Chapter 16 — Effective Date and Transition

16.2 Considerations Related to Applying Transition Guidance

ASC 842 requires all entities to apply the modified retrospective approach. The determination of lease balances under this approach is generally based on the remaining lease payments and discount rate as of the date of initial application. Under the full retrospective approach (which is not permitted), by contrast, lease balances would be determined as of lease commencement and rolled forward. In addition, an entity may elect various transition-related accounting policies under ASC 842, which could affect its comparability to other entities.

Specifically, ASC 842 offers relief from implementing the transition provisions by permitting an entity (lessee or lessor) to elect not to reassess:

Whether any expired or existing contract is or contains a lease.
The lease classification of any expired or existing leases.
Initial direct costs for any existing leases.

An entity that elects this transition relief (i.e., the “practical expedient package”) is required to adopt all three relief provisions and is prohibited from applying the relief on a lease-by-lease basis. In addition, the entity must disclose that it has elected the practical expedient package. Separately, the entity is also allowed to use hindsight in evaluating the lease term (e.g., renewal, termination, and purchase options for existing leases) and impairment of the ROU asset. As a result, when preparing for transition, entities must consider the following transition and accounting policy elections:

Transition Elections (Entity-Wide for All Leases)	Accounting Policy Elections
Practical expedient package (Section 16.5.2). Lease identification (Section 16.5.2.1). Lease classification (Section 16.5.2.2). Initial direct costs (Section 16.5.2.3). Hindsight (Section 16.5.1). Land easement practical expedient for transition (Section 2.4).	Separation of consideration in the contract between lease and nonlease components by class of underlying asset (Chapter 4). Portfolio approach (Chapters 8 and 9). Short-term lease exemption by class of underlying asset (Chapter 8). Other materiality-influenced judgments. Discount rate (nonpublic entities only) (Chapter 7). Sales taxes and other similar taxes collected from lessees (Chapter 4).

Transition Elections (Entity-Wide for All Leases)

Accounting Policy Elections

Practical expedient package (Section 16.5.2).
- Lease identification (Section 16.5.2.1).
- Lease classification (Section 16.5.2.2).
- Initial direct costs (Section 16.5.2.3).
Hindsight (Section 16.5.1).
Land easement practical expedient for transition (Section 2.4).

Separation of consideration in the contract between lease and nonlease components by class of underlying asset (Chapter 4).
Portfolio approach (Chapters 8 and 9).
Short-term lease exemption by class of underlying asset (Chapter 8).
Other materiality-influenced judgments.
Discount rate (nonpublic entities only) (Chapter 7).
Sales taxes and other similar taxes collected from lessees (Chapter 4).

Connecting the Dots

Considerations Related to Selecting Expedients and Accounting Policies

As companies prepare to implement ASU 2016-02 and assess its impact, the appropriateness to their organization of policies related to practical expedients may continue to evolve. For example, although the practical expedient package may be an efficient manner of adopting the standard, an entity that elects this package may miss the opportunity to reassess whether a lease under ASC 840 would be outside the scope of ASC 842. In addition, some may find the income statement presentation of a finance lease to be more favorable than that of an operating lease and therefore may wish to assess lease classification under ASC 842. We recommend that companies work with various stakeholders at their organizations (e.g., accounting, finance, real estate, and IT professionals, as well as the audit committee) to determine the impact and costs/benefits of the above elections for each stakeholder. Further, companies should consider discussing the impact of the elections with their professional advisers.

Hindsight Expedient May Increase Complexity

While the hindsight practical expedient only applies to lease term and impairment considerations (see Section 16.5.1), we believe that the expedient could make adoption more complex given that both of these matters affect other aspects of lease accounting.

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This publication provides comprehensive guidance; however, it does not address all possible fact patterns, and the guidance is subject to change. Consult a Deloitte & Touche LLP professional regarding your specific issues and questions.