A Summary of the Proposed FASB Rule Change for Lease Reporting

Last week, the Financial Accounting Standards Board – the organization responsible for promulgating the set of accounting standards known as the “Generally Accepted Accounting Practices”, or GAAP — and its Europe-based sister group, the International Accounting Standards Board, met jointly in London.  Many in the commercial leasing industry believed that FASB and IASB would give further guidance on a controversial accounting rule change that would force businesses to list operating leases on their balance sheet.  The proposed rule change, originally contained in a July 2009 Discussion Paper entitled Leases:  Preliminary Views, has been widely criticized by industry professionals as onerous, complex, and therefore a deterrent to leasehold transactions.  Instead of offering further guidance on the rule change, nothing was said about the change, prompting some analysts  to believe that the change may be on hold due to the immense criticism.

What does it matter?  Traditionally, only capital leases, also known as finance leases, are included as assets and liabilities on a tenant’s balance sheet.  Operating leases, in comparison, are off-balance-sheet liabilities.  The proposed change would record an asset and liability for all leases based on the most likely payments and lease term.  Whether or not an operating lease is on the balance sheet or off has implications for compliance with loan covenants as well as being a factor in the overall lease vs. buy decision, to name just a few considerations.   

UGL-Equis has issued some very good white papers explaining the proposed change and what it means for accounting; you can find them here.  For more information, check out this CRE Podcast featuring KBA Lease Services.

Regardless of whether the rule change is on hold, the fact that it was proposed at all needs to be factored into the decision-making process of any business proposing to lease space, as well as the business’ professional advisors.