Every industry is prone to change and advancement; few departments feel the effects of those changes to regulations as much as the financial departments of companies both large and small. The Financial Accounting Standards Board (FASB) and International Accounting Standards Board (IASB) have both begun working on a new standard project that seeks convergence in financial instruments, leasing accounting standards, and revenue recognition. New standards mean big change for most companies, changes that will require new methods in reporting, balancing, investing, and planning. Here is an overview of the changes in store as reported in a 2013 webinar.
What Is the FASB/IASB Project?
The joint project began in 2008 as way of improving the usefulness of financial statements for users by making it easier to classify and measure the requirements for financial instruments. In 2009 the project was split into three phases:
- The first phase involves classifying and measuring financial instruments
- The second phases involves impairment of financial assets at amortized cost
- The final phase is a general model hedge accounting.
The project had a planned completion date of January 1st, 2015 and will be modified and amended as needed throughout the future. While the change will require adaptation and modification, the end result will be an easier process for financial departments everywhere.
What You Need to Know
In order to adapt to the changes being made, you need to prepare. And the best way to prepare is to understand the basics of the project.
Regarding classification and measurement, it’s important to note that classification will now be done based on a business’s cash flow characteristics of an instrument and the business model itself. This means the changes will affect the classification of financial assets, which will have the benefit of providing a more fair value measurement.
There is also an impairment of financial assets at amortized cost involved. This means that financial departments will be able to recognize losses earlier, as the approach will change from incurred loss to expected loss. The recognition of expected loss is based on a 12-month period, with deterioration in credit quality that will also allow for an expected loss over a full lifetime.
Finally, the last change will have to do with hedge accounting. The purpose is to have stronger alignment with true risk management as opposed to the current model of principle-based assessments.
Understanding Lease Accounting
The new standards will have a profound impact on lease accounting, which makes it necessary to understand how to prepare. Creating an inventory of all lease contracts (including the terms and conditions) is a must. More aspects of contracts will become relevant to your accounting department, so prioritize acquiring and organizing all lease information. As for short-term leases, the changes will be negligible.
If you are a lessee, your leases will be recorded on a balance sheet according to the right-of-use approach. If a lease does not acquire a significant portion of a leased asset it will acquire a straight-line expense pattern. If it does acquire more than a significant portion of an asset, it will create an accelerated expense pattern.
The new standards are going to affect revenue recognition in the coming years. This is due to the numerous weaknesses throughout accounting and leasing models among all industries. The changes you can expect to see will cover a wide range of issues. First and foremost, the changes will provide a more robust framework for financial departments to work with. More information that is readily accessible will mean better decisions. It will also provide more useful disclosures, ensuring valuable information is not lost or neglected. Furthermore, it will simplify the preparation of financial statements. Despite offering a more robust service, preparing documents will be streamlined and more efficient.
There is a new five-step approach to transfer control and revenue recognition. The approach includes:
- First, identifying a contract or contracts.
- Second, identifying performance obligations
- Third, determining transaction prices
- Fourth, allocating transaction prices to performance obligations
- Fifth, recognizing revenue as a performance obligation and ensuring it is satisfied.
It’s important to know when your industry is going to adopt the changes, as that will affect how you begin implementing them. You must further understand if you have the right data for disclosure, as the disclosure demands are going to increase significantly.
Adopt and Adapt
Many companies, both large and small, have expressed concern about the cost associated with moving to an international-based financial standard. It will require work and effort to overhaul your existing system and begin adhering to the new mandates. However, this should be seen as something beneficial in the long-term, as the changes will make all aspects of lease accounting more transparent, easier to manage, and easier to understand.
Because there is a heavy emphasis on data acquisition and assessment, it’s important to make sure your organization has a quality document management service in place. Using a comprehensive document service will allow you to keep track of all the documents and files required under the new standard without creating more work. In fact, using a system like the one provided by eFileCabinet will allow you to do more while simultaneously requiring less work.
There are big changes coming regarding leasing standards and how you handle your data. As you have learned, the changes will affect everyone, but each industry will be affected slightly differently. Be sure to carefully study how the changes will impact you. As long as you are prepared with the right information and the right document service, you can make the most of the coming changes with ease.