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Joint Project IASB & FASB Discussion Paper 2009 Exposure Draft Planned 2010 Final Standard Planned...
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Transcript of Joint Project IASB & FASB Discussion Paper 2009 Exposure Draft Planned 2010 Final Standard Planned...
Coming Changes to Lease Accounting
Joint Project IASB & FASBDiscussion Paper 2009
Exposure Draft Planned 2010Final Standard Planned 2011
This presentation is based on the discussion paperComments were due July 16, 2009
This document focused on accounting for lessees with some very sketchy thoughts on how lessor accounting would change
Examples are from comment letter of Teresa Gordon
No more operating leasesThe exposure draft focused on lessee
accountingAll leases would be capitalized (finance leases)Capitalized value would be based on present
value of expected lease payments including renewal periods, contingent rentals, guarantees, etc. Incremental borrowing rate would be used
When the projected lease term changes, journal entries get fairly complicated
No exception for short-term leases
Some key differencesCurrent Proposed
Capitalize leases (that meet criteria) at PVMLP
Contingent rentals are not included in lease payments (with an exception for those based on price index, etc.)
Lease term always ends at date of bargain purchase option
Capitalize ALL leases at PV of expected lease payments (PVELP)
Contingent rentals must be estimated and included in the present value of the lease payments
Purchase option is just a variation of a renewal option
Some key differencesCurrent Proposed
FASB: use lower of incremental borrowing rate or implicit rate if known
IASB: use implicit rate if practicable to determine, otherwise incremental borrowing rate
Lessees would always use incremental borrowing rateApparently some
disagreements between IASB and FASB initial opinions as to whether one should use current incremental borrowing rates instead of the original rate when assumptions about lease term change
Some key differencesCurrent Proposed
Lease term:very specific rules under FASB with similar but more generalized guidance under IASB
Liability is not re-evaluated at each balance sheet date
Use “most likely” lease termAppears that the new
lease standard will be less rule based and require more judgment
Lease term would be re-evaluated at each balance sheet date and the liability and asset accounts would be adjusted if necessary
Some key differencesCurrent Proposed
Contingent rentals are generally not projected. Even when based on an
index, the PVMLP is based on the rental payments at the current index (that’s why it is “minimum” lease payment computation)
Guaranteed residual values stay on books at “maximum” value
IASB proposes using a weighted probability expected value for contingent rents and guaranteed residual values FASB is leaning toward a
simpler “most likely” amount for contingent rentals and guaranteed residual values
Guaranteed residual value would be difference between guarantee and the asset’s expected value at end of lease
An example (a variation of Example 3 in the DP)A machine is leased for a fixed term of five years with an
option to extend for two additional years; the expected life of the machine is 10 years. The lease is noncancellable, and there are no rights to purchase the machine at the end of the term and no guarantees of its value at any point. Lease payments of CU 35,000 are due each year. No maintenance or other arrangements are entered into.
At the start of the lease, the lessee intends to exercise the renewal option.
The present value of the lease payments over the seven-year period discounted at the lessee’s incremental borrowing rate of 8 per cent is CU 182,223.
Schedule based on intentions at inception of lease:
Period Payment Interest Principal Balance Depr 0 182,223 1 35,000 14,578 20,422 161,801 26,032 2 35,000 12,944 22,056 139,745 26,032 3 35,000 11,180 23,820 115,924 26,032 4 35,000 9,274 25,726 90,198 26,032 5 35,000 7,216 27,784 62,414 26,032 6 35,000 4,993 30,007 32,407 26,032 7 35,000 2,593 32,407 0 26,032
245,000 62,777 182,223 182,223
What happens if after 3 years they decide to NOT renew?
Period Payment Interest PrincipalAdj for
Renewal BalanceDepr
Expense0 182,223 1 35,000 14,578 20,422 161,801 26,032 2 35,000 12,944 22,056 139,745 26,032 3 35,000 11,180 23,820 115,924 26,032 4 35,000 9,274 25,726 57,791 32,407 52,064 5 35,000 2,593 32,407 - 0 52,064 6 0 (0) 0 7 0 (0) 0
TRUE 175,000 50,568 124,432 182,223
You must adjust the liability to match PV of remaining estimated cash flowsEntry for catch-up method
Lease obligation 53,510 Right-to-use asset 53,510In other words, the liability suddenly got smaller“Right to use asset” is the name for “Leased
Asset” account – some debate as to whether it is PP&E or an intangible asset
Depreciation “jumps” to $52,064 for the last two years of the lease
You must adjust the liability to match PV of remaining estimated cash flowsEntry for alternate catch-up method (my own
recommentation)Lease obligation 53,510
Interest expense 11,032 Right-to-use asset 42,478
Depreciation expense 5,751Accumulated depreciation 5,751
Depreciation “jumps” only a little to $27,949 for the
last two years of the lease. This method ends with the PVELP based on 5 year lease term in the asset and acc’d depreciation accounts.
