Impact of New Lease Accounting Rules on Construction Companies

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Construction industry companies often rely on leasing as a source of financing for equipment and vehicles. Leasing provides access to these expensive assets without the immediate cashflow hit that comes from an outright purchase. The new lease accounting rules will have a big impact on the financial statements of construction companies leasing property, equipment, vehicles, and other fixed assets.

In an effort to alleviate stress for businesses during the pandemic, the Financial Accounting Standards Board delayed the effective dates of the revenue recognition and lease accounting standards. The effective date for the lease accounting standard will be for fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022.

5 ways the new lease rules may affect your construction company:

  1. Current leases will be incorporated in the change. The terms of current leases are most likely going to continue into 2021 and beyond, meaning every lease you enter into now is going to be presented differently on your future financial statements.
  2. Current loan agreements will be affected by the change. Banking relationships are important to construction companies and may sometimes be fragile. Agreeing to loan covenants now without you or your banker understanding how this standard is going to affect your company’s financial statements, may put a strain on this relationship that could be avoided.
  3. Buy versus lease decisions on equipment could change. Many factors are involved when deciding between leasing a piece of equipment or purchasing the equipment outright. In the past, if showing debt on the balance sheet was a consideration, this will need to be re-evaluated to verify how the lease will be presented in the future.
  4. Job costing techniques may need to be re-evaluated. Charging costs to jobs is not always clear-cut. When payments on leases are relieving debt, instead of being charged directly to expense line items, it may be more difficult to capture those costs. Construction companies will need to verify they have a proper accounting procedure in place to continue to capture the necessary costs.
  5. Comparative statements need to be calculated. The standard needs to be implemented for the earliest period presented, which will require calculations and a new presentation for all years presented. A company should determine if either the bonding agency or the bank requires comparative statements. Single-year presentation will remove a year of lease liability calculations and restatement, which may save time and money.

The best way for your construction company to prepare for the new lease accounting rules is to plan ahead. 

3 things your construction company should be doing now to prepare:

  1. Identify and classify your leases. Review all of your equipment and asset lease and rental contracts and create an inventory list, as well as any associated costs, including rent, interest rates, and security deposits. Lease documents will become a necessary item for your tax advisor, so start collecting and retaining these documents now.
  2. Educate your banker and bonding agency. Educate investors about the new lease accounting rules and how they impact financial statements. Make sure they know what to expect in your future financial statements.
  3. Consider pro-forma financial statements. Based on your construction company’s level of leasing activities, pro-forma financial statements may be beneficial to show the difference in presentation and the results of ratios after the implantation of the new standard.

In fast-paced industries like construction, analyzing accounting standards and tracking leases understandably falls low on the day-to-day list. Planning will be key to successfully implementing the new lease standard while ensuring your financial lending remains unaffected.

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Smith Schafer has been a recognized leader in providing accounting, auditing, tax, and consulting services to the construction industry since 1971. Our Construction & Real Estate Group is committed to serving over 800 Minnesota construction and real estate entities and stays on top of industry issues, trends, tools, and technologies to ensure we give you the best possible advice.

 

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