This blog has mostly talked about the upcoming change to the lease accounting standard (ASC 842/IFRS 16). That's clearly the biggest news in lease accounting for a while. But I want to set that aside for a little while, and instead take some time to talk about using our EZLease lease accounting software (previously called EZ13), to clarify some issues that can cause confusion at times.
Today, I'm going to talk about what happens when you make a financial change to an existing lease. By "financial change," I mean any change that can cause the asset, liability, expense, or income recognized for the lease to change (including changes to future amounts). Financial changes include not just the rent amount, but the begin & end dates of the lease, interest rates, exercise of options, fair value, payments in advance vs. payments in arrears, and presence or absence of a bargain purchase option.
When you make a financial change to a lease, saving it potentially changes the balances on the lease. If we just save the changes without keeping the old information, we'll get an out-of-balance condition for the lease, because its prior calculations are different from the new calculations. That's OK if we're initially setting up the lease, and nothing has yet been booked. But if you've already booked the lease in a prior fiscal period, you want to make sure this period's beginning balances match last period's ending balances.
So when you save a lease in EZLease (or the prior versions of EZ13), EZLease first checks to see if you have any financial changes to the lease. You'll know this as you're editing the lease because in the lower right corner, you'll see "Lease financial change." This is "Lease descriptive change" if you change a field that has no financial impact. (That includes rent information for options that have not been recognized.)
If you have a financial change, EZLease displays the Revise / Replace dialog box. If you choose Replace, the newly entered information will replace what was previously on the lease record, and it will look as if the lease always had that information. If you choose Revise, you need to provide information as of the revision date, as well as the effective date itself of the revision, which should be within your current reporting period, even if changes apply to prior periods. For instance, in June you might discover that your lessor gave you a rent holiday (no rent charged) for March through May. You would make the change to the rent (set the existing rent to end in February, create a rent step of zero ending May, then a new rent step of the regular rent starting in June and going to the previously agreed end date), set the revision booking date to June something, enter updated classification information for the lease (incremental borrowing rate, unguaranteed residual, economic life, and fair value), then click OK. The revised lease is reclassified using the updated information. Under FAS 13/IAS 17, the lease may be tested both from inception and from the date of change; under ASC 842/IFRS 16, the lease is just tested based on the remaining life of the lease.
The original information for the lease is kept, called "Revision 0," while the new information is called "Revision 1." You can view each revision by changing the revision number at the top center of the lease input form. You can revise the lease as many times as you want, but each has to be on a different day. You can also do a Replace save for a revision, if you realize you need to alter the revision further before your fiscal period ends. (In Special Options for reports, you can choose to run a report using just prior revisions, so you can see what the results would have been had you not revised.)
If the classification of the lease changes from capital (finance) to operating, or operating to capital, due to a revision, EZLease notifies you and offers to create a new lease for the revision, because a single lease cannot be both capital and operating. Under FAS 13/IAS 17, a change from capital to operating usually happens after the capital lease reaches its original end date, while an operating to capital change happens immediately. Under ASC 842/IFRS 16, all classification changes happen immediately.
I hope this helps you understand better when to use which choice. If you have any questions, please contact us.