Responding to ASC 842 Audit Findings: A Controller's Playbook

Navigate ASC 842 Audit Findings with Confidence

ASC 842 lease accounting has been a big job for controllers and accounting managers since its effective date. But putting the standard in place was just the start. The real test now is to stay accurate and in compliance, above all when the external auditors come calling.

This article, responding to audit findings, offers a framework for controllers. It helps you understand, prevent, and address common audit discrepancies. It is built to help finance staff cut risk and reach a clean ASC 842 audit.

For a complete breakdown, see our ASC 842 guide.

Despite a lot of hard work, many organizations still get audit findings tied to ASC 842. These findings can derail financial reporting timelines, drain resources, and even shake investor confidence. This guide gives controllers steps they can act on to respond well and fast. The aim is to move past reactive fixes to prevention up front.

Responding to ASC 842 Audit Findings: A Controller's Playbook

The Assertions Behind an ASC 842 Audit Finding

Auditors approach an ASC 842 audit with a clear method. They zero in on specific financial statement assertions.

Auditors of public companies work to PCAOB standards. Their objective is to obtain sufficient appropriate audit evidence to support their opinion on the financial statements (PCAOB AS 1105, Audit Evidence, paragraph .04). A private company audit applies the equivalent AICPA requirement.

To do that, they test the design and operating effectiveness of internal controls over lease accounting. They also perform substantive procedures. They usually focus most on lease identification, classification, measurement, and disclosures.

The completeness assertion for the lease population is often a top priority. Auditors want to make sure all leases have been identified and recorded.

The completeness assertion is management's. It says that all transactions and accounts that should be presented in the financial statements are included (PCAOB AS 1105.11). That paragraph governs public company audits, and a private company audit applies the equivalent AICPA requirement. The auditor's job is to test the assertion.

In plain words, nothing that belongs on the books has been left off. For leases, that means every lease liability and right-of-use (ROU) asset.

✅ Best Practice: A robust internal control framework for lease accounting is a must. Organizations with strong internal controls tend to have much smoother audits. That is because their processes yield reliable data and documentation, time after time.

Companies are taking steps so that the lease population "remains complete from a process and control standpoint," in the words of Grant Thornton's private company report. The report also suggests a completeness check: search accounts payable for recurring payment streams ¹.

Auditors will run various lease audit procedures, including:

• reviewing contracts
• recalculating lease liabilities and ROU assets
• taking a hard look at disclosures

They often perform walkthroughs of the lease accounting process. Walkthroughs show them how an entity identifies, classifies, measures, and accounts for its leases.

The Findings Controllers Encounter Most Often

Several common areas often lead to audit findings under ASC 842. To head these risks off, you first have to know them.

• Incomplete Lease Population: A primary risk, and a common one, is the failure to identify all arrangements that meet the definition of a lease under ASC 842. The usual cause is weak embedded lease discovery processes.

  Many organizations struggle with contracts that aren't explicitly labeled as leases but do contain a right to control an identified asset. Think about service contracts for warehousing, transportation, or IT equipment. They can often contain embedded leases.

• Inaccurate Discount Rates: A team may get the incremental borrowing rate (IBR) wrong. Or it may misuse the rate implicit in the lease. Either error has a significant effect on the measurement of lease liabilities and ROU assets. Auditors will always look hard at the method and support behind the chosen rate.

• Incorrect Lease Term Determination: The lease term is a critical input, above all where there are renewal or termination options. A renewal period counts only if the lessee is reasonably certain to exercise the option. A period after a termination option counts only if the lessee is reasonably certain not to exercise it (ASC 842-10-30-1).

  That is a high threshold. Document why the company is or is not economically compelled to exercise each option. Those judgments need strong documentation, and you must apply them the same way each time.

• ROU Asset Impairment or Reassessment Failures: Some companies overlook trigger events that require ROU asset impairment testing. ROU assets are tested for impairment under the long-lived asset guidance in Topic 360, not under a lease-specific model (ASC 842-20-35-9).

  Some companies also fail to reassess promptly after changes in lease terms or scope. Reassessment is not continuous. The lease term is reassessed only when ASC 842-10-35-1 is triggered. The lease liability is remeasured under ASC 842-20-35-4.

  An ROU asset audit will look for these reassessments in particular.

An embedded lease is a lease component that sits inside a larger contract and may not be explicitly identified as a lease. If you fail to identify these, the result can be material understatements of lease liabilities and ROU assets.

⚠️ Risk Alert: A common audit finding is that a company overlooked its service contracts when it looked for embedded leases. The result is a material understatement of lease liabilities and ROU assets. This oversight can have a significant effect on the financial statements.

Grant Thornton's private company report puts it this way: "While embedded leases aren't new, many organizations have paid little attention to them. Under ASC 842, however, you will now have to recognize them." ².

Scenario: Here is a common pattern. A manufacturer leases space in a data center for its servers. A general "IT Services Agreement" covers the space. The agreement names dedicated server racks and gives the company the right to control their use for five years.

However, the company's lease accounting team reviews only explicit property leases. Nobody tests this agreement for an embedded lease, so the ROU asset and lease liability never get recorded. Once the agreement is found to contain an embedded lease, the company has to recognize a material ROU asset and lease liability that had not been recorded before.

The root cause is the lack of a robust lease identification audit process. This shows the risks of an incomplete lease population.

Practical Checklist for Responding to Findings

When you face an audit finding, a structured approach based on evidence matters most. This checklist gives a framework for controllers.

Q: How do I respond to an ASC 842 audit finding?

