Your Lease/Balance Sheet Will Soon Be Related

Your Lease/Balance Sheet Will Soon Be Related

November 30, 2011 Off By Chris

Accounting Standards – What’s The Latest? As a CEO or CFO, keeping an eye on the progress of the Global Accounting Standards topic will help you position your company and preserve its value. Specifically regarding your corporate real estate, an understanding of the discussion around the re-characterization of leases will benefit you in your leasing decisions. The changes being proposed primarily affect public companies but there will be a modified standard for smaller, non-public companies which is referred to as “Private-Company GAAP”.

For background on this topic, please see my earlier posts:
Change In Accounting Rules Impacts Commercial Real Estate 
Delay in Accounting Changes Expected

The Debate Continues. The Financial Accounting Standards Board (FASB) continues to be embroiled in a hot debate with the Securities Exchange Commission (SEC) over the scope of the changes to the accounting standards and their role on the international playing field of accounting. FASB’s parent, the Financial Accounting Foundation, insists that FASB retain a key role in setting U.S. financial reporting standards instead of relinquishing that control to the International Accounting Standards Board. David Katz of wrote an interesting article on this topic, a copy of which is included at the conclusion of this post.

Inevitable Changes. Regardless of who has control of the standards, it appears that the recharacterization of all lease obligations from the Income Statement to the Balance Sheet is inevitable. It simply remains to be seen when the rules will take effect and how the nuances of the requirements will be ironed out. Final rules were to be set by June 11, 2011 but the overwhelming comments and concerns have given rise to sweeping changes and a new exposure draft document detailing the changes is expected in the first half of 2012. FASB and the International Financial Reporting Standards (IFRS) board are working together to determine the new standards. The latest progress made included changes to the exposure draft on November 15, 2011. Click on this link for details: FASB Update 11-30-11

According to a summary published by Cassidy Turley in August 2011 entitled FASB Changes Course (again) on Lease Accounting, the tentative decisions impacting tenants include:

  • Balance Sheet – Present value of future lease payments as of the lease commencement date will be recognized as an asset/liability.
  • Income Statement – Assets will be amortized on a systematic basis that reflects the pattern of consumption (presumably straight-line) and measure the liability using the effective interest method.
  • Discount Rate – The rate that the lessor charges (if known) or lessee’s incremental borrowing rate.
  • Lease Term – Limited to the non-cancellable period and only include options to extend or terminate a lease when there is a significant economic incentive for the lessee to exercise an option to extend or not to exercise an option to terminate.
  • Variable Lease Payments – Calculated as part of the lease asset and liability and including increases in lease payments based on the index or rate that exists as of the lease commencement date. Adjustments should be made if the index or rate changes. Variable lease payments that are in-substance fixed payments (such as those based on minimum sales volume) would be included in the lessee’s liability.
  • Measurement Date – Asset and liability recorded as of the lease commencement date. Costs or incentives prior to that will presumably be included in the calculation.

Article – Two Steps Back from Global Accounting – David M. Katz 11-16-11