The Financial Accounting Standards Board ("FASB") and
the International Accounting Standards Board ("IASB") are
proposing dramatic changes to lease accounting rules that would
virtually eliminate operating lease accounting treatment. The
changes would affect all companies that lease real estate, and
their company balance sheets, as a result of how leases would be
classified under the proposed new rules as a capital lease
One of the goals of the proposed revisions is to improve
transparency in the financial reporting of lease transactions.
Under current FASB lease accounting rules, tenants are required to
classify their leases as either capital leases or operating leases.
The vast majority of leases are treated as operating leases. Under
operating leases, the lease payments are considered a rental
expense and there is no asset or liability recognized on the
balance sheet. Capital leases, on the other hand, treat the tenant
more like the owner of the leased property and the lease as a means
to finance the acquisition of the leased property. Consequently,
lease payments are treated as a liability over the term of the
lease and the right to use the leased property as an asset.
A recent survey, conducted by accounting firm Grant Thornton of
2,800 businesses across the globe, found that 54% of businesses
"are not aware of, and are therefore unprepared for, one of
the most significant global accounting changes in the past decade:
the virtual elimination of off-balance sheet leases." The
Securities and Exchange Commission estimates that the accounting
changes would lead public companies to put $1.3 trillion in leases
on their balance sheets.
The potential impact from these accounting rule modifications
will manifest themselves in a number of ways, including but not
limited to: (i) balance sheets: tenants will have to recognize
assets and liabilities for leases where in the past, as an
operating lease, they did not; (ii) owning/leasing property: the
distinction between owning and leasing property will diminish
leading companies to perhaps look more favorably upon owning
property rather than leasing; (iii) lease terms: lease terms will
be shorter without renewal options to avoid putting more debt on
tenant balance sheets; and (iv) loan covenants: tenant balance
sheets will look more leveraged which may result in a tenant not
being in compliance with loan covenants.
It is anticipated that the new lease accounting standards will
be issued in 2012 with an effective date not likely before
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The SEC recently issued for comment a proposed roadmap for
initially allowing and eventually requiring U.S. issuers to report
financial results in accordance with International Financial
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International Accounting Standards Board ("IASB") rather
than generally accepted accounting principles in the United States
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