A&A Focus recap: CECL, leases, and commercial real estate

The AICPA’s A&A Focus event on May 8 provided insightful updates and guidance on several key topics in accounting, auditing, and assurance. Hosted by Carl Mayes, CPA, vice president–Audit & Accounting Quality at the AICPA, and Bob Durak, CPA, CGMA, director–A&A Technical Services at the AICPA, the event featured subject matter experts who shared their expertise on issues impacting AICPA members. The series, which is free for AICPA members who register to attend, offers one CPE hour each month.

AICPA members can watch an on-demand recording of the broadcast on the series’ webpage and find other valuable member-only resources.

Lightning round: Current expected credit losses

Mike Cheng, CPA, national professional practice partner at Frazier & Deeter LLC, returned and continued his discussion from our February broadcast on FASB’s current expected credit losses (CECL) standard and its impact on nonfinancial institutions. 

Cheng explained that financial assets held at amortized cost are generally in scope for CECL at nonbanks. This includes trade receivables, contract assets from revenue recognition, held-to-maturity debt securities, and guarantees of others’ credit exposures. However, assets measured at fair value through net income, intercompany receivables under common control, and pledged receivables for not-for-profits are out of scope.

For most nonfinancial companies, Cheng has not seen material changes in credit loss reserves after adopting CECL, as historical losses were already low. But for those with significant receivables, the new model requires more rigorous analysis of loss data, forecasting adjustments, and disclosures. The process for those entities has become more complex, often resulting in higher reserves.

On transition, Cheng recommended a modified retrospective approach similar to the lease accounting transition, establishing an opening balance sheet adjustment on adoption. Key issues include correctly performing the initial CECL reserve calculations as of the adoption date and subsequent reporting dates.

Overall, while CECL raises the bar, Cheng said, its impact has been relatively muted so far for many nonfinancial institutions beyond enhanced procedures and disclosures.

Sustainable compliance with FASB ASC Topic 842

Tom Groskopf, CPA, a director at Barnes Dennig and technical director of the AICPA’s Center for Plain English Accounting, addressed achieving sustainable compliance with the new lease accounting standard, FASB ASC Topic 842, Leases, which was intended to bring operating leases onto the balance sheet for transparency. In year two of implementation, entities are focusing on developing robust controls around identifying lease contracts and determining appropriate discount rates.

Groskopf noted that key challenges include the technical determination of whether a contract meets the definition of a lease, with an identified asset and control over its use. Areas like IT, transportation, storage, marketing, and construction equipment require scrutiny for embedded leases. Selecting and applying discount rates consistently is also critical.

On the tools and resources for compliance, Groskopf provided a rule of thumb that entities with more than 10 leases should strongly consider specialized lease software solutions, given the complexity of remeasurements, reassessments, and disclosures required. Spreadsheets become unwieldy and error-prone with higher lease volumes.

While common spreadsheets may suffice for smaller portfolios, specialized lease software allows greater control and efficiency, despite higher upfront and ongoing costs. The key is understanding an organization’s lease population and weighing the implementational investments required for sustainable compliance over time.

Borrowing and refinancing: Current issues in commercial real estate 

Mike Valenza, CPA, senior manager at KPMG, provided insights on the challenges commercial real estate (CRE) owners face in refinancing amid higher interest rates, declining property values, and a looming “wall” of $1 trillion in debt maturities in 2024–2025.

He explained that many 10-year loans made at low 3%–4% interest rates are coming due, but owners are underwater, as properties have lost significant value; e.g., an office building bought for $10 million is now worth $5 million with $6 million in debt. Owners lack equity for new loans at higher rates, setting the stage for foreclosures, distressed sales, or lenders extending loan maturities for short, additional periods.

Key financial reporting considerations include debt covenant violations related to declined valuations, risk factor disclosures on the financing environment, guarantee liabilities if owners are on the hook for underwater amounts, and going concern issues for upcoming debt maturities without viable refinancing plans.

For auditors, Valenza emphasized a heightened need to scrutinize management’s written plans for curing debt maturities and their ability to successfully execute those plans, thus resolving related going concern threats. Given lenders’ more conservative stance, assumptions of seamless past refinancing practices should be challenged.

