Budgeting for New Lease Accounting

4 min read
August 31, 2017
CoStar Real Estate Manager Blog

Budgeting for New Lease Accounting

How much should accounting teams expect ASC 842 and IFRS 16 compliance to cost?

When the FASB and IASB issued new lease accounting guidance in early 2016, companies immediately recognized that compliance would be a costly challenge. Collecting data on leased assets for balance sheet reporting would be an arduous task, by itself. Creating the impact analysis would add untold hours to weary accounting departments who have been confronting revenue recognition for some time already. Estimating the time and expenses for meeting the new standards is a dizzying project, even for the most seasoned financial leaders.

PwC and CBRE released a lease accounting progress survey in July 2017 that revealed 24% of organizations still didn’t know how much the total incremental costs for compliance would be. Forty-three percent believed their costs would be less than $250,000, while the other 33% estimated costs would be higher.

To get a handle on budgeting for new lease accounting compliance, it’s best to break down associated costs into three broad categories: Policy Setting, Data Collection & Review and Technology Solutions.

Policy Setting

Policy setting is a key first step in the process. Because the new accounting guidance is technical in nature and involves many changes to existing policies, companies should first endeavor to obtain a full understanding of the new guidance and develop a plan of how it will impact accounting policy.  If this is not done before data collection, there is a risk of collecting too much, not enough or simply wrong information.

No current lease accounting policy documentation may exist regarding current standards. However, a policy for the new guidance may be 20–40-page document, requiring 80 hours to create and 40 hours of internal review and approval. A best practice is to utilize internal or external resources to obtain an understanding of new guidance.  Then, policies should be drafted applying the general guidance from authoritative literature into company specific accounting policy.

Any new policies should be reviewed with company auditors to ensure there are no surprises at audit time. This step would, of course, add more billable hours for review and discussion.

Data Collection & Review

After policy setting is complete, the data collection process should begin. Many companies utilize a project management approach during this process, utilizing internal or external teams. Because leasing data is generally fragmented across the organization, data collection can be a time consuming and costly exercise. However, establishing a plan upfront based on solid policy will help avoid wasted time and expense.

Real estate lease documents can contain more than 100 pages of details, requiring 2 to 3 hours of examination time for sufficient lease abstraction. Simply reviewing leases for necessary reporting data and options may take 30 minutes each. This could mean budgeting thousands of hours of work for a complete data collection and review project. An organization with 1000 leases may need to allocate 2,500 hours for thorough review and re-abstraction of critical lease information.

As the compliance deadline draws nearer, organizations with a voluminous number of leases may wish to enlist outside resources to help abstract information, convert paper documents to electronic form, and test for data integrity. However, use of outside consultants will most likely ramp up as the deadline approaches and resources are constrained, resulting in higher costs for external resources. So, budget for and engage qualified consultants early before lack of availability and higher billable rates become unwelcome challenges.

Technology Solutions

Establishing a new or upgraded technology solution is essential for the new lease accounting environment. While some companies get by with manual reports and spreadsheets under ASC 840, the complexity of calculations for accurate reporting and audit trails of data under the new guidance makes lease accounting software a requirement for compliance.

The two most common pricing models for lease accounting software are based on the number of users or the amount of data housed in the system. User-based pricing tends to be more arbitrary and expensive compared to data-based pricing, because it usually involves software to be installed on the buyers’ servers. This adds more costs to the organization, involves more maintenance work from IT resources and sets up the need for expensive software upgrades down the road. For these reasons, cloud-based software that is priced by the amount of data stored is preferable, because it offers an unlimited amount of users to access information at a lower cost and reduced amount of maintenance and internal resource support.

To estimate a budget for cloud-based software, the number of leases to be managed must first be known. Also, because real estate leases tend to be far more complex and lengthy documents, the amount of storage space for each is usually much higher than non-real estate leases.

Take for example an organization that has 500 real estate leases and 500 equipment leases. The monthly software expense may be $5,000 for the real estate leases and $1,500 for the equipment leases. Because data-based models usually offer volume discounts, an organization with 5,000 real estate and 5,000 equipment leases may have monthly software expenses of $30,000 and $5,000 respectively. Incrementally that’s only 4 to 6 times the software expense for 10 times the amount of lease data management.

The full cost of lease accounting compliance will vary by company, depending on specific needs around policy setting, data collection and technology. But by addressing these areas separately, organizations can meet compliance goals while also controlling costs. The key is to start now in order to limit timing-based expenditures as the deadline approaches and select a software solution with intuitive, lease-based pricing.