< Intro >

- Welcome back to Count Me In.

The podcast for accounting

and finance professionals
working in business.

I'm Adam Larson.

Today we'll be discussing
a perennial hot topic,

lease accounting, specifically 
FASB's new standards

for private companies
and nonprofits under ASC 842.

And just in case you're unaware,

the deadline to transition
to the new standards

is December 31st, 2022.

Thankfully, I'm joined, today,
by a true expert

in this, infamously, thorny topic.

Ane Ohm, is a CPA as well as co-founder
and CEO of LeaseCrunch,

a software company that helps companies
simplify their lease accounting.

If you're looking for practical tips
and best practices

to make lease accounting
a little less stressful,

this is the conversation for you.

Let's get started.

< Music >

Well, Ane, I want to thank you so much

for coming on the podcast, today.

We are going to be talking
about lease accounting.

And as all of us know that the standard,

the new Lease Accounting
Standard deadline

is approaching very quickly,
and people should get started.

We've been talking about
this since what, 2018.

And if you haven't gotten started
the time now is to get started.

What do you think?

What is your advice to people
as we start talking about this?

- I think the big thing with any
accounting standard is that,

and when I was running
a different company.

A new accounting standard
would come up

and I would ask my accountant,
"What is the last moment

I have to do anything about this?"

And that's when I would do it.

And the challenge with
the lease accounting standard,

if you wait there's a couple of things,

first of all, leases can be complicated.

And, so, that analysis of your lease,

spending the time understanding
it in the context

of the new Lease Standard
can take some time.

And, secondly, if you need help

and you wait the experts
are going to be busy.

So you're going to have
a really difficult time

getting a hold of someone

who can really guide you
through the right steps.

So we're actually hearing CPA firms
state that if their clients wait,

they're going to have to charge them more

in order to be able to
offer that assistance.

Because they're going to be
so busy with other things.

If you wait until January, February,
this is going to be rough.

So start now, get on top of it,

it's just going to make things,
life, better for you.

- Yes, for sure, because
you don't want to wait

till the last possible second

because it's going to fall back
in your face.

Do you think that maybe
we could start, in this podcast,

to maybe go over
some practical expectations

and how to make your adoption easier?

Especially if you are
just getting started now,

or even if you've been aware,
you've been preparing.

But to the actual practical application,

it's still going to be a difficult process.

- Yes, so there's something to...

when you think about
the new Lease Standard,

you have basically two types of leases.

Leases that existed before the standards
needed to be implemented,

and then leases that start after
the standard need to be implemented.

So talking about those leases that started

before your initial application date

of the new standard.

The FASB, Financial Accounting
Standard Board

really wanted to make sure
that this was as easy as possible.

It sounds like that might not be true,

but it is, they have said that repeatedly.

And, so, what they've done is

they've actually provided
some practical expedience

and those practical expedience,

the whole purpose of them
is to simplify the new standard.

So for those transition leases,
those leases that existed before,

if you have a nice software
available to you,

there's really only six pieces
of information that you need to do.

If you apply those practical expedience,

make sure you're doing the things that
make this as easy as possible.

And then collect those six 
basic pieces of information.

And those are; start date,
well, guess what,

that start date is going to be

the initial application
date of the standard.

So if you know that already, huh!

If your end is December 31st,

that's going to be January 1st, of 2022.

All right, so we got one.

Second one is,
"When does the lease end?"

It can be a little more complicated

because you have to not just say,
"When do I stop paying?"

When is the initial end of the lease?

I have to, also, look at it and see

“What might I be reasonably
certain to renew a term

or might I be reasonably certain
to terminate early?”

So you really have to look
at what is the total lease term,

including renewals,
if you're reasonably certain.

It's a high bar but you do have to look at it.

The third thing is a discount rate.

So, and I don't think we know this

but those first two seem,
they are pretty easy.

And the discount rate is the FASB offers

the ability to just use the risk-free rate.

So that's great because
that's publicly available.

You don't have to really
think about it too hard.

Or the challenge with
the risk-free rate is that

it will tend to be lower,

which means your lease liability
will be higher.

If you don't want that for larger leases,

the FASB also, more recently, allows us

to decide your discount rate
based on asset class.