Update on governmental auditing

Lindsey Oakley, CPA, national financial reporting partner–nonprofit, education, and public sector at FORVIS and chair of the AICPA Governmental Audit Quality Center (GAQC) Executive Committee, joined the broadcast to provide updates and address focus areas impacting governmental and single audits.

Oakley noted that despite expectations that things would calm down after the COVID-19 pandemic funding, there are actually several new areas of focus for governmental and single audits in 2024. The annual compliance supplement is expected to have quite a few changes for June 30, 2024, year ends. The revised Uniform Guidance increased the audit threshold to $1 million in federal expenditures, from $750,000, and raised the Type A program threshold, though transition guidance on timing of the effective date of these increases is still pending.

There is increased federal oversight and follow-up on single audit findings now that agencies have disbursed COVID-19 funds. A new Yellow Book aligning with the AICPA’s quality management standards takes effect in 2025. An updated AICPA Audit Guide incorporating SAS No. 145, Understanding the Entity and Its Environment and Assessing the Risks of Material Misstatement, is also coming later in 2024.

Oakley strongly recommended joining the GAQC to access tools, alerts, webinars, and other resources to support quality audits amid all the changes. The GAQC also plays a vital role advocating for governmental auditors with federal agencies behind the scenes. On its 20th anniversary, the GAQC’s volunteer-driven efforts were praised for enhancing audit quality and advocating for the governmental audit profession overall.

In other matters

In addition to the featured topical segments, the A&A Focus Series webcast provided updates across several timely emerging issues: 

• The Center for Plain English Accounting has released two new comprehensive reports: 
  • The report 2023 Peer Review MFCs A New #1 — FASB ASC 606 highlights that in a change to the most common peer review Matters for Further Consideration (MFCs) in reviewed audits, FASB ASC Topic 606 comprised approximately 30% of all MFCs, citing a FASB ASC topic, and has become the most often cited section of concern. 
  • The report Restricted Use Reporting: Common Practice Issues discusses common issues when practitioners are required to determine whether they need to restrict the use of audit, review, or compilation reports.
• The AICPA has released Technical Question and Answer (TQA) 9510.04, Performing Agreed-Upon Procedures Engagements Related to Third-Party Audit Requirements Under the EPA Hydrofluorocarbon (HFC) Phase Down Program.
• The PCAOB has issued several releases and other documents: 
  • PCAOB Release No. 2024-002, Firm and Engagement Metrics, would require PCAOB-registered public accounting firms that audit one or more issuers that qualify as an accelerated filer or large accelerated filer to publicly report specified metrics relating to such audits and their audit practice.
  • PCAOB Release No. 2024-003, Proposing Release: Firm Reporting, would amend the PCAOB’s annual and special reporting requirements to facilitate the disclosure of more complete, standardized, and timely information.
  • The Spotlight, Root Cause Analysis — An Effective Practice to Drive Audit Quality, provides PCAOB staff observations regarding the potential positive impact of performing a root cause analysis on the quality of audits performed by PCAOB-registered public accounting firms.
  • In Auditing Considerations Related to Commercial Real Estate, the PCAOB staff poses 22 questions for auditors to ask related to CRE audits, starting with a reminder to exercise professional skepticism with potential problem areas such as how higher interest rates and lower occupancy rates can affect a borrower’s ability to make repayments. While the report was written with PCAOB-registered firms in mind, all auditors may find the information helpful.
• The IASB released IFRS 18, on presentation and disclosure, mainly focused on the income statement and requiring some additional captions:
  • IFRS 18, Presentation and Disclosure in Financial Statements (for purchase); 
  • IFRS 18 project summary; and
  • IFRS Webcast: “Overview of the Forthcoming IFRS Accounting Standard — IFRS 18“
• Industry resources: 
  • The KPMG 2024 U.S. CEO Outlook Pulse Survey showed optimism about U.S. economic growth but concerns over global issues.

Looking Ahead

The monthly A&A Focus Series will continue June 12. Throughout 2024, the AICPA plans to leverage the A&A Focus Series as a vital channel to keep members apprised of new accounting, auditing, and reporting developments impacting their work across all industries and domains of practice. Members can access archives of past sessions here.

— Dave Arman, CPA, MBA, is senior manager–Audit Quality at AICPA & CIMA, together as the Association of International Certified Professional Accountants. To comment on this article or to suggest an idea for another article, contact Jeff Drew at Jeff.Drew@aicpa-cima.com.