Covid-19 Impacts on Right-of-Use Asset Impairments and Lease Liabilities

IN THIS ARTICLE

When should the value of long-lived assets be evaluated?

How does the Covid-19 pandemic impact asset impairments?

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In order to properly document a company’s financial position, it may be necessary to recognize the deterioration of an asset’s fair value below its carrying value in the period in which the loss in value occurred. Accounting Standard Codification (ASC) 360-10 Property, Plant, and Equipment – Overall provides guidance to determine, measure, and recognize such losses to long-lived assets or asset groups – this guidance also applies to ROU (right-of-use) assets per ASC 842-20-35-9.

When should the value of long-lived assets be evaluated?

In order to determine if the carrying amount of the long-lived asset or asset group is not recoverable and thus exceeds its fair value, long-lived assets or asset groups should be tested for recoverability whenever events or changes in circumstances indicate the carrying amount may not be recoverable.” (ASC 360-10-35-21)

The standard provides several examples of events or circumstances that would require an asset’s carrying value to be tested for impairment, including “a significant adverse change in legal factors or in the business climate that could affect the value of a long-lived asset (asset group), including an adverse action or assessment by a regulator.” (ASC 360-10-35-21(c))

If it is determined that the carrying amount of a long-lived asset or asset group is not recoverable, an impairment loss is measured as the amount by which the carrying amount of the long-lived asset or asset group exceeds its fair value.

Once it’s determined that a ROU asset should be impaired, a new lease expense (in the case of an operating lease) should be calculated as the sum of the amortization of the remaining ROU asset balance (generally calculated on a straight-line basis) and the accretion of the lease liability (ASC 842-20-25-7). After impairment, an operating lease has the same expense recognition pattern as a finance lease, but the expense is still considered lease expense (e.g., for purposes of statement of cash flows and as an operating expense on the statement of changes in finance position).

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How does the Covid-19 pandemic impact asset impairments?

Due to the Covid-19 pandemic, many companies will need to evaluate their long-lived assets and asset groups for impairments due to the significant changes stemming from the pandemic, including:

• Changes in market value of assets
• Changes in use of assets (e.g., idle assets)
• Changes in physical condition
• Business closures or suspensions in service
• An accumulation of costs significantly in excess of the amount originally expected for the acquisition or construction of a long-lived asset (asset group)
• A current-period operating or cash flow loss combined with a history of operating or cash flow losses or a projection or forecast that demonstrates continuing losses associated with the use of a long-lived asset (asset group)
• A current expectation that, more likely than not, a long-lived asset (asset group) will be sold or otherwise disposed of significantly before the end of its previously estimated useful life

Consider a business that had entered into a three-year operating lease at the beginning of the year (payments of $5,000 due on the first of the month, 3.5% discount rate), but because of the Covid-19 pandemic, the fair value of the ROU asset is now significantly below its carrying value and estimated to be $100,000 after the World Health Organization announced the outbreak as a global pandemic on March 11, 2020.

The company originally recorded an asset and liability of $171,103.10 on Jan. 1, 2020, and recognized a daily lease expense of $164.23. Just prior to the announcement, the ROU asset had a carrying value of $160,554.40, which now exceeded its fair value estimated to be $100,000, so the company recognizes a $60,554.40 impairment loss on March 11, 2020. Going forward, lease expense is measured as the sum of the interest expense for the period plus the straight-line amortization of the remaining $100,000 ROU asset carrying value.

Reference Shelf

• Coronavirus Triggers SEC Disclosure Obligations
• Subscribers can access a curated search for coronavirus-related disclosures around asset impairment within our SEC Edgar Search Filing Tool.
• Federal Tax & Accounting Coronavirus Roadmap
• Resource Page: State Conformity with Federal Bonus Depreciation Rules