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This article was originally published on September 5, 2019. It was updated on August 25, 2020 to reflect the new effective date of GASB 87.

GASB 87 significantly changes accounting rules for all leases, which may have a material impact on your Tribal casino’s balance sheet, income statement, and debt covenants. The new standard no longer regards operating leases as operating expenses when paid. Instead, it treats leased assets as capital assets on your balance sheet, with corresponding liabilities (similar to the old capital lease rules). It fundamentally alters lease recognition, measurement, and related disclosures.

GASB 87 is effective for years beginning after June 15, 2021, and retrospective presentation is required. These steps can help you get ready and understand how to apply the new lease accounting rules in your operations.

Start by gathering your lease documents

The first preparation step is to accumulate all of your casino’s current leases and determine if they fall under GASB 87’s purview. Pay attention to two of the most common types of casino leases:

Gaming machines — Their terms vary from a static monthly payment to a percentage of net win (commonly 20% of net win, or 80/20 percentage splits) to 80/20 splits with daily minimums. The 80/20 net win leases contain variable payments based on future performance or usage and should not be included in the balance sheet measurement. These payments would be recognized as “expenses when incurred” leases. If there is an 80/20 lease with daily minimums per machine, the fixed payment amounts would be included as part of the calculation.
Fountain soda dispensers and coffee machines — Generally, soda and coffee equipment is provided free of charge by a vendor if your casino purchases products and supplies exclusively from that vendor. So even though you aren’t technically leasing the machines, under GASB 87 these arrangements are considered leases, and the new accounting rules apply.

Next, establish the terms of each lease

Leases with a maximum term of less than 12 months are excluded from the new measurement standard. They maintain the same accounting treatment as before and are expensed as incurred. For all other leases, determine if there are extension options and whether or not you are reasonably certain those options will be exercised. On leases that will likely be extended, the extension is considered as part of the full lease period and regard them as capital assets and debt. Leases extentions or termination clauses should be viewed in light of their exercise by either or both parties.

Some additional factors that should be considered in determining the period of a lease are:

Economic incentives or disincentives (e.g., lower interest rates than market rates, termination costs, or abandonment of leasehold improvements)
History of exercising options or terminations
How essential the leased assets are to the operations

Then, calculate the value of the lease liability or asset

When recording the lease liability, include these items:

All fixed payments
Variable payments that depend on an index or rate, or are fixed in substance
Amounts that are reasonably certain to be paid
Price of purchase option if it is reasonably certain that it will be exercised
Lease incentives, such as game conversion kits or promotional giveaways
Termination or any other payments that are reasonably certain of being required to be paid

If ownership transfers at the end of the lease, the lease should be reported at the financed purchase price. The leased asset would initially be recorded as the sum of the following:

The initial measurement of the liability
Lease payments made to the lessor at or before the commencement of the lease, less any lease incentives
Any initial direct costs that are necessary to place the leased asset into service

The asset should be amortized over the shorter of the useful life or the lease term.

An example can help illustrate this calculation. A casino enters into a 10-machine lease with a one-year lease term with an option for a two-year extension. The lease amount per machine per year for the first year is $22,000, for a total of $220,000. The lease agreement has a 0% interest rate. To incentivize the casino to elect the two-year extension, the cost per machine per year for years two and three decreases to $15,000.

Under the old method, the payments would be recorded as a gaming machine lease expense and would reduce the casino’s earnings before interest, taxes, depreciation, and amortization (EBDITA). There would no capitalization of assets or recording of the liability.

But under GASB 87, if the casino anticipated exercising the two-year extension, the asset would be recorded at a value of $520,000. A liability would also be recorded for that amount. The assets would be depreciated over three years, at $173,333 per year. The casino’s EBITDA would be $46,667 higher in the first year, and $23,333 lower in years two and three.

Using the same lease information, but including conversion kits with a value of $20,000 at no cost, which is included as part of the contract, requires the recording of a deferred inflow. The value of the asset would be recorded at a value of $540,000, with the liability still being recorded at $520,000, and a deferred inflow of $20,000. The deferred inflow would be amortized under the straight-line method over the shorter of the life of the asset or the term of the lease.

In subsequent financial reporting periods, the lease would be remeasured if any of the following had changed:

Lease term
Reasonably certain values or intent of exercising of options
Interest rate
Measurability of variable payments

Assess the effect on debt covenants

Because operating leases will be brought onto the balance sheet, your casino should consider the effect on debt covenants. Some loans include debt covenants related to fixed asset coverage ratios or to limitations on new debt agreements. Assessing the effect on debt covenants should be completed as part of the lease review rocess. If the inclusion of operating leases would lead to a violation of debt covenants, your casino should reach out to your bank to have the agreement modified or have a waiver drafted.

Finally, include disclosures

Once the asset and liability have been determined, the next part is the required disclosures in the notes to the financial statements. The note is required to disclose the general lease arrangement, including amount, terms, and variable payments not included in the measurement.

Leased assets need to be presented separately from capital assets, by class. The liability will need to present the maturities broken out between principal and interest, similar to long-term debt.

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Pay special attention to related-party leases

GASB 87 also covers leases with related parties, including the Tribal government. For leases between blended component units and the primary government that are aggregated in the primary government’s financial statements, payments will be reported as current-year revenues and expenses. Leases with discretely presented component units will be reported like all other leases. These leases will be presented separately from “due to” and “due from” arrangements with the primary government and component units.

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Leases between related parties are treated the same as other leases. Related-party leases that are structured as short-term leases with the intention of continuing over multiple years are not exempt from GASB 87’s reporting requirements.

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