ASU 2021-09 aims to help with adoption of new lease standard
On Thursday, November 11, 2021, the Financial Accounting Standards Board (the “FASB” or the “Board”) issued its latest Accounting Standard Update (“ASU”) to improve the new lease standard. The new standard offers private companies and not-for-profit organizations additional flexibility when selecting a discount rate during the adoption of Accounting Standards Codification (“ASC”) Topic 842. The Board’s intent is to ease the burden and hopefully reduce the cost of adoption for private entities.
Risk-Free Rate Option for Private Companies and Non-Profits
As previously written, ASC 842 offered private companies and not-for-profit organizations a practical expedient in selecting a discount rate in the adoption of the new standard. While public business entities have to use either the rate implicit in the lease or their incremental borrowing rate, private entities also have the option of using a risk-free rate. In general, the risk-free rate is much more readily determinable but results in higher lease liability and right-of-use asset values. However, the risk-free rate could only be used if it was an entity-wide election and applied to all leases.
The new standard, ASU 2021-09, allows private companies and not-for-profit organizations to elect to use the risk-free rate by class of underlying asset instead of requiring it to be used on an entity-wide level. The new standard also requires that when the rate implicit in the lease is readily determinable, the lessee use that rate, regardless of policy election.
As a practical matter, this will allow private entity lessees working to adopt the new standard to use the risk-free rate for smaller, less significant leases (such as office equipment) but use an incremental borrowing rate for larger leases (such as buildings).
This update comes a day after the FASB confirmed its commitment to the existing timeline for the implementation of the new lease standard. ASC 842 is effective for all entities for the first annual fiscal period beginning after December 15, 2021. This latest revision is to be adopted contemporaneously with the implementation of the new lease standard or, if already implemented, for fiscal years beginning after December 15, 2021, with early application permitted.
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