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Leases (IASB/FASB)

Date recorded:

The project manager introduced the objective of the meeting and provided an overview of the agenda papers.

The objective of the January meeting is to have an in-depth discussion of:

  1. The possible ways forward for lessor accounting; and
  2. The possible ways forward for lessee accounting, taking into account any possible ways of providing relief for small ticket leases.

The Boards will not reach decisions on the lessee and lessor accounting models at this meeting. Instead, the staff will ask whether the Boards have any questions on the possible approaches discussed in the agenda papers and whether there are other approaches that the staff should explore.

The Boards will be asked to reach decisions at a future Board meeting to be held in March 2014.

An overview of the agenda papers is included in agenda paper 3 which is summarised below:

Lessor Accounting Model (Agenda Paper 3A)

Discusses the following three approaches with respect to classifying leases as either Type A or Type B within the dual lessor accounting model:

  • Approach 1 – An approach that would determine lessor lease classification (Type A vs. Type B) based on whether the lease is effectively a financing or a sale, rather than an operating lease (that is, the concept underlying existing US GAAP and IFRS lessor accounting). That determination would be made based on whether the lease transfers substantially all the risks and rewards incidental to ownership of the underlying asset.
  • Approach 2 – This approach would also determine lessor lease classification (Type A vs. Type B) based on whether the lease is effectively a financing or a sale, rather than an operating lease. However, this approach would require that for any lease that gives rise to selling profit (or loss) – generally those of manufacturer and dealer lessors, the lessor would classify the lease as a Type A lease only if it transfers control of the underlying asset to the lessee (that is, meets the requirements for a sale in the forthcoming revenue recognition standard). Leases that do not give rise to selling profit (or loss) – generally those of financial lessors, would be classified in the same manner as all leases under Approach 1.
  • Approach 3 – An approach that would determine lessor lease classification (Type A vs. Type B) based on the lessor’s business model.

Lessor Type A Accounting (Agenda Paper 3B)

Discusses the following two approaches for accounting for Type A leases by lessors:

  • Approach A – To retain the receivable and residual approach proposed in the 2013 ED for all Type A leases.
  • Approach B – To eliminate the receivable and residual approach proposed in the 2013 ED and instead apply existing IFRS finance lease accounting (which is also existing US GAAP sales-type lease accounting) to all Type A leases, subject to potential minor drafting improvements.

Lessee Small-Ticket Leases (Agenda Paper 3C)

Discusses the following alternatives to provide relief in applying the leases guidance to small-ticket leases held by a lessee:

  • Providing explicit materiality requirements within the leases guidance.
  • Expanding the recognition and measurement exemption for short-term leases.
  • Permitting the leases guidance to be applied at a portfolio level.
  • Providing an explicit scope exclusion for small-ticket leases or leases of non-core assets.

Lessee Accounting Model (Agenda Paper 3D)

Discusses the following three approaches for the lessee accounting model:

  • Approach 1 – Proposes a single approach, according to which a lessee would account for all leases as the purchase of a ROU asset on a financed basis. Accordingly, a lessee would account for all leases as Type A leases (that is, recognising amortisation of the ROU asset separately from interest on the lease liability).
  • Approach 2 – Retains a dual-approach, with lease classification similar to that proposed in the 2013 ED, but offers targeted simplifications and improvements to the lease classification test. A lessee would account for all leases of assets other than property as Type A leases and most property leases as Type B leases (that is, recognising a single lease expense).
  • Approach 3 – Proposes a dual approach, with the lease classification principle consistent with existing US GAAP (ASC Topic 840, Leases – formerly Statement of Financial Accounting Standard No.13, Accounting for Leases) and IFRS (IAS 17 Leases). A lessee would account for the vast majority of existing capital (US GAAP)/finance (IFRS) leases as Type A leases, and the vast majority of existing operating leases as Type B leases.

Examples—Lessee and Lessor Accounting Models (Agenda Paper 3E)

Illustrates the application of the possible approaches regarding lease classification for both lessees and lessors.

