ASC 842, the Financial Accounting Standards Board’s (FASB) lease accounting standard, represents a significant shift in how nonprofit organizations must recognize and report leases. With many nonprofits relying on leased facilities, equipment, and vehicles, the standard has a direct impact on financial statements, budgeting, grant compliance, and stakeholder communication.

ASC 842, Leases, updates the U.S. GAAP rules for how organizations identify, classify, and record lease arrangements. This new ASC supersedes FASB ASC 840 and became effective for calendar year-end public companies in 2019 and calendar year-end for non-public companies in 2020. The most important change is that most leases must now be recorded on the Statement of Financial Position, regardless of whether they are operating or finance leases. However, organizations are allowed to make an accounting policy election not to recognize lease assets and lease liabilities for leases with a term of 12 months or less.

Under the old FASB ASC 840, the critical determination of whether or not to include a lease on the Statement of Financial Position was whether a lease was a capital or operating lease. However, under ASC 842, the critical determination is whether a lease contract exists. ASC 842 defines a lease as a contract, or part of a contract, that conveys the right to control the use of identified property, plant, or equipment for a period of time in exchange for consideration. This applies not only to a standalone lease contract but also to embedded leases within service agreements (such as IT contracts that include dedicated servers).

Because many nonprofits lease offices, program facilities, technology, and vehicles, this standard increases transparency for donors, the board, lenders, and federal or state grantors.

Nonprofits must now measure and record both of the following on the Statement of Financial Position based on the lease commencement date (the date that the lessor makes the underlying asset available for use by the lessee):

Lease Liability (in the liability section): This represents the present value of the lease payments not yet paid using the discount rate for the lease. If the discount rate is unknown, then the nonprofit should use its incremental borrowing rate (i.e., the interest rate that the nonprofit would pay to borrow funds on a collateralized basis with terms similar to the lease). As a last resort, the nonprofit could use the risk-free rate such as the discount rate for treasury notes.

Right-of-Use-Asset (in the asset section): This represents the present value of the nonprofit's right to use the leased property.

On the Statement of Activities, the nonprofit will recognize a single lease cost calculated so that the cost of the lease is allocated over the lease term on a generally straight-lined basis.

If the lease includes renewal options, the calculations should include payments to be made in the optional periods only if the organization is reasonably certain to exercise an option to renew the lease agreement.

Download a sample lease schedule showing the amounts that would be listed on the Statement of Financial Position and Statement of Activities for a 5-year lease agreement with a US$500 increase in lease payments per year, assuming a 3% discount rate.