FASB’s example 3Page 30 in the Discussion PaperSame except the lessee does NOT initially
plan to renew the lease so the initial PVELP is CU 139,700 (5 years of CU 35,000 payments at 8%).
At the end of the third year, the lessee decides the lease term will be 7 years
Period Payment Interest Principal Balance Depr 0 139,745 1 35,000 11,180 23,820 115,924 27,949 2 35,000 9,274 25,726 90,198 27,949 3 35,000 7,216 27,784 62,414 27,949 4 35,000 4,993 30,007 32,407 27,949 5 35,000 2,593 32,407 0 27,949 6 0 (0) 0 7 0 (0) 0
175,000 35,255 139,745 139,745
Schedule based on intentions at inception of lease:
Revised schedule to reflect change from 5 to 7 yr lease term
Period Payment Interest Principal Adj for
Renewal Balance Depr
Expense 0 139,745 1 35,000 11,180 23,820 115,924 27,949 2 35,000 9,274 25,726 90,198 27,949 3 35,000 7,216 27,784 (53,510) 115,924 27,949 4 35,000 9,274 25,726 90,198 27,352 5 35,000 7,216 27,784 62,414 27,352 6 35,000 4,993 30,007 32,407 27,352 7 35,000 2,593 32,407 0 27,352
245,000 51,745 193,255 193,255
You must adjust the liability to match PV of remaining estimated cash flowsEntry for catch-up methodRight-to-use asset 53,510
Lease obligation 53,510In other words, the liability just got higher. One could debit Acc'd Depreciation instead of
the “right to use asset” account for the same net effect on the balance sheet
Depreciation decreases slightly from $27,949 to $27,352 for the last four years of the lease
The capitalized valueNotice that in both the increased and
decreased lease term situations, the originally anticipated “value” of the leased asset changes abruptly by a substantial amountIs this logical? Whether or not this makes sense, the liability
balance MUST change!
Worst Case ScenarioFor those wanting to cook the books:
Instead of the example lease, write the contract for seven one-year renewal options at CU 35,000 per year
Each year, decide that the remaining lease term is just one more year
Use the highest possible incremental borrowing rate to keep the liability at the lowest possible number In the example on next slide, I left it at 8% but if one could
argue for 9% or 10%, the liability would be even smaller!
Worst Case Version
Liability would always be CU 32,407 (PV of 35,000 in one year at 8%)
Period Payment Interest Principal Adj for
Renewal Balance Rate used
0 32,407 1 35,000 2,593 32,407 (32,407) 32,407 8%2 35,000 2,593 32,407 (32,407) 32,407 8%3 35,000 2,593 32,407 (32,407) 32,407 8%4 35,000 2,593 32,407 (32,407) 32,407 8%5 35,000 2,593 32,407 (32,407) 32,407 8%6 35,000 2,593 32,407 (32,407) 32,407 8%7 35,000 2,593 32,407 0 8%
245,000 62,777 62,777
Worst Case Version
Depreciation expense would always be CU 32,407 (PV of 35,000 in one year at 8%) and combined impact of interest and depreciation would equal cash flow
Period Depr
Expense Acc'd Depr
Adj asset
Right-to-use Asset
Book value of
Asset
Impact on P&L (depr +
int)0 32,407 32,407 1 32,407 32,407 32,407 64,815 32,407 35,000 2 32,407 64,815 32,407 97,222 32,407 35,000 3 32,407 97,222 32,407 129,630 32,407 35,000 4 32,407 129,630 32,407 162,037 32,407 35,000 5 32,407 162,037 32,407 194,444 32,407 35,000 6 32,407 194,444 32,407 226,852 32,407 35,000 7 32,407 226,852 - 226,852 - 35,000
226,852 245,000
Too complicated?Think about a typical rent situation for retail
space. Rent is a fixed amount PLUS a percentage of sales.
Since it is impossible to predict the future with accuracy, it is likely that the liability account would have to be revised EVERY reporting date!This is quite complicated because it
theoretically affects depreciation expenseThe other issue is whether to run the difference
in liability (gain or loss) through the income statement or use some other technique