Leases

WHY DID THE FASB ISSUE A NEW STANDARD ON LEASES?

On February 25, 2016, the Financial Accounting Standards Board (FASB) issued an Accounting Standards Update (ASU) intended to improve financial reporting about leasing transactions. The ASU affects all companies and other organizations that lease assets such as real estate, airplanes, and manufacturing equipment.

Under the current accounting model, an organization applies a classification test to determine the accounting for the lease arrangement:
  • Some leases are classified as capital leases (for example, a lease of equipment for nearly all of its useful life) whereby the lessee would recognize lease assets and liabilities on the balance sheet.
  • Other leases are classified as operating leases (for example, a lease of office space for 10 years) whereby the lessee would not recognize lease assets or liabilities on the balance sheet.
The existing operating lease model has been criticized for failing to meet the needs of users of financial statements because it does not always provide a faithful representation of leasing transactions.

The U.S. Securities and Exchange Commission (SEC) issued a report on off-balance sheet activities in 2005 that recommended that changes be made to the existing lease accounting requirements to ensure greater transparency in financial reporting. A number of other studies have made similar recommendations.



In 2006, the FASB and the International Accounting Standards Board (IASB) embarked on a joint project to improve the financial reporting of leasing activities.
The new guidance responds to requests from investors and other financial statement users for a more faithful representation of an organization’s leasing activities.

The new guidance responds to requests from investors and other financial statement users for a more faithful representation of an organization’s leasing activities. More details on the FASB’s outreach to stakeholders during the project can be found within a FASB In Focus document and a feature video, Why a New Leases Standard?

The new guidance ends what the SEC and other stakeholders have identified as one of the largest forms of off-balance sheet accounting, while requiring more disclosures related to leasing transactions.

The guidance also reflects the input the FASB received during its extensive outreach with preparers, auditors, and other practitioners, whose feedback was instrumental in helping the FASB develop a cost-effective, operational standard.




Continue to Full Project Information

WHAT ARE THE CORE PRINCIPLES OF THE NEW STANDARD?

The new standard will require organizations that lease assets— referred to as “lessees”—to recognize on the balance sheet the assets and liabilities for the rights and obligations created by those leases.
The new standard will require organizations that lease assets— referred to as “lessees”—to recognize on the balance sheet the assets and liabilities for the rights and obligations created by those leases.

Under the new guidance, a lessee will be required to recognize assets and liabilities for leases with lease terms of more than 12 months.
Consistent with current Generally Accepted Accounting Principles (GAAP), the recognition, measurement, and presentation of expenses and cash flows arising from a lease by a lessee primarily will depend on its classification as a finance or operating lease.

However, unlike current GAAP—which requires only capital leases to be recognized on the balance sheet— the new ASU will require both types of leases to be recognized on the balance sheet.

The ASU also will require disclosures to help investors and other financial statement users better understand the amount, timing, and uncertainty of cash flows arising from leases. These disclosures include qualitative and quantitative requirements, providing additional information about the amounts recorded in the financial statements.

The accounting by organizations that own the assets leased by the lessee—also known as lessor accounting—will remain largely unchanged from current GAAP. However, the ASU contains some targeted improvements that are intended to align, where necessary, lessor accounting with the lessee accounting model and with the updated revenue recognition guidance issued in 2014.


Continue to Full Project Information

HOW WILL THE NEW GUIDANCE IMPROVE LEASE ACCOUNTING?




Continue to Full Project Information

WHO WILL BE AFFECTED BY THE NEW GUIDANCE?

Leasing is an important activity for many organizations—whether a public or private company, or a not-for-profit organization. It is a means of gaining access to assets, obtaining financing, and reducing an organization’s exposure to the risks of full ownership of the underlying asset.

The ASU affects all companies and other organizations that lease assets such as real estate, airplanes, ships, and construction and manufacturing equipment.

Continue to Full Project Information

WHEN WILL THE FINAL ACCOUNTING STANDARDS UPDATE BE EFFECTIVE?

For public companies, the ASU is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. Thus, for a calendar year company, it would be effective January 1, 2019.

A public company is any organization that is any one of the following:
  1. A public business organization
  2. A not-for-profit organization that has issued, or is a conduit bond obligor for, securities that are traded, listed, or quoted on an exchange or an over-the-counter market
  3. An employee benefit plan that files or furnishes financial statements to the SEC
For all other organizations, the ASU is effective for fiscal years beginning after December 15, 2019 and for interim periods within fiscal years beginning after December 15, 2020.

Early application will be permitted for all organizations.


Continue to Full Project Information