To be honest, disclosure requirements under current U.S. GAAP for leases (ASC 840) aren’t terribly insightful, especially for lessees with mainly operating leases, which aren’t recorded on the balance sheet. However, this is about to change under the new lease accounting standard (ASC 842).

Analysts estimate there are approximately $3 trillion in off-balance sheet lease commitments. Currently, the only disclosures you’re likely to see is in the disclosure for off-balance sheet arrangements and contractual obligations within Management’s Discussion and Analysis, which is unaudited, or within the footnotes where the future minimum rental payments are disclosed. Don’t believe me? Check out Verizon’s latest 10-K – they have a whopping half a page worth of disclosures for $3.6 billion in operating leases – and that’s perfectly fine under ASC 840!

This lack of clarity, and quite frankly lack of insight, into an entity’s lease commitments is one of the main reasons the FASB decided to revise the accounting and reporting for leases. Once adopted, ASC 842 will add significant disclosure requirements for both lessees and lessors.

Overall

The disclosure objective as stated in ASC 842 is for entities to provide information about leases that enable users of financial statements to assess the amount, timing, AND uncertainty of cash flows arising from leases. In order to achieve this objective, lessees will need to do more than just recognize all leases on the balance sheet. Lessees and lessors will be required to disclose both quantitative and qualitative information regarding its leases and the significant judgments made when applying ASC 842, as well as the amounts recognized in the financial statements related to leases.

ASC 842 requires an entity to consider the level of detail necessary to satisfy the disclosure objective. It should not be overly detailed or granular, but neither should it be at so high a level that the information is not useful. Entities will need to apply judgement. The FASB expects that as an entity’s leasing activities become more significant, its disclosures should be more comprehensive.

Lessee Disclosures

Qualitative disclosures

Unlike IFRS ( as further discussed below), the FASB set out explicit qualitative disclosure requirements in ASC 842 because it viewed those disclosures as essential to allowing financial statement users to understand a lessee’s leasing activities. Those disclosure requirements include:

• Information about the nature of its leases
• Information about leases that have not yet commenced, but that create significant rights and obligations for the lessee
• Information about significant assumptions and judgments, including:
  
  • The determination of whether a contract contains a lease
  • The allocation of consideration in a contract between lease and non-lease components (or whether the practical expedient has been applied)
  • The determination of the discount rate for the lease
• Terms and conditions of sale-leaseback transactions
• Lease transactions between related parties
• Whether an accounting policy election was made for the short-term lease exemption

Many of these qualitative disclosure requirements are new (presented in bold above) and did not previously exist under ASC 840

Quantitative disclosures

The FASB conducted outreach with financial statement users and determined the following quantitative disclosures would be required under ASC 842:

• Finance lease cost, segregated between the amortization of the right-of use assets and interest on the lease liabilities.
• Operating lease cost
• Short-term lease cost, excluding expenses relating to leases with a lease term of one month or less
• Variable lease cost
• Sublease income, disclosed on a gross basis, separate from the finance or operating lease expense
• Net gain or loss recognized from sale and leaseback transactions
• A maturity analysis of lease liabilities for each of the first five years after the balance sheet date and in total thereafter, including a reconciliation of the undiscounted cash flows to lease liabilities on the balance sheet
• Amounts segregated between those for finance and operating leases for the following items:
  
  • Cash paid for amounts included in the measurement of lease liabilities, segregated between operating and financing cash flows
  • Supplemental noncash information on lease liabilities arising from obtaining right-of-use assets
  • Weighted-average remaining lease term
  • Weighted-average discount rate

Many of these disclosures were included under ASC 840, but only for capital leases, not for operating leases. So, one of the biggest changes resulting from ASC 842 is requiring these disclosures regardless of the lease classification. The new disclosure requirements are noted in bold above.

For some great illustrative examples of the new disclosure requirements under ASC 842, check out KPMG's Leases Handbook.

Lessor Disclosures

The disclosure objective previously discussed applies to both lessees and lessors. Therefore, it should come as no surprise that ASC 842 requires both qualitative and quantitative disclosures for lessors as well. In fact, some of the disclosure requirements are the same as what we just reviewed for lessee’s. In the interest of time, we’ll only focus on the unique disclosure requirements for lessors.

Qualitative disclosures

ASC 842 requires that lessors disclose the following qualitative data in addition to many of the disclosure requirements listed above (for a full list, refer to the standard):

• Explanation of significant changes in the carrying amount of the lessor’s unguaranteed residual assets and deferred selling profit for net investments in sales-type and direct financing leases
• Information about how a lessor manages residual value risk of its leased assets, including:
  • Carrying amount of residual assets covered by residual value guarantees
  • Risk management strategy for residual assets
  • Any other means used by the lessor to reduce its residual asset risk

As you can see, the additional qualitative disclosures required of lessors highlight the need to provide the user of financial statements with more information regarding how the lessor is managing its risks. This is important because a decline in market value of the asset could adversely affect the profitability of the lease.

Quantitative disclosures

From a quantitative perspective, ASC 842 requires lessors provide the following disclosures:

• Table of lease income received during each annual and interim reporting period, including specific disclosures for sales-type, direct finance, and operating leases.
• The carrying amounts of the components of the aggregate net investment in sales-type and direct financing leases, including lease receivables, unguaranteed residual assets, and deferred selling profit on direct financing leases.
• Maturity analysis of the undiscounted cash flows for the first five years and a total of the amounts thereafter (reconciled to the balance of lease receivables if a finance lease)
• The general plant, property and equipment (PP&E) disclosures by significant class of underlying asset, which should be separate from the disclosures of the lessor’s other owned assets

The theme to the quantitative disclosures is making sure that the entity provides the users with more transparency into the amount of income earned by the lessor, as well as the type of income (e.g., profit recognized at commencement, interest income, lease income, and variable lease income).

A Note about IFRS

IFRS 16 has a slightly different objective for lease disclosures as compared to ASC 842. Under IFRS, entities need to disclose information in the notes that, together with the information provided on the face of the financial statements, enables financial statement users to assess the affect that leases have on the entity’s financial position, financial performance, and cash flows.

The biggest difference between IFRS and U.S. GAAP is that IFRS 16 does not include a list of qualitative disclosure requirements. Instead, IFRS 16 requires that entities disclose “other information” in sufficient detail to satisfy the disclosure objective.

The quantitative disclosure requirements under IFRS 16 are similar to, but not identical to ASC 842. If you prepare financial statements under IFRS, make sure that you read and understand the quantitative disclosure requirement within IFRS 16.

Key Takeaways

Both auditors and accountants would do well to keep disclosures at the front of their mind. This standard is going to require numerous new disclosures, both quantitative and qualitative. Financial statement preparers and their auditors will need to evaluate at what level of depth and disaggregation those disclosures will need to be, remembering that the FASB expects disclosures should reflect the significance of an entity’s leasing arrangements. Entities will also need to make sure they have the appropriate systems, procedures, and controls in place to capture this new information for disclosure purposes. Bottom line: don’t wait until the last minute to think about these increased disclosure requirements!

For more about the new leasing standard, make sure to check out our blog series here or our topic page curating some of our favorite resources on the new standards!

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