So you can say, "All right,
for my office lease,

which is a big lease,
it's going to be big dollars,

I'll spend the time to figure out
the higher discount rate.

And if I have vehicles or photocopiers,

I'm just going to use the risk-free rate."

So that's a nice thing,
so that's the third piece of information.

Fourth one, is, hey,
is this an operating lease

or a finance lease?

Well, once again, FASB says,
"You know what,

if you had an operating lease before
it's an operating lease now.

If you had a capital lease before
it's a finance lease now."

So you can elect that practical expedient

to just move forward,
so that's the fourth one.

Boom, you know, that one.

Fifth thing is, what are
any existing balances

on your balance sheet
as of that first date?

All right, if you had an operating lease

and you had some deferred rent
and deferred rent balance,

you've want to make sure
to include that balance.

Because you've got to be able
to get that off the books.

And then finally, what are your
remaining lease payments?

So those six pieces of information,

while that it takes a little bit of analysis,

they're not too complicated.

So when I say get started now,

I also mean that getting started
now it's not overwhelming,

it's not hundreds of bits of information.

And I think that's a big thing
that people do,

is they assume it's going to be so hard,

it's just better to push it off.

- Yes, you get overwhelmed
by whatever the task is

and you never actually start it,

and then it becomes
even more overwhelming

because you're behind.

And that's practical application
of just business in general,

trying not to procrastinate, right?

- Which I have to say, I mean,
I live that every day.

"When do I have to do this?"

It's just for this particular one,
there's another reason

why getting on top of this
can be really important.

And that is many private companies,

the reason they follow GAAP accounting

is because they have a bank loan.

And if they have a bank loan,
adding lease liabilities

could cause them to be in violation
of some of their debt covenants.

Now, those debt covenants
are changeable,

but you have to get on top of it.

So what we hear from banks,

is banks are waiting for you
to come to me and tell me,

if you think you're going to be in violation.

Well, in order to know that
and know what those numbers are,

again, getting started early
makes a ton of sense.

You can have conversations
with your banks.

Make sure to make adjustments

so that you hit your
December 31st financials.

You don't end up with
a debt covenant violation

that you really didn't need to have.

So that is another really important reason

to get on top of this early,
and pay attention

to those practical expedience
that the FASB offers to make it easier.

I'm also somebody who loves
to make things harder.

Like, "I'm going to do it the real way,

I don't need the shortcut."

No, come on, in this particular case
it really makes a ton of sense

to pay attention to those opportunities.

- It does make a ton of sense

and something that you spend
a little bit of time on.

And I think we might need
to delve into a little bit more,

are those discount rates
made available by FASB.

I feel like that's something

that you're really going to have
to adjust your formulas.

Or if you're using a software,

you're going to have to really adjust
and really re-look at everything

to make sure that you're
following that properly.

- Yes, there are a couple of things
around discount rates

that are really important
to just know upfront.

One is, again, going back to
those transition leases,

the FASB allows you to either determine,

so because a discount rate matters,

the term, the length of the term.

So if you are borrowing $100

and you borrow it
for a day versus 10 years,

you're going to pay a different rate.

The longer it is you pay more.

So what you want to do
is look at, you can decide

do you want to use a discount rate
for the remaining term,

or do you want to use a risk discount rate

for the original term of the lease?

And you have to make
that election for every lease.

So you can't pick and choose,

that is something you have
to make for every lease.

So that's just something to keep in mind,

looking at the rates
that are available to you.

Do you want to go back to the term?

So if it's a 10-year lease,
but they only have a year left,

do you use a one-year term
or do you use a 10-year term?

So that's one thing.

Second one is look at,
consider materiality,

and what's going to be
the easiest approach to this?

So what does that mean,
for your more material leases,

spend the time to figure out
a discount rate

that would be specific to.

So the Lease Standard says
you're supposed to use

the rate implicit in the lease,
if it's readily discernible.

That is almost never readily discernible.

So it's nice that they say it
but it's just, kind of, a pipe dream.

You just don't generally have all
of the information that you need,

in order to know the rate implicit
in the lease from a lessee standpoint.

