When transitioning to ASC 842, you have two options:

We'll go through each transition method available under ASC 842 and the impact that will have on your lease accounting and, ultimately, financial statements. The lessee must apply the same transition method to the entire lease portfolio.

If you're looking for the easiest method to apply, it's the Effective date method.

Hint

If the lease commencement date is post your transition date e.g. your company has a transition date of January 1, 2022. Select Post Transition.

The first transition method available is the modified retrospective transition method, which we refer to as the comparative method. Entities that use the comparative method record the cumulative-effect adjustment to the opening balance of retained earnings at the beginning of the earliest comparative period presented in the financial statements. From that date to the effective date, an entity applies ASC 842 transition guidance to new and existing leases. If the lessee selects the comparative transition option, it assumes you have always accounted for ASC 842 in effect. The application date for companies that choose to adjust comparatives periods is later of:

The most complicated aspect of adopting this transition method is you will have to reverse all accounting under ASC 840.

Here's a useful diagram to illustrative when it is required to calculate the opening balances of the right of use asset and lease liability:

If reference to the above diagram, the lease liability and right of use asset for Lease A would be calculated as of January 1, 2020. In comparison, Lease B would be based on the commencement date because ASC 842 is in scope from the commencement of the lease.

Why would you want to adopt the comparative model? First, it’s the most accurate transition method. It does require more work, but it means your lease data has been captured from commencement for all active leases. Furthermore, users of financial statements will have “apples to apples” for historical-comparative information.

An example of inputting a lease into Cradle under the Comparative method:

In Cradle, you would enter the following:

Note: Between 2016-01-01 (Commencement of the lease) to 2019-12-31 (last day reporting under ASC 840), there is no impact under ASC 842. Those lease details are to be ignored and not input into Cradle.

Cradle will provide all the applicable journal entries from January 1, 2020. You need to remove the ASC 840 accounting in your applicable accounting software. To do this, a cumulative-effect adjustment to the opening balance of retained earnings at the beginning of the earliest comparative period presented in the financial statements will be needed, in this case, January 1 2020.

This is likely not to be material, given an operating lease under ASC 840 has the same income statement impact as an operating lease under ASC 842. The key will be to get the lease liability and ROU asset on balance.

This is the same logic used when applying an accounting policy retrospectively. This is no easy task, and that's why the standard setters provided the effective date method.

Adopting this method is the easiest way to get ahead of ASC 842. As per the diagram, the Lease Liability and ROU assets are calculated from the transition date. What does this mean? You only need prospective lease information from the date of transition, so no digging through files to find modifications for a lease that commenced a year ago.

An example of this is:

As a result, the lease will be recognized on the balance sheet on January 1, 2022. Accordingly, everything that occurs in the lease before January 1, 2022, is not in scope in ASC 842 and therefore is not applicable when onboarding the lease in Cradle.

Benefits of adopting the Comparative method:

Negatives of the Comparative method:

Benefits of adopting the Effective method:

Negatives of the Effective method: