Project Update

Leases—Joint Project of the IASB and FASB

Last Updated: August 4, 2008 (Updated sections are indicated with an asterisk *)

This project update summarizes the project activities and decisions of the IASB and the FASB (Boards). It was prepared by the staff and is for the information and convenience of their constituents. All decisions of the Boards are tentative, may change at future Board meetings, and do not change current accounting and reporting requirements. Decisions of the Boards become final only after extensive due process.

*Project Objectives
Project Plan
*Decisions Reached at the Last Meeting
*Summary of Decisions Reached to Date
*Next Steps
*Board/Other Public Meeting Dates
Background Information
*Contact Information

*Project Objectives

The primary objective of the leases project is to develop a new model for the recognition of assets and liabilities arising under lease contracts to ensure that financial statements provide useful, transparent, and complete information about leasing transactions to investors and other users of financial statements.

Project Plan

The International Accounting Standards Board (IASB) and the FASB are carrying out this project with the help of a joint international working group that will consult on lease accounting issues. Working group members will provide expert advice on staff and Board proposals and implementation issues while offering practical considerations from a variety of perspectives (lessor, lessee, users of financial statements, and auditors). The working group will provide input through a mixture of formal meetings, conference calls, and email.

*Decisions Reached at the Last Meeting

See FASB minutes and IASB meeting summary below.

*Summary of Decisions Reached to Date

Scope

The project will initially focus on the accounting for lease arrangements within the scope of existing lease accounting literature. Prior to publishing a Discussion Paper/Preliminary Views document, the Boards will consider whether to extend the scope of the project to other arrangements that convey a right to use another entity’s asset (see the April 2007 minutes and meeting summary).

The Boards decided to defer the development of a new accounting model for lessors.  The Boards also decided on an overall approach that would apply the existing finance lease model, adapted where necessary, to all leases (see the July 2008 minutes and meeting summary).

Options to Extend or Terminate a Lease (see the July 2008 minutes and meeting summary)

The Boards decided that the lessee should not recognize these options as separate assets. Instead, the assets and liabilities recognized by the lessee should be based upon the lease term.

A number of IASB members expressed a preference for using a probability-weighted best estimate of the lease term. However, no formal decision was reached by the IASB. The FASB members expressed a preference for using a best estimate of the lease term, without probability weighting.

The Boards decided that a lessee should consider contractual factors, non-contractual factors, and business factors when determining the lease term.

Contingent Rentals (see the July 2008 minutes and meeting summary)

The Boards decided to develop a new approach for contingent lease payments. The IASB members decided to use a probability-weighted best estimate of the rentals payable. The FASB members decided to use a best estimate that is not probability weighted; however, most FASB members stated that IAS 37 would be their second choice.

Initial Measurement (see the July 2008 minutes and meeting summary)

The Boards decided that a lessee should initially measure both its right-of-use asset and its lease obligation at the present value of the expected lease payments and that a lessee should discount the lease payments using the lessee’s incremental borrowing rate for secured borrowings.

Subsequent Measurement (see the July 2008 minutes and meeting summary)

The IASB decided that a lessee should amortize the right-of-use asset systematically over the shorter of the lease term and the economic life of the leased asset. The lessee should apportion the lease payment between interest and the reduction of the outstanding liability. The FASB discussed the subsequent measurement of both the right-of-use asset and the lease obligation but was not able to reach a decision as there was some support for recognizing rental expense in the income statement instead of amortization and interest expense.

Classification Criteria (see the July 2008 minutes and meeting summary)

The IASB decided to remove the existing requirement to classify a lease as a finance lease (in-substance purchase) or an operating lease. Thus, the same approach would apply for all leases. The FASB discussed whether there should be criteria to distinguish between leases that are an in-substance purchases and leases that are a right to use an asset but was not able to reach a decision.

*Next Steps

At their meetings in July, the IASB and the FASB discussed the overall approach to the joint leases project as part of the technical plan update in conjunction with the 2008 Memorandum of Understanding. The staff will be considering next steps toward the publication of a Discussion Paper/Preliminary Views document based on the Board input received in July.

*Board/Other Public Meeting Dates

The IASB meeting summaries and FASB meeting minutes are provided for the information and convenience of constituents who want to follow the Boards’ deliberations. All of the conclusions reported are tentative and may be changed at future Board meetings. Decisions become final only after a formal written ballot to issue a final Statement, Interpretation, FSP, or Statement 133 Implementation Issue.

Other Public Meetings

Joint International Working Group

The first joint working group meeting was held on February 15, 2007, in London. A copy of the full meeting agenda, agenda papers, and the audio webcast of the meeting can be found on the IASB website for the first meeting of the Joint Working Group on Lease Accounting. View the summary report of the February 2007 joint working group meeting.

Background Information

Memorandum of Understanding (MoU)

In February 2006, the IASB and the FASB issued an MoU that described a joint work plan to expedite global convergence in accounting standards and that established a series of milestones to be reached by 2008. The leases project is part of the 2006 MoU. Under the 2006 MoU, the IASB and the FASB would have to consider and make a decision about the scope and timing of a potential leasing project by 2008. This goal was achieved when the IASB and the FASB added the leasing project to their respective agendas on July 19, 2006.

The Boards discussed updating the 2006 MoU at the April 2008 joint meeting.

History of the Leases Project

Statement 13, issued in 1976, provides guidance on accounting for leases for both lessors and lessees. According to the provisions of Statement 13, a lessee should recognize both an asset and a liability for a lease that transfers substantially all benefits and risks incident to the ownership of property, and a lessor should recognize such a lease as a sale or financing. Under Statement 13, a lease that does not transfer substantially all benefits and risks incident to the ownership of property is classified as an operating lease by the lessee. Under operating lease classification, the lessee does not recognize any elements of the lease on its balance sheet (that is, it does not recognize an asset for the right to use the leased item or a related liability for the future lease payments); rather, the lessee recognizes rental expense as it becomes payable.

IAS 17 was issued by the IASC in 1982 and was very similar to Statement 13 as it was based on the extent to which risks and rewards incident to ownership of a leased asset lie with the lessor or the lessee. Although IAS 17 has been amended several times, its most recent version retains the fundamental approach to the accounting for leases contained in the original standard.

Following the issuance of Statement 13 and IAS 17, the FASB, IASB, Emerging Issues Task Force (EITF), Standing Interpretations Committee (SIC), International Financial Reporting Interpretations Committee (IFRIC), Securities and Exchange Commission (SEC), and American Institute of Certified Public Accounting (AICPA) issued numerous pieces of guidance addressing various issues relating to the application of Statement 13 and IAS 17. Some believe that the additional guidance adds to the complexity of existing guidance in this area.

The Boards considered adding a lease accounting project to their agendas in response to the criticisms of many of their constituents, including the FASB’s Financial Accounting Standards Advisory Council (FASAC), the FASB’s User’s Advisory Council (UAC), and the SEC’s 2005 Report and Recommendations Pursuant to Section 401(c) of the Sarbanes-Oxley Act of 2002 On Arrangements with Off-Balance Sheet Implications, Special Purpose Entities, and Transparency of Filings by Issuers (Off-Balance Sheet Report). Many of those constituents indicated that current lease accounting standards fail to provide complete, transparent information and urged the Boards to undertake a lease accounting project. Also, in June 2004, the IASB and the FASB agreed that accounting for leases was in need of a fresh look and that any resulting improvements should be made through a major project conducted jointly when resources permitted.

Standard-setting activity during the past 20 years has not been limited to merely interpreting the leasing approach in Statement 13 and IAS 17. For example, a group of international standards setters (including FASB representatives), referred to as “the G4+1,” undertook an effort to reconsider the accounting for leases based on the existing conceptual framework. Their efforts resulted in the issuance of two Special Reports issued in 1996 and 1999, respectively: Accounting for Leases: A New Approach and Leases: Implementation of a New Approach. These reports describe a proposed conceptual approach to lease accounting focusing on the fundamental components of lease transactions.

The issues relating to lease accounting that need to be addressed are much the same as those previously considered in the G4+1 Special Reports. However, the objective is to analyze these issues in terms that are consistent with current projects, particularly those on revenue recognition, nonfinancial liabilities, derecognition, and the conceptual framework.In July 2006, the FASB and the IASB decided to add a joint leasing project to their respective agendas because of their concern that the current accounting in this area does not clearly portray the resources and obligations arising from lease transactions.

Working Group

During the third quarter of 2006, the Boards sent out an invitation for nominations to join the joint international working group planned for this project (invitation for nominations). In the fourth quarter of 2006, the Boards announced the members of the working group (announcement of working group members).

*Contact Information

FASB Contacts:

Danielle Zeyher
Project Manager
dtzeyher@fasb.org

Jeff Nickell
Practice Fellow
jtnickell@fasb.org

Brad Homant
Practice Fellow
bjhomant@fasb.org

Chris Yust
Postgraduate Technical Assistant
cgyust@fasb.org

IASB Contacts:

Rachel Knubley
Project Manager
rknubley@iasb.org

Simon Peerless
Project Manager
speerless@iasb.org

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