Recent Lease Accounting Standards and Balance Sheets - Impact on the Construction Industry
New lease accounting standards went into effect for fiscal years ending after Dec. 15, 2022. This change impacts the Construction Industry through its impact on balance sheet and financial statements. Any property or equipment a construction company leases must be recorded on the balance sheet, under this recent update.
Rule change for privately owned companies-change effects Construction
Changes to note according to Marcum Accountants and Advisors:
“Any lease with a term of one year or more will need to be recorded as a right-of-use asset and liability and amortized over the full lease term. That could have a massive impact on working capital calculations throughout the industry because any long-term leases will also be recorded as current liabilities, compared to just long-term assets.”
It’s business as usual when it comes to details and construction accounting
Please remember that not all companies are created equal, therefore each company may see the effects of these changes differently. Additionally, there will be some things that are sure to impact every business.
To comply with the new standards, here are some aspects to keep in mind:
- Short-term leases are exempt from the new reporting requirements. Don’t try to create a loophole, the GAAP has already indicated that short-term leases will be further investigated. E.g.: any lease of 12 months or less will need to be vetted that it is, in fact, short-term and will not be renewed at the end of each year.
- Companies are encouraged to use their own risk-free interest rate. According to Marcum LLP, ”Interest expenses associated with leases are calculated based on the rate implicit in the lease — but in most instances that is an unknown figure.”
- Track down the contracts for the lease agreements. Reading and understanding the obligations is critical so that they are reflected on the balance sheet correctly. Be sure to note any flexibility within these agreements. E.g.: Any lease that allows the return of equipment before the full term may have an impact on how to represent the lease on the balance sheet.
- Embedded leases are also affected under the new standard. E.g.: if your company is leasing office equipment( printers), or say software, these will need to be reflected on the balance sheet.
Don’t make the mistake of not following the new standard. If you don’t put the new rules into play it could cost you big time-like ruining relationships with lenders. To be clear, no matter what this impact will affect you. E.g.: If you have several leases/the value of the leases is high, it's likely that you see a decrease in your pockets, as the contractor, with this change.
It is suggested that if your financial statements, under this new lease standard, leave you with a bad taste in your mouth, you should schedule a meeting with your lender or bonding partner. Be transparent with them and provide answers to questions they may ask. Talk to them about this change and remind them that the business is still healthy, but has a new way of displaying leases.