By Jaclyn Veno, CPA, Galasso Learning Solutions
This article appears in the Spring 2023 issue of the South Carolina CPA Report
For more than a decade, leases have been a hot topic in accounting. Although Topic 842 was required to be adopted by the end of 2022 for private entities and many nonprofits, there are still changes that are being made to the ASU 2016-02 with respect to leases between related parties under common control.
On February 15, 2023, the FASB met to discuss the changes to Topic 842 that they proposed in November 2022. After the 45-day comment period, the FASB received 29 comment letters that served as their basis for deliberation. During this meeting, the FASB affirmed the proposed changes to Topic 842, Leases for related parties under common control, and announced that a new ASU is expected to be issued by the end of March. On March 27, 2023, the FASB issued ASU 2023-01 – Leases (Topic 842): Common Control Arrangements.
The ASU provides a practical expedient for private entities & nonprofits without conduit debt for their common control lease arrangements. The practical expedient allows these entities to use the written terms and conditions of their contracts to determine whether a lease exists and, if so, the classification and accounting for that lease. If no written terms and conditions exist, the entity would not be permitted to apply the practical expedient and would be required to use the legally enforceable terms and conditions to apply Topic 842. Legal enforceability can be difficult to determine and was met with much pushback from private entities, especially when the entities were related. However, the ASU 2023-01 allows an entity to document existing unwritten terms and conditions of a common control arrangement in transitioning to the practical expedient. This should serve as an incentive for private companies and nonprofits under common control arrangements to document the terms and conditions of their leases to take advantage of the practical expedient. Theoretically, an entity could simply enter into multiple one-year contracts to avoid the implementation of Topic 842 for these leases.
Aside from the practical expedient, the FASB changed the amortization of leasehold improvements for all common control entities, including public entities, in a 4-3 vote. ASU 2023-01 requires that leasehold improvements between entities under common control be amortized over the useful life of the leasehold improvement if the lessee controls the use of the underlying asset through the lease. Suppose the lessor obtained an underlying asset through a lease with another entity, not within the same common control group. In that case, the amortization period may not exceed the lease term associated with the lessor’s lease with the other entity. In addition, leasehold improvements associated with common control leases are required to be accounted for as a transfer between entities under common control through an adjustment to equity if and when the lessee no longer controls the use of the underlying asset. ASU 2023-01 requires the lessee to disclose information about leases in which the useful life of the leasehold improvements to the common control group is longer than the lease term.
ASU 2023-01 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years. However, the ASU allows for early adoption, which would be especially helpful for those in the middle of transitioning to the new standard.