The International Accounting Standards Board issued the long-awaited lease accounting standard that it has been developing for over a decade with the Financial Accounting Standards Board, which is also expected to release its version of the standard early this year.
Both the IASB and FASB versions of the leasing standard will bring leases onto company balance sheets for the first time, but will differ in some key aspects. The IASB's version for International Financial Reporting Standards, known as IFRS 16 Leases, replaces accounting requirements introduced more than 30 years ago and is a major revision of the way in which companies account for leases.
Leasing provides an important and flexible source of financing for many companies, the IASB noted. However, the old lease accounting Standard (IAS 17 Leases) makes it difficult for investors and others to get an accurate picture of a company’s lease assets and liabilities, particularly for the airline, shipping and retail industries.
Listed companies using IFRS or U.S. GAAP are estimated to have approxoimately $3.3 trillion of lease commitments, over 85 percent of which do not appear on their balance sheets. Leases to date have been categorized as either "finance leases" (which are reported on the balance sheet) or "operating leases" (which are disclosed only in the notes to the financial statements).
This somewhat arbitrary distinction made it difficult for investors to compare companies, the IASB pointed out. It also meant that investors and others had to estimate the effects of a company’s off balance sheet lease obligations, which in practice often led to overestimating the liabilities arising from those obligations. IFRS 16 solves the problem by requiring all leases to be reported on a company’s balance sheet as assets and liabilities.
“These new accounting requirements bring lease accounting into the 21st century, ending the guesswork involved when calculating a company’s often-substantial lease obligations,” said IASB chairman Hans Hoogervorst in a statement. “The new standard will provide much-needed transparency on companies’ lease assets and liabilities, meaning that off balance sheet lease financing is no longer lurking in the shadows. It will also improve comparability between companies that lease and those that borrow to buy.”
Sean Torr, advisory director at Deloitte & Touche LLP, noted that while FASB has not yet published the date for issuing its lease accounting standard, it is expected to come out in the first quarter.
“This is obviously a very, very large impact for the accounting profession,” said Torr. “We’ve been dealing with current lease accounting rules, which we call FAS 13, for almost 40 years now, and this is going to be a significant change to the way we account for operating leases.”
The IASB’s new leases standard has been subjected to multiple rounds of public consultation and extensive board-level deliberation, all of which has been conducted in public and webcast.
The IASB has worked in close collaboration with FASB on the development of the new standard. The two boards are aligned on the central issue of bringing leases onto balance sheets, and on the definition of a lease and how lease liabilities should be measured.
Torr described some of the differences between the FASB and IASB versions of the standard. “The U.S. and international accounting standard setters started on this journey about a decade ago, and one discussion paper and two exposure drafts later, we’re now emerging with a final standard which does have some differences,” he said. “Probably the most noteworthy is the fact that the U.S. standard will have a two-model approach for operating leases and financing leases. The difference will be the method of expensing the amounts related to those two leases, whereas the IFRS standard will be a one-model approach so that will just have a finance lease expense approach.”
There are some other differences as well, he noted. “Another one may be the fact that the IFRS standard we believe is going to have a materiality consideration that will be baked into the standard, whereas in the U.S. version we don’t expect a materiality provisions specifically to be aligned in terms of the dollar amount so that would be another difference,” he said. “There are some other minor differences as well, but when you look at the overall journey that the profession has gone through relative to this, I think the fact that they have only a few differences is an accomplishment in itself.”
IFRS 16 becomes effective Jan. 1, 2019. Early application is permitted for companies that also apply IFRS 15 Revenue from Contracts with Customers.
FASB said its upcoming leasing standard will be effective for public companies for fiscal years and interim periods within those fiscal years beginning after Dec. 15, 2018. For private companies, FASB’s new standard will be effective for fiscal years beginning after Dec. 15, 2019, and interim periods within fiscal years beginning after Dec. 15, 2020. Early application will be permitted for all organizations upon issuance of the standard.
Accompanying its new standard, the IASB has also published a separate Effects Analysis document, which outlines the costs and benefits of the standard. It demonstrates the need for the standard and that the benefits outweigh the costs.
The IASB said it has given careful consideration to the feedback it has received and has introduced several cost-saving measures for preparers, such as exempting ‘small ticket’ items as well as leases of 12 months or less.
The IASB has also produced a video introduction to the new standard by Hoogervorst on YouTube, shown below.