Partner in PwC's Accounting Consulting Services in
the UK, Peter Hogarth, provides an update on the leasing project
and tells of his hopes for things to come.
Once upon a time, a namesake of mine annoyed his village
neighbours by repeatedly telling them that the wolf was here. It
never was, and so nobody believed him. We all know what happened to
him, so it is with some nervousness that I tell you that the
revised leases exposure draft should be here soon.
The boards proudly announced in July that they had substantially
completed their discussions and that a revised leases exposure
draft would be published by the end of the year (It's the
wolf!). It didn't take long for that deadline to slip to the
first quarter of next year (I think I can see a wolf-like dot on
the horizon), but nevertheless the boards do seem to be approaching
the end of this phase of the project.
One of the principal criticisms of their 2010 proposals on
expense recognition was that they would result in a front-loaded
expense profile for lessees, regardless of the payment profile. The
boards spent several fruitless months last year in search of a
solution, but the issue refused to go away, even when the impact
was reduced following decisions concerning lease terms and
contingent rentals. The lobbying continued, and the boards have now
agreed on an approach that will result in different expense
recognition for different types of leases: some will apply the
approach proposed in 2010, similar to today's finance lease
accounting with its resultant expense front-loading; others will
apply a straight-line expense recognition pattern, similar to
current operating lease accounting.
Now, you might want to pause here and get yourself a strong cup
of tea before reading on.
This might sound as if several years of debate have resulted in
the status quo adjusted only for the capitalization of operating
leases. Actually, that is not too far from the reality, but
importantly the new model will include a different basis for
determining when each type of lessee accounting should be applied.
In principle, the new "bright-line" will depend on
whether the lessee acquires or consumes more than an insignificant
portion of the underlying asset. But this might be quite difficult
to work out, so the boards have decided on a couple of
presumptions, depending on the nature of the underlying asset:
leases of property should be accounted for using a
straight-line expense recognition pattern, unless the lease term is
for the major part of the underlying asset's economic life or
the present value of the fixed lease payments accounts for
substantially all of the fair value of the underlying asset;
leases of assets other than property (such as vehicles or
equipment) should apply the approach proposed in the 2010 exposure
draft, unless the lease term is an insignificant portion of the
underlying asset's economic life or the present value of the
fixed lease payments is insignificant relative to the fair value of
the underlying asset.
The same bright line tests would be applied by lessors.
Hopefully that strong cup of tea helped.
References to the leased asset's useful life and fair value
compared to the present value of the fixed lease payments might
sound familiar, but the new test will be different, especially for
equipment leases. And in order to accommodate a straight-line
expense while measuring the lease liability by an effective
interest method, asset amortization will in practice be a balancing
figure. Early signs are that stakeholders involved with equipment
leases have not warmed to the model. A few members of IASB and FASB
don't sound too keen either.
As I mentioned, we've been told to expect a revised exposure
draft early next year. But if that doesn't happen, I promise I
did once see a wolf!
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