Comments from FASB Board members

Lessor accounting model and lessor accounting

One Board member indicated that he finds confusing the risk and rewards approach vs control in approach 1 vs 2. The key matter should be is this lease a sale or not? Third party involvement adds complexity. Once it is decided that a contract is a lease then it is possible to start analysing other contracts such as third party involvements. The fact that there is selling profit is only relevant for classification purposes.

One Board member requested the staff to clarify the presentation impact for each type of lease.

One Board member indicated that he does not agree with the business model approach because for classification purposes it is necessary to focus on more specific factors.

Small ticket leases

Several Board members indicated that they agreed with the comments raised by IASB members (see below for IASB board members comments).

One Board member indicated that the ED does not define portfolio and it needs to be clarified.

One Board member indicated that they should not add concepts of materiality in the standard.

Lessee accounting

One Board member in reference to paragraph 38(c) “some constituents disagree with the proposal to use the remaining economic life of the underlying asset for classification of property leases and the total economic life of the underlying asset for leases of assets other than property” indicated that he shares this concern because there could be a different lease classification if a lease is entered at the beginning of an asset’s economic life versus if it is entered at a later stage even if you are leasing the same thing for the same amount of time.

The project manager responded that the remaining useful life of an asset is relevant to classifying a lease because it reflects the remaining benefit of the asset.

One Board member expressed that a lessee does not negotiate whether it is the beginning or the end of an asset’s economic life.

One Board member indicated that approach 2 introduces options which will add complexity for cash flow classification.

Several board members from FASB and IASB (including IASB Chairman) indicated that they do not believe leases are executory contracts.

Comments from IASB Board members

Lessor accounting model and lessor accounting

One Board member expressed that the papers presented by the staff were improvements from the ED in the project and requested the staff to focus on explaining cost and complexity in the papers for next meeting in March.

One Board member asked the staff to explain why symmetry is not important now and stated that it is necessary to have more examples to understand each model/approach.

The project manager responded that the approach was taken based on feedback received on ED 2013. Conceptually he believes it will be better to have a symmetrical model but due to cost and complexity issues the staff decided not to focus on that.

One Board member expressed that if the key problem is the lessee model it is necessary to focus on that instead of the lessor model.

The Chairman indicated that decisions will be made in March. The objective is to improve the current lessor accounting model and leave out the idea for a symmetrical model due to cost and complexity and there is no need to add new concepts.

One Board member expressed that he would prefer to have less complexity than in the dual model presented by the staff.

Small ticket leases

One Board member said that he would prefer to have a specific threshold for scope purposes such as 5% of non-current assets so that the standard will apply to entities with heavy use of leases. This proposal did not obtain support from IASB or FASB board members.

One Board member expressed that there has to be an objective criteria, before dismissing the notion of non-core assets; for example there is an objective criteria for items that can be capitalised as part of inventory.

Several Board members indicated agreement with the portfolio approach and that it should be explored further.

The project manager explained that Board members can select one or more or even additional alternatives to provide relief from applying lease accounting.

Lessee accounting

One Board member expressed concern that in the type B approach there is inconsistency in presentation because there is debt but not interest expense. Also, he would like to explore other options for asset classification that is not necessarily PP&E.

One Board member indicated his preference for a single model since most leases will fall into one category.

One Board member asked the staff to further explore constituents’ comments on depreciation (straight line vs consumptions basis).

The Chairman indicated that approach 1 seems the most reasonable conceptually, approach 2 seems conceptually weaker but is still defensible (users now expect type B model for certain industries) and approach 3 is not feasible because they will lose support because it is conceptually the weakest. He would prefer approach 1 as default and approach 2 being an option but limited to certain industries such as retail, i.e. this option should be explored.

One board member responded whether this option should be irrevocable, or whether it could be changed after it is adopted and on what basis.

Next steps

There were no decisions made during this meeting. The staff will provide new papers based on comments obtained from the Board members for the next meeting to be held in March.

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