What is GASB 87?

Understanding the New Lease Accounting Standard for Government Entities under US GAAP

INTRODUCTION

GASB 87 overview.

GASB 87 is a new lease accounting standard published by the Governmental Accounting Standards Board (GASB), which creates accounting standards for governmental entities that under US GAAP. The new standard was published on June 28, 2017. GASB 87 changes the way that companies account for leases in their financial disclosures, especially their balance sheets and income statements. The purpose of GASB 87 is to close a major accounting loophole: off-balance sheet operating leases.

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GASB87

What is lease accounting?

The lease accounting standards define how companies must account for their leases – a specific type of contract that allows one party to use an asset of another party in exchange for consideration.

Leases may be for equipment or real estate and are classified as either operating or capital leases. However, a new lease accounting standard has been introduced that will change how companies account for leases.

Changes Under GASB 87

Previously, governmental entities reported their leases similarly to how private entities reported leases under ASC 840. While finance leases would be capitalized on the balance sheet, operating leases would be reported in the footnotes. However, GASB 87 requires that all operating leases now be accounted for as finance leases. As a result, leases previously classified as operating leases will not only be capitalized on the balance sheet, but also be reported differently on the income and cash flow statements.

GASB 87 LEASE DEFINITION

Criteria for a contract to qualify as a lease.

The definition of a lease has changed slightly. Under GASB 87, “A contract that conveys control of the right to use another entity’s non-financial asset (the underlying asset) as specified in the contract for a period of time in an exchange or exchange-like transaction.” To qualify as a lease, the contract must meet 2 criteria:

1. Service Capacity

The government entity must be able to obtain the service capacity of the asset as specified in the lease contract.

2. Economic benefit

The government entity must be able to determine how the underlying asset is used as specified in the contract.

Leases that are considered short-term (having a term less than or equal to 12 months in length) and contracts that transfer ownership to the lessee are accounted for differently.

Impacts to financial statements.

Impact to the balance sheet

Under GASB 87 all leases will now be considered finance leases unless they meet certain exceptions and will be reported on the balance sheet. A new right-of-use (ROU) asset and lease liability will be presented separately on the balance sheet. Key financial metrics such as Return on Assets will be influenced through the addition of these new assets and liabilities to the balance sheet.

Impact to the income statement

Government entities must report an amortization expense for leased assets within the operating costs section of the income statement and an interest expense for lease liabilities within the finance costs section of the income statement. This will cause the expenses for leases to be front-loaded as the amount of interest is reduced over the term of the contract.

TECHNICAL GUIDES

Understanding the Technical Requirements of GASB 87.

GASB 87 Implementation Guide

GASB issued an implementation guide to answer some common questions.

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PwC’s In Brief on GASB 87

PwC’s “In brief” series covers the main requirements of GASB 87.

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BerryDunn’s GASB 87 Lessees vs, Lessors

BerryDunn broke down the changes for lessees and lessors under GASB 87

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Baker Tilly’s Insights on GASB 87 Prep

Baker Tilly’s Insights series covers the GASB 87 standard and how entities should prepare.

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COMPARISON

GASB vs. FASB

1.

GASB eliminates the operating lease classification all together, requiring all leases to be reported as finance leases.

FASB retains the dual classification of operating and finance leases, simply requiring that operating leases be capitalized on the balance sheet.

2.

GASB requires lease liabilities to be reported as long-term debt, so it may impact debt covenants and debt to equity ratios.

FASB counts operating lease liabilities as operating payables rather than as debt, so debt covenants and ratios should not be impacted.

3.

GASB requires that interest expense on the lease liability and amortization expense on the lease asset be front-loaded on the income statement.

FASB continues to straight-line the expense on operating leases, similar to how operating leases were expensed under ASC 840.

4.

GASB classifies lease payments as capital financing outflows.

FASB classifies lease payments as operating outflows.

The differences between GASB and FASB reporting may impact certain industries, like health care and higher education, which are composed of entities that may be either public or private. Comparison between different entities within one industry that report under the two US GAAP standards may therefore become difficult.