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FASB Releases Lease Accounting Standard

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FASB Releases Lease Accounting Standard

The Financial Accounting Standards Board issued its long-awaited lease accounting standard Thursday, one of the major convergence projects on which it has collaborated for a decade with the International Accounting Standards Board.

Thursday, February 25, 2016

By Michael Cohn, Editor-In-Chief, AccountingToday.Com

The Financial Accounting Standards Board issued its long-awaited lease accounting standard Thursday, one of the major convergence projects on which it has collaborated for a decade with the International Accounting Standards Board.

The accounting standards update aims to improve financial reporting about leasing transactions and will affect all companies and other organizations that lease assets such as real estate, airplanes, and manufacturing equipment, in many cases putting their operating leases on the balance sheet for the first time.

While the standard differs somewhat from the IASB's, there aren't many surprises in the final document. “I don’t think there should be any surprises to our constituents who have followed the process,” FASB vice chairman Jim Kroeker told Accounting Today. “The standard will be directly in line with the public discussions and deliberations that we’ve had. What our constituents can expect, particularly from an investor's perspective, is the increased transparency and comparability associated with putting on the balance sheet lease obligations that have previously been relegated to the footnotes.”

The update will require organizations that lease assets—referred to as “lessees”—to recognize on the balance sheet the assets and liabilities for the rights and obligations created by those leases.

“The new guidance responds to requests from investors and other financial statement users for a more faithful representation of an organization’s leasing activities,” said FASB chair Russell G. Golden in a statement. “It ends what the U.S. Securities and Exchange Commission and other stakeholders have identified as one of the largest forms of off-balance sheet accounting, while requiring more disclosures related to leasing transactions. The guidance also reflects the input we received during our extensive outreach with preparers, auditors, and other practitioners, whose feedback was instrumental in helping us develop a cost-effective, operational standard.”

Under the new guidance, a lessee will be required to recognize assets and liabilities for leases with lease terms of more than 12 months. Consistent with current U.S. GAAP, the recognition, measurement, and presentation of expenses and cash flows arising from a lease by a lessee primarily will depend on its classification as a finance or operating lease. However, unlike current GAAP—which requires only capital leases to be recognized on the balance sheet— the new ASU will require both types of leases to be recognized on the balance sheet.

The ASU also will require disclosures to help investors and other financial statement users better understand the amount, timing, and uncertainty of cash flows arising from leases. These disclosures include qualitative and quantitative requirements, providing additional information about the amounts recorded in the financial statements.

The accounting by organizations that own the assets leased by the lessee—also known as lessor accounting—will remain largely unchanged from current GAAP. However, the ASU contains some targeted improvements that are intended to align, where necessary, lessor accounting with the lessee accounting model and with the updated revenue recognition guidance issued in 2014.

The FASB and the International Accounting Standards Board began a joint project in 2006 to improve the financial reporting of leasing activities. Since that time, the FASB and the IASB have issued three documents for public comment that generated more than 1,700 comment letters.

Throughout the project, the FASB and the IASB also conducted extensive outreach with diverse groups of stakeholders. That outreach included more than 200 meetings with preparers and users of financial statements; 15 public roundtables, with more than 180 representatives and organizations; 15 preparer workshops attended by representatives from more than 90 organizations; and 14 meetings with preparers. FASB and the IASB also met with more than 500 users of financial statements covering a broad range of industries.

The IASB issued its final standard on leases (IFRS 16) on Jan. 12, 2016 (see IASB Releases Lease Accounting Standard).

“When the new FASB and IASB leases standards take effect, they’ll provide investors across the globe with more transparent, comparable information about lease obligations held by companies and other organizations,” said Golden.

A wide variety of companies will be affected by the new leasing standard.

“I think that the update to the standard is going to have a significant impact on many companies specifically related to adding both assets and liabilities to the balance sheet,” said Jared Rosen, director at the Baltimore accounting firm Ellin & Tucker. “Everything that’s now classified as an operating lease and only shows up in the financial statements as a rent expense and disclosure item will now be on the balance sheet.”

The accounting standards update on leases will take effect for public companies for fiscal years, and interim periods within those fiscal years, beginning after Dec. 15, 2018. For all other organizations, the ASU on leases will take effect for fiscal years beginning after Dec. 15, 2019, and for interim periods within fiscal years beginning after Dec. 15, 2020. Early application will be permitted for all organizations.

While companies will have some time to get ready, Kroeker advises them not to wait too long. “Companies should begin their process as soon as practicable,” he said. “One could look and say that the lead time before mandatory implementation is a number of years, but the likelihood of successful implementation is probably increased proportionately by the time period in which one starts. Start early and engage not just accountants, but others within the organization, whether that be the legal groups—if leases happen to be an important part of debt covenants or other contractual arrangements—make sure that the legal team understands the implementation, or your contracting team, or those who negotiate arrangements with other third parties are aware of the change. Involve IT if and when necessary. Come up with a team that looks at the standard that goes beyond financial reporting.”

Inventorying all of the leases will be essential, according to Rosen. "While companies have a time horizon because the standard is not going to be effective until calendar year 2019 for public companies and 2020 for private companies, there is some time to adjust to the new standard, but I do think that it’s going to take a lot of effort to inventory all the leases that are currently out there as operating leases and then calculate the asset and liability amounts at the date of adoption in order to include them on the balance sheets." said Rosen.

The final standard will resolve lingering uncertainty for many companies, according to Sean Torr, a director in Deloitte’s Advisory practice.

“I think the final iteration of the standard makes it very real now for U.S. companies,” said Torr. “There had been a lot of uncertainty around timing and the nature of this lease standard. Now with the release of the U.S. GAAP version it becomes more real and final for companies, so it serves as a milestone for companies to really start getting serious around their implementation efforts. I think many companies, just because of the long deliberation cycle that has been held around leasing, have adopted a wait and see mode to addressing the standard. Now that we have a final standard I think companies are realizing that this is going to be a big effort, and it’s time to start preparing.”

On March 29, 2016, the FASB will host In Focus: FASB Accounting Standards Update on Leases, a live webcast taking place from 1:00 to 2:00 p.m. EDT. The webcast will feature FASB members Marc Siegel and Daryl Buck discussing the ASU with FASB staff, and answering questions submitted by viewers. Live broadcast viewers will be eligible for up to 1 hour of CPE credit. For more information or to register for the event, click here.

Further information about the accounting standards update—including a FASB In Focus overview, a FASB: Understanding Costs and Benefits document, and a video entitled Why a New Leases Standard?—is available at www.fasb.org.

Related links:
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