Final decisions before the Exposure Draft

At the FASB & IASB meetings July 19, 21, and 22, the boards reached the following decisions for the new lease accounting standard:

Scope & sale/leaseback accounting

Previously, the boards had set several criteria that would indicate a transaction should be considered a sale/purchase rather than a lease. These had the effect of converting many currently capital leases into purchases. The boards have now retreated somewhat from that position, by removing two criteria:

1. The contract covers the whole of the expected useful life of the asset.
2. The contract specifies a fixed return to the transferor.

The boards reaffirmed treatment as a purchase/sale if, at the end of the contract, control of the underlying asset and all but a trivial amount of the risks and benefits associated with that asset are transferred to the recipient. This requirement must be met for sale/leaseback accounting to be permitted.

Lessor accounting: performance obligation vs. derecognition

A lessor that retains exposure to significant risks and benefits associated with the underlying asset should apply the performance obligation approach; if no significant exposure remains, the derecognition approach is to be used. The risks and benefits may be during the expected term, or subsequent to the term (such as the expectation of re-leasing or selling the asset). Counterparty credit risk is not to be considered. The assessment is to be made at the beginning of the lease and not subsequently reassessed.

Risks & benefits during the lease term include: significant contingent rentals based on use or performance of the underlying asset, options to extend or terminate, and material nondistinct services provided. Risks & benefits subsequent to the lease contract include: whether the lease term is short in relation to the useful life of the asset, and whether a significant change in the value of the asset is expected (including the effect of .

In deciding which approach to use, a lessor must include third-party residual guarantees in determining whether the lessor is exposed to significant risks and benefits. (It had been suggested that these should be considered as insurance contracts separate from the lease agreement and not affecting the approach decision; this is now discarded.)

Lessor accounting: leases with service components

The boards disagreed. The majority of the FASB thought that nondistinct services should not be bifurcated from the lease component under derecognition. The majority of the IASB took the opposite view, with the service element to be accounted for in accordance with the new revenue recognition standard. The FASB majority thought that if bifurcation was done, the service element should give rise to a receivable and performance obligation. Presumably both approaches will be presented in the upcoming Exposure Draft.

Exposure draft release

The boards plan to release the Exposure Draft of the proposed new lease accounting standard during the week of August 9. This will restate, in the form of a standard, the various decisions that they've made over the last 9 months. Anyone is invited to submit a comment letter for the boards to review. Some decisions clearly remain to be made, since the boards have disagreed on a few issues, and they're trying to reach a converged standard. And everything so far is couched as "tentatively decided," so in theory everything is subject to alteration. Realistically, though, it is unlikely that the broad outlines of the new standard, particularly placing all leases on the balance sheet, will change.