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Lease Accounting Update

January 12, 2016
SFisher-2

Susan Fisher, Senior Manager of Accounting and Consulting Services at LGT

On November 11, 2015 the FASB voted 6 to 1 to move forward with new lease accounting guidance that would require companies to include lease obligations on their balance sheets.

 

Under current lease accounting standards, most leases are not reported on a lessee’s balance sheet and sometimes the amounts involved can be substantial. There are two types of leases—capital and operating. In a capital lease, the lessee recognizes an asset and liability on the balance sheet while under an operating lease, it does not.

 

 

 

Under the proposed new standard,

  1. The lessee will recognize a right-to-use asset that represents its right to use the leased asset for the lease term and a liability to make the payments. This would apply to leases with a maximum possible term of more than 12 months. As a practical matter, the balance sheet will report leased assets where the lessee is expected to consume more than an insignificant portion of the leased asset.

 

  1. The lessor will determine classification on the basis of whether the lease is effectively a finance or sale, rather than an operating lease, with the overriding factor being whether the lease substantially transfers all the risks and rewards incidental to ownership.

 

 

Lessee accounting for leases should be categorized into two different types:

  1. Type A leases (non-property), for example: cars, trucks, equipment
  2. Right-to-use asset is initially measured at the present value of lease payments
  3. Amortization of the right-to-use asset
  4. Discount of the lease liability would be interest expense separate from the amortization of the right-to-use asset
  5. Type B leases (property), for example: land, buildings, or part of a building
    1. Right-to-use asset is initially measured at the present value of lease payments
    2. Single lease cost, which combines the discount on the lease liability with the amortization of the right-to-use asset

 

Lessor accounting for leases under the above types of leases:

  1. Type A leases – Lessor is precluded from recognizing profit at lease commencement if the lease does not transfer control of the underlying asset to the lessee. This requirement aligns with the notion of what constitutes a sale in the lessor accounting guidance with that of the new revenue recognition standard, which evaluates whether a sale has actually occurred from the customer’s perspective. Recognition will be similar to current sales type/direct financing accounting.
  2. Type B leases – In most cases, the lessor will recognize these leases similarly to current operating lease accounting and continue to hold the underlying asset. Lease income is recognized over the lease term, generally on a straight-line basis.

 

The new standard is expected to be finalized in early 2016 and intended to increase transparency and comparability among companies that lease assets.

Public companies will be required to adopt this new standard for fiscal years beginning after December 15, 2018 (calendar year companies 1/1/19).

Non-public companies will be required to apply the new standard for fiscal years beginning after December 15, 2019 (calendar year companies 1/1/20)

Early adoption will be allowed after the standard has been issued.

The services of a legal or tax advisor should be sought before implementing any ideas contained in this blog. To reach a financial advisor at Lane Gorman Trubitt, PLLC, call 214.871.7500 or email at askus@lgt-cpa.com.

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