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Leases

Date recorded:

Lessor accounting - Transition under a derecognition approach

In May 2010, the IASB expressed an interest in using a hybrid lessor accounting model. Under a hybrid model, a lessor would use a performance obligation approach to lessor accounting in some situations and a partial derecognition approach in others. The FASB have tentatively decided to adopt a performance obligation approach for all leases. The Boards debated whether the hybrid approach should be adopted for lessors' accounting.

Two possible variants of the hybrid approach were discussed (known as 'D' and 'F'):

  • Approach D would use the performance obligation approach for leases for which the lessor's exposure to the risks associated with the underlying asset is significant. (The IASB staff commented that this approach was similar to the existing requirement to classify leases as finance leases or operating leases. The performance obligation approach would apply to leases where the lessor's exposure to the underlying asset is significant (operating leases). The partial derecognition approach would apply to all other leases (finance leases).)
  • Approach F would use the partial derecognition approach for all leases except short term leases and leases of certain real estate (including but not limited to investment property as defined in IAS 40). (The IASB staff commented that this approach would avoid the problems associated with short-term leases and investment property leases and would result in the partial derecognition approach for most leases.)

Both approaches had their supporters, and the debate was heated at times. Those supporting the performance obligation approach usually would not accept the partial derecognition approach at all. However, some Board members did not think that either approach advanced lessor accounting significantly.

One Board member thought the approaches were looking at the wrong issue: to him the key issue was accounting for the underlying asset; the right to use that asset was a separate item to be accounted for under revenue recognition. However, this view did not receive support.

Ultimately, the session chairman determined that Approach D (performance obligation) had majority support among both Boards. However, the Boards then seemed to second-guess themselves as they were concerned that Approach D would challenge their decisions on leases with inseparable service elements on the previous day. A discussion ensued in which it became apparent that the IASB actually preferred a different lessor model in some cases - for example in leases involving real estate (both investment property and other real estate leases). This approach would bifurcate the lease payments: the lease element would be accounted for using the leasing standard; the service element using revenue recognition.

The Boards ended in two different places on this issue: the FASB were firmly (4 in favour) in the performance obligation (Approach D) approach. The IASB was firmly (11 in favour) in the bifurcation approach.

The session chairman asked the staff to develop realistic examples of both approaches to lessor accounting using a lease that included inseparable service elements. Those examples would be discussed in July.

One IASB member noted that he would not sign a ballot on the revenue recognition ballot draft while the lease accounting issue remain unresolved. This would mean that he would be unable to sign the ballot as the lease issue would not be resolved until after his term as a Board member expired.

 

Accounting for purchase options

The staff invited the Boards to reconsider their tentative decisions on accounting for purchase options. They proposed that the Boards adopt one of two fundamental approaches - as the staff was split, they were unable to make a definitive recommendation. Approach A would account for purchase options consistently with the accounting for options to extend or terminate a lease; Approach B would account for purchase options only upon exercise.

Some Board members who supported Approach B wanted bifurcate the option from the lease and account for the renewal option as any other kind of option. Purchase options were seen as fundamentally different from renewal options - a renewal option provided an additional period of a right to use; a purchase option gave access to the underlying asset. These are different in substance and deserved different accounting.

After another vigorous debate, a majority of both Boards (IASB: 10 in favour; FASB: 3 in favour) voted for Approach B. In follow-up votes, both Boards agreed that the option should not be bifurcated (that is, a 'do nothing with it' approach).

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