written by Aaron Spencer
Leasing is an important activity for many organizations. It provides a means of gaining access to assets, obtaining financing, and reducing an organization’s exposure to the risks associated with asset ownership. However, significant change is coming to lease accounting under U.S. GAAP.
The FASB and IASB convergence efforts continue to churn as standard-setters attempt to rewrite the accounting rules for recording and disclosing leasing transactions as part of a joint project and a larger effort to improve consistency between US GAAP and IFRS (International Financial Reporting Standards).
Leased assets can include real estate, airplanes, trucks and automobiles, ships, and construction and manufacturing equipment. Because of its prevalence, it’s important that financial statement users be able to gain a clear understanding of an organization’s leasing activities.
Clarify and Recognize Lease Transactions
The existing accounting model requires lessees and lessors to classify their leases as either capital or operating. This model has been criticized widely for failing to meet the needs of financial statement users by not always providing faithful representation of leasing transactions. This has resulted in a growing sentiment expressed by financial statement users and other stakeholders to change accounting rules to require that an asset and corresponding liability be recognized for all lease transactions, and that the concept of operating leases should be removed from existing lease standards. Those in favor argue that this increases transparency and comparability among organizations with assets under lease.
As previously mentioned, the core principle of the proposal is that an organization should recognize assets and liabilities arising from a lease. Existing standards do not require balance sheet recording for leases classified as operating. The recognition, measurement, and presentation of expenses and cash flows arising from a lease would depend primarily on whether the lessee is expected to consume more than an insignificant portion of the economic benefits embedded in the underlying assets. For practical purposes, this assessment would often depend on the nature of the underlying asset.
Eight years ago, the SEC recommended that such changes be made. Academic studies have offered similar recommendations. However, FASB has been slow to act as the change is considered very significant and would affect a tremendous number of organizations. On May 16, 2013, the FASB issued a revised Accounting Standards Update Expose Draft that addresses these proposed changes.
The standard-setting Boards plan to meet in the fourth quarter of 2013 to consider all feedback and begin redeliberations of significant issues. The timing is uncertain, but these accounting rules changes are certainly on the horizon, and many feel that we could see issued authoritative guidance in the next 18 months. It’s important that financial statement users begin planning for these changes now.
If you have any questions about Lease Accounting, please contact us 417-881-0145.