Monday, May 19, 2014

Status of redeliberations: lessors

(See prior post for information on lessees and the general redeliberation process)

Lessor accounting update:

In response to a large chorus of, "It ain't broke, don't fix it," the boards in March decided that lessor accounting should be generally left unchanged.

How many models? Both boards agreed with a Type A/Type B separation, though changing the dividing line between them from the RED proposal back to the current FAS 13/IAS 17 of determining whether a lease is effectively an installment purchase that transfers the risks & benefits of ownership. Thus, substantially all current operating leases would become Type B leases; substantially all current capital leases would become Type A leases. However, the standard would be worded as a "principle" rather than a "rule", so the 90% and 75% tests would no longer be bright lines. The FASB further concluded, consistent with the forthcoming revenue recognition standard, that profit could only be recognized at commencement if control of the underlying asset is transferred (that is, there is an ownership transfer or bargain purchase option in the lease).

Finance accounting: The boards scrapped the "receivable and residual" methodology, and will leave the existing finance lease accounting in place (except that leveraged lease accounting seems still to be excluded).

Discount rate: Reference to property yield will be removed, and the rate the lessor charges the lessee is defined as the rate implicit in the lease, including initial direct costs. The discount rate is not to be reassessed even if a lease is modified.

Modifications: The April meeting dealt with issues not specifically addressed by the RED. As for lessees, if a lease is modified with the addition of new rights-of-use (such as additional square footage in a building, or additional equipment), and the increase in price is commensurate with that the cost would be to get the new assets on their own, the additional asset and rent should be recognized as a new lease. Otherwise, when a Type B lease is modified, the modified lease is in effect treated as a new lease (as is pretty much the case now), while a modification to a Type A lease is handled using IFRS 9 or FASB Topic 310. This is largely consistent with current IFRS practice; however, it represents a change for U.S. companies, which they think will be simpler to apply. In effect, when the criteria for derecognition of the asset are met, the modified lease is treated as a new lease; otherwise, the carrying value is recalculated using the original discount rate, with the offset recognized in profit or loss.

Variable lease payments: The RED called for recalculating variable lease payments (VLPs) based on an index or rate, and the lease as a whole, when the rate changes. At the April meeting, the boards decided that lessors would not be required to reassess VLPs at all. Instead, any differences between the original estimate and actual payment are recognized in profit and loss as incurred, the same as FAS 13/IAS 17 call for now.

Short term leases: See lessee update.
Purchase & renewal options: See lessee update.
Timeline: See lessee update.

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