IASB and FASB of the US have published for public comment a revised Exposure Draft outlining proposed change to the accounting for leases. The proposal aims to improve the quality and comparability of financial reporting by providing greater transparency about leverage, the assets an organisation uses in its operations and the risks to which it is exposed from entering into leasing transactions.
Under existing accounting standards, a majority of leases are not reported on a lessee’s balance sheet. Additionally, the existing accounting models for leases require lessees and lessors to classify their leases as either finance leases (for example, a lease of equipment for nearly all of its economic life) or operating leases (for example, a lease of office space for 10 years) and to account for those leases differently.
For finance leases, a lessee recognises lease assets and liabilities on the balance sheet. For operating leases, a lessee does not recognise lease assets or liabilities on the balance sheet. The existing standards have been criticised for failing to meet the needs of users of financial statements because they do not always provide a faithful representation of leasing transactions.
Hans Hoogervorst, Chairman of the IASB commented
“The development of an improved standard for leasing is vital. At present, investors must take an educated guess to determine the hidden advantage from leasing by using basic disclosures in financial statements and applying arbitrary multiples. It is clearly not in the best interests of investors to expect analysts and others to guess the liabilities associated with leases. The proposals outlined in this revised Exposure Draft will go a great distance towards improving the quality and comparability of financial reporting in this area.”
Leslie Seidman, Chairman of the FASB commented
“The FASB and the IASB have worked together to develop a revised, converged proposal to address the inadequacies of current lease accounting and disclosures. The proposal is responsive to the widespread view of investors that leases are liabilities that belong on the balance sheet. The Boards revised the original proposal to distinguish between different types of leases for income statement and cash flow purposes, in response to feedback received from stakeholders.”
Lease accounting that would require a lessee to recognise assets and liabilities for the rights and obligations created by leases. A lessee would recognize assets and liabilities for leases of more than 12 months.
Stakeholders have informed the Boards that there are a wide variety of lease transactions with different economics. To better reflect those differing economics, the revised Exposure Draft proposes a dual approach to the recognition, measurement and presentation of expenses and cash flows arising from a lease. For most real estate leases, a lessee would report a straight-line lease expense in its income statement. For most other leases, such as equipment or vehicles, a lessee would report amortisation of the asset separately from interest on the lease liability. The Boards are also proposing disclosures that should enable investors and other users of financial statements to understand the amount, timing, and uncertainty of cash flows arising from leases.
The Boards are also proposing changes to how equipment and vehicle lessors would account for leases that are off-balance-sheet. Those changes would provide greater transparency about such lessors’ exposure to credit risk and asset risk.
Stakeholders are encouraged to review and provide feedback on the revised Exposure Draft by September 13, 2013.