So then you have to go look at it

and say, "Okay, well,
my discount rate needs to be,

then, the collateralized
borrowing rate that I would need,

if I was to borrow money to buy this asset

for this amount of time.

What is that rate?

Just inherently you can feel like,

"Oh, my gosh, how the heck do I do that?"

So it's going to take a little bit of time

to figure out your discount rate,

if you have to actually calculate it.

So you only want to do that
for the assets that matter.

You only want to do that
for where it's material.

So that might be your office lease,

if you're adding a million dollars
onto the books,

you probably want to make sure
that you make that as low as possible.

- Sure.
- So using a higher discount rate

is going to be a benefit.

Whereas for those smaller leases,

just take advantage
of that practical expedient.

Use the risk-free rate,
the published rate out there, boom.

Look it up, boom, you're done,
it's going to be much easier to do.

And, again, for those transition leases,

as you are making the transition
to the new standard,

that rate would be the rate as of,

if December is year-end,

it's going to be the rate
as of January 1st, 2022,

so that's when you will identify that rate.

- I just need to verify something;
you keep saying 2022,

do you mean 2023 or is it
the rate of January, 2022?

- This standard needs to be,

so if you have a December 31st year-end,

you need to be implementing
this standard

for your December 31st, 2022 financials.

- Oh, okay.
- So if you haven't started now,

that means you are going back to January

and you're figuring everything
out back to January.

The reason why so few people
have started is because

the standard says you don't
have to implement

the standard for quarterly,
for interim financials, in 2022.

You only have to do it for year-end.

On a go-forward basis,
you'll have to do it

for all of your financials,
any financial that you publish.

So we accountants are saying,
"Yay, I don't have to do anything yet,

because it's not until year-end."

- Yes.
- Now,

but the fact of the matter is

you do have to go back to January 1st,

and that is actually
another practical expedient

that is offered by the FASB.

Which is, let's say you have
comparative financial statements,

you have two years
that you publish every year.

You do not have to restate prior years,

so that's a good thing.

So if you have '21 and '22
on your financial statements,

you can just implement this, as of 2022.

I think, I know of one situation,

where someone went back
and restated prior years.

Almost everyone is like,
"Whew, I'm not doing that.

I don't care if they're not
very comparative for one year,

I'm not restating 2021 if I don't have to."

- For sure, all right, so 
there's another type of lease

that I've heard about that
I know that this, particular,

implementation affects is called
the Related-party Leases.

Can we maybe talk about those a little bit,

especially since it affects
the smaller organizations?

- Absolutely, it's actually incredibly
common for an organization.

Let's say you have a factory,

and they're some sort of manufacturer.

It is a common practice
to have the building

that the manufacturing
company operates out of,

to be owned by a slightly
different set of owners.

So it could be a parent sold
the business to a child

and retains ownership of the building.

Or it could be, I've seen opportunities

where the executive leadership
has an opportunity

to buy out the building

and this is just another income opportunity for them, another way to...

that's from a compensation standpoint.

So anything like that
where there are transactions

between two separate entities,

but there's a strong relationship
between them,

you have to disclose that.

So that's what's important
about related parties.

The second thing from a lease standpoint,

that's important about related parties,

is that it may not be
very well documented.

So what do we pay it for, how long?

How long are we going to
be in this building?

There may not be a lease.

There may be a lease that goes on
for a really long time.

So there are so many different things

that can happen with related party leases.

And, so, people are asking
a lot of questions,

they're really nervous about 
their Related-party Leases.

So the thing that's really
important about this

is that Related-party Leases,
for the new Lease Standard,

you do not have to try to conjecture
what might happen.

You actually go to the legally
enforceable provisions.

If there is no lease, you might not
have something legally,

but what would be legally enforceable?

So what does that mean?

If you have a written lease,
you just look at those terms

and you apply the new Lease Standard
according to those terms.

You don't have to think,
"Well, we're never going to move,

so this should go on for 50 years."

And now you have this
massive lease liability

that really isn't the intent
of the new Lease Standard,

not at all, that is not the intent.

So the fact of the matter is,
for Related-party Leases,

you look at it and you say,
"What is legally enforceable?"

And that can change,
people could decide

to change their leases
to ensure that they're not,

and really the big thing is not
overstating the lease liability,

that's what we all care about.

