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Accounting

5 Ways COVID-19 Has Complicated Lease Accounting — And How to Fix It


by Imran Mia

An investment in lease accounting technology will generate returns the company needs to move forward.

© SonerCdem/iStock/Getty Images Plus

Months into a public health emergency that has upended lives worldwide and unleashed persistent economic turmoil across industries, many businesses are still struggling to respond effectively and create viable plans.

It’s an unpredictable situation, and companies are using every measure at their disposal to improve their financial position while waiting the pandemic out. Many of the means that businesses are taking to improve their cash flow can complicate accounting for leases, especially for those still using spreadsheets and other manual workarounds to calculate changes and track lease status.

The last thing commercial landlords or tenants need right now is further complications when accounting for business activities. Fortunately, the market offers a number of software solutions that can reduce the complexity. Here are five ways COVID-19 has complicated lease accounting and how technology can help lessors and lessees simplify accounting in the pandemic era.

  1. Rent concessions: In the wake of the pandemic, many lessors and lessees in hard-hit sectors like retail worked out agreements on deferred rent, rent credit, rent forgiveness, or other forms of relief. These events predominantly impacted brick- and- mortar sectors that were forced into temporary foreclosure, like fashion retail, hospitality and restaurants. However, the reality is that this extends to all landlord and tenant arrangements. Under rules in effect when the pandemic hit, lessees would have to remeasure right-of-use assets and lease liability, but the IASB and FASB provided a relief framework that eliminates that requirement to ease the accounting burden. The exemption from the IASB and FASB means organizations don’t have to assess if a pandemic-related rent concession is a lease modification, but the use of software still simplifies application of concessions, eliminating the need to manually record and track new rent amounts in spreadsheets.
  2. Financial planning: In the new normal, financial planning is more important than ever. Companies are planning out their future operations in a volatile situation with “what if” questions. Will staff continue working from home, reducing the need for office space? Would the business be better off taking a penalty for an early termination of a lease? What if the lease has business performance provisions? Whether lessee, lessor, or both, companies need a way to visualize lease obligations and view options in a single space so they can make future plans. Lease accounting technology allows finance teams to model the financial impact of “what if” scenarios on topics like office space needs, lease terms, performance provisions and much more, supporting executive decision-making with actionable data.
  3. Impairment: Retail stores, restaurants, and other types of businesses had to be shuttered for public safety. The public health environment can negatively impact the value of assets through a right-of-use impairment, creating a situation where assets are valued below the carrying value. What is paramount from impairment is that it is usually triggered as an extraordinary event; however, due to the pandemic, it is anticipated for ROU asset impairment to increase throughout the year, at different rates per industry. This scenario complicates accounting by affecting factors like amortization calculations in leases, making tracking lease impairments incredibly complex. Lease accounting software gives finance teams the power to quickly identify obligations and apply impairment remedies appropriately, enabling more informed decisions to achieve rapid recovery.
  4. Lease modification: Hard hit industries like the airline, hospitality, and retail sectors are looking at lease modification options like partial terminations and reductions in scope to cut expenses. Likewise, companies that intend to keep a significant number of staff furloughed or working at home might look for lease modification to reduce office space costs. Lessees who calculate modified lease liabilities will have to adjust right-of-use value to reflect the new terms. Manually updating spreadsheets is an enormous waste of time and resources. This is heightened in a volatile economy, as interest rates are changing more than ever from economic pressures of monetary and fiscal policy. Current interest rates need to be reflected in the new right-of-use asset value at the modification date, effectively threatening the accuracy of the new asset value as well as increasing the lease accountant’s workload. Companies that automate interest rate updates using software will be able to manage their lease portfolios more efficiently.
  5. Sale and leaseback: Selling assets and leasing them back from the new owner is another tactic business are using to improve their liquidity. To cite one example, in April 2020, Delta Air Lines agreed to sell and lease back aircraft, reportedly raising $1 billion to improve the company’s financial position while awaiting a government assistance package that was being negotiated as a response to the pandemic. Other companies are making similar moves on a smaller scale, which will complicate accounting for those assets due to the need to record sales and new lease terms and perform related calculations. With lease accounting technology, companies can generate the liquidity they need to meet operational expenses while streamlining lease accounting through automation.

Even before the pandemic hit, companies were looking for ways to simplify their lease accounting processes. A survey conducted last year found that the vast majority — 80 percent — did not have a comprehensive lease management software solution. Instead, businesses are using manual workarounds and spreadsheets to handle enormously complex lease accounting.

Companies that had planned to add lease accounting software to their solution stack eventually would be well advised to move those plans forward now. Software that handles only part of the job and spreadsheet-based workarounds create more manual work while leaving financial planning and analysis teams without the vital data they need to make the right decisions on how to move forward.

One of the main advantages of an end-to-end lease accounting solution is that it allows business leaders to visualize assets and liabilities in one place, which simplifies financial planning. It automates rules to ensure that modifications and changes receive the appropriate accounting treatment, which is especially important in a rapidly changing regulatory environment.

Manual workarounds are not only time-consuming, they create data silos that can result in companies missing opportunities to cut costs and capitalize on value. Technology can streamline and simplify lease accounting with automated reporting and a simplified transition to new standards, allowing finance teams to analyze the financial implications of specific decisions more quickly.

Lease accounting software also gives finance teams the power to minimize unnecessary leasing costs, which provides a competitive edge and reduces cost pressures. It provides access to real-time data to accelerate decision-making.

A technology solution is an investment, and spending can be a tough sell internally in the current economic climate. But greater efficiency and agility is exactly what the current economic climate demands, so now is the best time to make an investment in lease accounting technology. It’s an investment that will generate returns the company needs to move forward.

Imran Mia is Head of Global Solutions Engineering – Finance at Nakisa.