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January 1, 2010updated 12 Apr 2017 4:28pm

Lessor accounting to come under the spotlight

As part of their global convergences process, the IASB and FASB (the Boards) have been working to put together a single, comparable, worldwide lease standard They expect to release an exposure draft in mid-2010 and a final standard in mid-2011, which will require all leases to be reported on the lessees balance sheet.

By Adrian Suckling

As part of their global convergences process, the IASB and FASB (the Boards) have been working to put together a single, comparable, worldwide lease standard. In March 2009, the Boards issued a joint discussion paper. They expect to release an exposure draft in mid-2010 and a final standard in mid-2011, which will require all leases to be reported on the lessee’s balance sheet.

This will have a substantial impact on lessees’ financial statements, and importantly, the new standard will also remove the distinction between operating and finance leases.

Initially, lessor accounting was scoped out of the project because of time pressures. However, in response to FASB concerns, and responses to the discussion paper, it now seems likely that the Exposure Draft will include lessor accounting.

At the November 2009 meeting of the Boards, initial and subsequent measurement of the lessee’s obligation to pay rentals and right-of-use asset was discussed, and certain tentative decisions were reached. Initial measurement of the lessee’s right-of-use asset would be at cost, which would then be carried at amortised cost and charges described as amortisation rather than rental expense.

For the lessee, initial measurement of the lessee’s obligation to pay rentals will be based on the present value of the lease payments, discounted at the incremental borrowing rate. It could prove particularly difficult to calculate an accurate incremental borrowing rate for existing operating leases for the lessee, and this liability will then be held at amortised cost.

At the November meeting, there was continuing discussion of lessor accounting, and under current proposals the lessor will recognise the leased asset, a lease receivable and a liability reflecting the performance obligation.

It was decided that initial measurement of the lessor’s receivable would be at the present value of the lease payments, discounted using the interest rate implicit in the lease, plus any initial direct costs incurred by the lessor. Subsequent measurement would be at amortised cost using the effective interest method and it is likely that the information required to discount the future payments will be much more readily available to the lessor than lessee as part of their deal evaluation process.

Equal and opposite to the receivable is the lessor’s performance obligation. The lessor’s performance obligation would be at the transaction price with subsequent measurement reflecting decreases in the obligation to permit the lessee to use the leased item over the lease term. However, unless some element of netting is allowed, the lessor may end up “double counting” on its balance sheet, with both the receivable and the performance obligation recorded gross, as well as the leased asset.

In summary, although no final decision on whether to include lessor accounting in the scope of the standard has been made, it now seems likely that the exposure draft will encompass both lessee and lessor accounting; although how and when this will be included in the issued standard remains to be seen.

The author is a senior manager at PricewaterhouseCoopers LLP. The views expressed are the views of the author and do not necessarily reflect the views of the firm.

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