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The FASB has issued (ASU) No. 2018-10, Codification Improvements to Topic 842, Leases, which makes amendments to the new rules on accounting for leases. The amendments clarify certain narrow aspects of guidance and are not expected to have a significant affect on current accounting practice or create significant additional administrative cost for most entities.

The main changes of this new standard are to:

Rate Implicit in the Lease – clarify that a rate implicit in the lease of zero should be used when applying the definition of the term rate implicit in the lease results in a rate that is less than zero.

Lease Classification – better articulates how an entity should perform the lease classification reassessment, that is, on the basis of the facts and circumstances, and the modified terms and conditions, if applicable, as of the date the reassessment is required.

Lessor Reassessment of Lease Term and Purchase Option – clarifies that a lessor should account for the exercise by a lessee of an option to extend or terminate the lease or to purchase the underlying asset as a lease modification unless the exercise of that option by the lessee is consistent with the assumptions that the lessor made in accounting for the lease at the commencement date of the lease.

Variable Lease Payments Dependent on an Index or a Rate – clarifies that a change in a reference index or rate upon which some or all of the variable lease payments in the contract are based does not constitute the resolution of a contingency. Variable lease payments that depend on an index or a rate should be remeasured, using the index or rate at the remeasurement date, only when the lease payments are remeasured for another reason.

Lease Term and Purchase Option – clarifies that the period covered by a lessor-only option to terminate the lease is included in the lease term.

Transition Guidance for Amounts Previously Recognized in Business Combinations -clarifies that paragraph 842-10-65-1(h)(3) applies to lessors for leases classified as direct financing leases or sales-type leases under Topic 842, not Topic 840. In other words, paragraph 842- 10-65-1(h)(3) applies when an entity does not elect the package of practical expedients, and, for a lessor, an operating lease acquired as part of a previous business combination is classified as a direct financing lease or a sales-type lease when applying the lease classification guidance in Topic 842.

Transition Guidance for Sale and Leaseback Transactions – clarifies that the transition guidance on sale and leaseback transactions in paragraph 842-10-65-1(aa) through (ee) applies to all sale and leaseback transactions that occur before the effective date.

Impairment of Net Investment in the Lease – clarifies the application of the guidance for determining the loss allowance of the net investment in the lease, including the cash flows to consider in that assessment.

Unguaranteed Residual Asset – clarifies that a lessor should not continue to accrete the unguaranteed residual asset to its estimated value over the remaining lease term to the extent that the lessor sells substantially all of the lease receivable associated with a direct financing lease or a sales-type lease.

Failed Sale and Leaseback Transaction – clarifies that a seller-lessee in a failed sale and leaseback transaction should adjust the interest rate on its financial liability as necessary to ensure that the interest on the financial liability does not exceed the total payments (rather than the principal payments) on the financial liability.

Effective Date:
This Update affects the amendments in Update 2016-02, which is years beginning after December 15, 2018 for public business entities as defined by FASB. For all other entities, the amendments in this Update are effective for fiscal years beginning after December 15, 2019. For entities that early adopted Topic 842, the amendments are effective upon issuance of this Update, and the transition requirements are the same as those in Topic 842.

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