Tuesday, August 24, 2010

The shocking overhaul lease accounting standard

As I mentioned before in here : Exposure Draft of IAS 17 Leases, a new approach to lease accounting, on 17 August 2010, the global accounting standard-setter of IASB and the U.S accounting standard-setter of FASB have published for public comment a joint proposal to improve the financial reporting of lease contracts.

Soon after the publication, such ED becomes a hot topic of discussion and commenting amongst the accounting practices.

The proposal would require that all lease obligations be recorded on the balance sheet at the present value of the expected lease payment, along with an asset representing the right to use the leased asset. While the current accounting standard recognizes the capital (which places the lessee's asset and liability on the balance sheet) and operating lease (which goes off the balance sheet) method.

Before the publication of such ED, Reuters on August 15, 2010 published an article titled “Rulemakers plan global overhaul of lease accounting.” 

"Operating leases have long been considered one of the major off-balance sheet obligations, so there was this view that in an operating lease, the lessee has incurred an obligation and that it should be reflected on the balance sheet," said JanetPegg, an accounting analyst at UBS Investment Bank as reported by Reuter in the article.

Further, it reported that "while some investors may welcome the change to lease accounting because it will provide more clarity, many companies are fearful that the change will force their balance sheets to balloon overnight, and change all sorts of leverage and debt ratios, forcing them to renegotiate covenants with their lenders."

The Economist on August 19, 2010 in an article titled ”Shocking new accounting rules - You gonna buy that?” reported among others that "today, companies can opt either for a “capital lease”, which goes on the balance-sheet, or an “operating lease”, which does not. This distinction makes a certain sense. But the IASB and FASB think it is open to abuse. By labeling leases as “operating”, firms can appear less indebted than they really are. The new rules would put the right to use the leased item in the assets column. The obligation to pay for it would go in the debit column."

Leslie Seidman, FASB board member told WebCPA as reported in the article “Accounting Boards Propose Leasing Standards”  published on August 17, 2010 that "This proposal would put an asset on the books and amortize it, sort of like a depreciation expense, and then put a liability up and record interest expense related to it. First you’ve changed what you’re calling these P&L items, and then you’re changing the pattern of it because the asset will be amortized ratably and then interest expense will be recognized based on a declining liability amount. The pattern is just different from before, but again it’s intended to simulate the accounting if you were to buy it and finance it.”

Another related articles :

  1. New lease accounting standard criticised for complexity (Accountancy Magazine)
  2. New Accounting Rules Will Shatter The High Corporate Cash Mirage (Business Insider)
  3. IASB and FASB propose to overhaul lease accounting
  4. New leasing rules could hit bank lending (AccountancyAge)
  5. Businesses await new standard for lease accounting (AccountingWeb)
  6. FASB, IASB Ink Proposal to Put Leases on Balance Sheets (ComplianceWeek)

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