A: Respond promptly and step by step. First, understand the finding in full. Then gather all supporting documentation, perform your own recalculations, propose a clear remediation plan, and be open with your auditors. Focus on getting the facts right and on complete support.

This checklist helps you answer the question of how to respond to audit findings. For a full pre-audit review, see our ASC 842 pre-audit self-assessment.

Reconciling the Full Lease Population Annually

Validation isn't just about fixing one-off errors. It's about a systematic check of how robust your lease accounting processes are. It's key to how you ensure lease completeness for ASC 842 compliance.

1. Reconcile Lease Data Annually: Run a complete reconciliation of your lease population once a year. Reconcile it against general ledger accounts (e.g., rent expense, property tax expense, fixed assets), vendor files, and budget documents.

   The objective of lease identification audit procedures is to confirm that you have captured every contract that meets the criteria for a lease under ASC 842. FASB ASC 842-10-15-3 sets the test. A contract contains a lease if it conveys the right to control the use of an identified asset for a period of time in exchange for consideration.

   In plain words, you pay for one particular asset. You get substantially all of the economic benefits from its use. And you direct how it is used, not the supplier (ASC 842-10-15-4). Naming the asset in the contract is not enough if the supplier has a substantive right to substitute it throughout the period of use (ASC 842-10-15-10).

2. Embedded Lease Review: Set up a rigorous, periodic review of all non-lease contracts for potential embedded lease discovery. That includes service agreements, procurement contracts, and IT agreements. It's critical to train procurement and legal teams to spot lease indicators in contracts.

3. Discount Rate Consistency & Support: Make sure your incremental borrowing rate (IBR) methodology is well-documented and applied the same way each time. Recalibrate it as market conditions or company credit ratings change. Always keep clear support for all rates used.

4. Lease Term Judgment Review: Regularly review the judgments you made about lease extension and termination options. The test is whether exercise is reasonably certain (ASC 842-10-30-1). Write down the reasons for these judgments. Tie them to economic incentives or penalties.

5. Control Effectiveness Testing: Test the operating effectiveness of internal controls related to lease accounting. Go past whether a control exists, and confirm that it works as intended. This includes controls over data input, calculation accuracy, and changes to lease terms. For detailed guidance, see our article on implementing top 10 lease accounting internal controls.

💡 Key Takeaway: Proactive validation makes audit findings far less likely. When accounting teams mirror auditor procedures in house, they can find and fix issues before the external audit begins.

How to Address a Lease Accounting Audit Finding

Even with robust processes, certain pitfalls still lead to audit findings. Knowing the pitfalls that come up most often helps a great deal in prevention.

Q: What are the steps to address lease accounting audit findings?

A: The main steps start with confirming the exact nature of the finding. Next, review the relevant contracts and data thoroughly, and run any recalculations that are needed. Then prepare proposed journal entries, and build a remediation plan to prevent the problem in the future. Last, share these resolutions with the auditors clearly, without waiting to be asked.

🚨 Critical: The failure to identify and account for all leases, above all embedded leases, remains a critical area for audit findings. This oversight bears directly on the completeness assertion. It can lead to a material misstatement of the financial statements, because it understates the company's financial obligations and assets.

Example: Take a mid-sized retail company with an audit finding tied to the incorrect initial measurement of ROU assets. The cause is a single, static incremental borrowing rate applied to every lease. The IBR is defined by reference to a similar term and a similar economic environment (ASC 842-10-20). So one rate across currencies and geographies will not hold up.

To fix it, the company has to recalculate all lease liabilities and ROU assets with appropriately segmented IBRs. That can lead to a significant prior-period adjustment.

A sound response adds new internal controls over discount rate determination, as part of the process for responding to audit findings. For example, the enhanced controls can require an annual review by a dedicated finance team member. They can also require sign-off by the controller.

Why a Central Lease Inventory Reduces Findings

Strong execution in lease accounting compliance leads straight to more efficient audits and, most of all, fewer findings. For a controller, this means less time spent on remediation and more on strategic financial management.

Organizations that execute well tend to have:

• Comprehensive Lease Inventory: One central, up-to-date database of all lease contracts and amendments.
• Automated Lease Accounting Software: Technology that handles complex calculations, builds reliable amortization schedules, and makes disclosure reporting easier.
• Documented Processes: Clear policies and procedures, shared well, for every part of lease accounting, from identification to derecognition.
• Cross-Functional Collaboration: Regular talks among the accounting, procurement, legal, and operational departments, so that all leases and embedded lease components get identified.
• Proactive Review and Reconciliation: Monthly or quarterly reconciliations and internal reviews to catch errors before the audit team does.
• Qualified Personnel: Staff with adequate training and expertise in ASC 842 requirements.

When auditors meet an organization with these traits, the audit process works much more as a joint effort and less as a contest. Deloitte's Roadmap: Leases carries an appendix on internal control over financial reporting for leases³.

A well-prepared company can hand over requested documentation fast. It can explain its accounting judgments with confidence and show a clear audit trail. The result is often very few findings. Any issues that do turn up are usually minor and easy to resolve.

Closing the Loop After an Audit Finding

For controllers and accounting managers, steady improvement in lease accounting is a must. Check your current processes against the best practices in this playbook. Invest in staff training and the right technology to strengthen your control environment and make your data more accurate. If you deal with possible weak spots early, you will not only streamline your next audit but also ensure ongoing compliance.

Related Articles

• Guide to Embedded Lease Identification
• ASC 842 Audit Checklist for Controllers
• Understanding ROU Asset Calculations
• Continuous Lease Compliance