Question

Explain what are recent changes in Lease accounting according to FASB/IFRS. Post your response in approx. 250- 350 words

Answer 1

The primary goals of the new lease accounting standards are to provide greater transparency and comparability in financial reporting and to require the liability associated with a lease be recognized on the lessee’s balance sheet. This is in contrast to today where only Capital and Finance Leases, representing only a small portion of the universe of real estate leases, are required to be recorded on the balance sheet.

For Finance Leases: Lessees must:

1. recognize interest on the lease liability and amortization of the right-of-use asset as separate line items on the income statement, and
2. classify repayments of the principal portion of the lease liability within financing activities and payments of interest on the lease liability within operating activities on the statement of cash flows.

For Operating Leases: Lessees must:

1. recognize a single lease cost allocated over the lease term on, generally, a straight-line basis, and
2. classify all cash payments within operating activities on the statement of cash flows.

For lessors, accounting practices remain largely unchanged. Additionally, FASB 842 outlines changes to leveraged leases, and sale-leaseback transactions.

The International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB), collectively the “Boards”, will require all leases be recognized as a liability on the balance sheet. § The IASB issued its new lease accounting standard on January 13, 2016.

The FASB is expected to issue its new standard in February. While very similar, there are key differences between the two standards.

• The effective date for the IASB’s new standard is 2019, while the effective dates for the FASB standard are 2019 for public companies and 2020 for private companies.
• Leases of 12 months or less are excluded from the requirements of the new standards (both IASB and FASB), as well as “low value” leases (IASB only).
• The IASB requires all leases be classified as Finance Leases.
• The FASB has a dual approach to lease classification with two types of leases: Finance Leases and Operating Leases.
• Finance Leases, per the new standards, are accounted for in the same manner as today’s Capital and Finance Leases and have a front-end loaded expense pattern.
• Operating Leases, per the new standard (FASB only), will have a straight-line Rent Expense; the same as today’s Operating Leases.
• Whether a Finance or an Operating Lease, it will be recorded on the balance sheet as a Right-of-Use (ROU) asset and a lease liability.
• The ROU asset and lease liability are generally determined based upon the present value of the lease payments over the primary term of the lease.
• Renewal options are only included in the determination of the ROU asset and lease liability if they are “reasonably certain” of being exercised.
• The liability associated with an Operating Lease (FASB only) is NOT DEBT, while the liability of a Finance Lease is considered debt.
• Compared to current lease accounting, the P&L impact of the FASB’s new standard will be minimal, while the IASB standard will result in the straight-line rent of today’s Operating Leases being replaced with the front-end loaded expense pattern of Finance Leases.