We don't want this huge liability
that skews our books.

And, so, the important 
piece of that is to remember

who is the user of
your financial statements.

So, if it is, again, to go 
back to if it's the bank

is the primary user of your
financial statements,

and they understand that 
related-party relationship,

and they understand how that's getting
reflected onto the financial statements,

that's what's most important.

It's not just about complying with GAAP,

it's that the users of
the financial statements

have a clear and transparent
understanding of your business.

- Mm-hmm, so I know that 
when this was first enacted

or talked about in 2018,

it affected all of the public companies.

So now it's affecting everybody,

if you follow GAAP you have to do this.

Now, let's say you're a small company,
small organization,

and you may only have one lease.

You're like, "Oh, I don't need to do that,
I just have one." 

That would be incorrect for you
to think that way, correct?

- Yes, so in 2022 if you have
to follow GAAP

and you have even a single 
lease, this applies to you.

And the thing that's important
to remember about that single lease,

is it's oftentimes your office space.

So it's a material lease,
not just a couple of hundred dollars,

but it's usually thousands
and thousands of dollars,

and would be material
to your financial statements.

So it really is important to make sure

that you're paying attention to this.

I remember one of the very early days
I was doing a training.

I was talking about all of this,

going through a whole training
about everything relating to this standard.

And the first question
was a guy in the back,

he's like, "So, wait a second,
does this apply to all of my leases?

What about my vehicles?

Well, what about my equipment?"

He just was sure that maybe
it was just real estate.

I'm like, "No, it is all leases.

If it's a physical asset, it's all leases."

So it has been, and we saw
this for public companies,

where maybe they just didn't
pay as much attention

to operating leases because
they just expensed it.

So it didn't really matter
if they identified them

when they started looking through

all of the arrangements that they had.

For example, hospitals, 
hospitals will use consumables.

So let's say it's a thermometer,

and the thermometer
has a little plastic tip on that,

this is back when they
actually had to touch you,

put it in your ear or on your forehead,

so that that little plastic tip
was a consumable.

You need to dispose of it
every single time.

So companies would actually say,

"Hey, if you buy all of those
consumables from us,

we'll throw the thermometer itself in

and you don't have to pay extra for it,

if you buy this much in consumables."

Well, guess what, that thermometer
actually becomes a lease.

- Wow.
- Yes, because it's a physical asset

and you're using it
for a period of time

and you are compensating
a company for it.

So you got to pay attention to
the physical assets

that your organization is using.

Very importantly, it doesn't 
have to be called a lease

in order for it to be considered a lease

under this new Lease Standard.

- So you really got to read the fine print

and the rules, and see exactly what it is.

- Yes, so one of the things that,
from a resources standpoint,

to, for example, uncover situations
like I just described.

We actually have what we call
an embedded lease identifier

for free, on our website.

You go to our Resources page
and the purpose of it

is to help an organization
understand is this contract,

is this arrangement, is this agreement,

is it possibly a lease?

Is there possibly a lease in here?

And you go through five questions
and they're not easy.

But it's just five questions, one at a time,
with examples of yes versus no. 

And at the end you actually can 
have a report emailed to you

that says, "Yes, this is a lease."

Or "No, this is not a lease."

And for an organization,
this can be a helpful audit tool

to show their auditors,

"Hey, we went through
all of our arrangements."

All these different reasons why,
maybe I have a regular payment

to a company and I just
want to make sure

that is this, or is this not actually a lease?

I've gone and I've done the consideration,

and I know it's not a lease
and it's okay that I don't apply

the new Lease Standard to this.

So the good news is
there are resources out there,

look at our website, leasecrunch.com,

we have a lot of free tools, and guides,
and educational materials

to help people understand this standard.

It's hard enough, leases are complicated.

We don't need to make it
harder than it has to be,

so, we really want to try to ease
that burden for everyone.

- Well, awesome, well, and I'll make sure

to have those links in our show notes.

So my audience, please make 
sure you click those links.

And, Ane, thank you so much
for coming on

and trying to break this complicated
subject down for us today.

I think we all have probably
have a better understanding.

- My pleasure, thank you very much
for having me.

< Outro >

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