s a brief history of GASB 87, and when government agencies need to be compliant:
What's Changed Under GASB 87?
Under the old standard (GASB 13), only capital leases were captured on the Statement of Net Assets, while operating leases were off the Statement of Net Assets and were reflected only in the Statement of Activities. There were strict guidelines (“bright lines”) that classified leases as either operating or capital. Because of this classification system, agencies were able to structure lease agreements to qualify as an operating lease when in substance they more closely represented a capital lease. In classifying leases as operating, these entities were able to keep future lease obligations off the Statement of Net Assets, making key ratios appear better.
The new standard now requires virtually all leases to be reflected on the Statement of Net Assets. Therefore, a lessee will recognize a lease liability, right of use (ROU) asset, and amortization expense for each lease. GASB 87 has the biggest impact on what were previously considered operating leases, as shown below:
P&L Presentation Under GASB 87?
The GASB’s old lease accounting rule (GASB 13) was derived from the FASB’s statement No. 13 and therefore, GASB and FASB entities reported leases similarly. However, under the new standards, FASB and GASB entities will apply different accounting for operating type leases. Similar to IFRS 16, GASB 87 eliminates the classification of an operating lease (unless it’s short-term).
Accounting For A Lease Under GASB 87
Previously, a fixed-payment operating lease was simple, and monthly entries were all the same:
Now the accounting is much more complex:
Here’s a breakdown of the accounting under the new standard:
- Initial Journal Entry – A lease liability (equal to the present value of all future lease payments) is recorded on the commencement date of a lease. A right of use asset is recorded at the same amount, and adjusted for initial direct costs, prepayments or incentives.
- Subsequent Journal Entries - Accounting for finance leases under GASB 87 is similar to capital leases under the old standard. The lease liability is treated as debt and accounted for using the effective interest method, where interest expense is incurred monthly and the liability is reduced as payments are made. The capitalized right of use asset is treated like a fixed asset and amortized on a straight-line basis over the lease term.
Next Steps For GASB 87 Entities
Unlike the lease standards issued by the other accounting standards boards (IASB & FASB), the GASB has provided limited practical expedients and transition relief to GASB 87 entities. Therefore, it’s even more critical for government entities to respond early. Evaluate software solutions specifically developed for GASB 87 that can perform the proper calculations, without the need for manual calculations in Excel.
To help in your evaluation of software solutions, check out our blog post outlining best practices for selecting a lease accounting solution.
For information on automating GASB 87, register here for our joint webinar with RSM on February 26 at 1pm ET (Noon CT).