FASB Lease Accounting Proposals

On August 17, 2010, the Financial Accounting Standards Board (FASB), an independent body that establishes accounting standards for the private sector that are recognized by the Securities and Exchange Commission as authoritative, issued an Exposure Draft detailing proposed changes to standards governing how landlords and tenants account for their leases. The proposed changes are intended to increase transparency for investors by, among other things, requiring that the full long-term payments associated with the leases be shown on the balance sheet of the tenant as liabilities. Renewal options and contingent rents would be included when calculating liability under lease agreements. Operating leases would be capitalized and represented as current liabilities. Under the Final Rule, the standards for public companies must be implemented by 2019.

The
Issue

On August 17, 2010, the Financial Accounting Standards Board (FASB), an independent body that establishes accounting standards for the private sector that are recognized by the Securities and Exchange Commission as authoritative, issued an Exposure Draft detailing proposed changes to standards governing how landlords and tenants account for their leases. The proposed changes are intended to increase transparency for investors by, among other things, requiring that the full long-term payments associated with the leases be shown on the balance sheet of the tenant as liabilities. Renewal options and contingent rents would be included when calculating liability under lease agreements. Operating leases would be capitalized and represented as current liabilities. 

The business community and the real estate industry in particular were concerned that the proposed changes would have a negative impact upon businesses, without achieving the goals of increased transparency for the investor community. The proposed standards would dramatically increase the level of debt that appears on some corporate balance sheets, without there being any real change in the economic condition of the tenant. This could create disincentives to tenants to enter into long-term leases, making financing of projects more difficult.

NAIOP, the U.S. Chamber of Commerce, and associations representing insurance and financial services, among others, signed a coalition letter setting forth specific concerns and urging a delay in implementation of final standards. NAIOP filed its own comment letter to FASB on December 10, 2010. The Final Rule was published by FASB in February 2016, and the standards for public companies must be fully implemented by 2019.

Position

NAIOP opposes FASB's changes to lease accounting standards. The standards would have a negative effect on the duration of lease terms, lessen the availability of capital for real estate development, increase accounting complexity, and add substantial administrative costs for compliance with the new standards. FASB should undertake a comprehensive review of the economic impact that such a change would have on the commercial real estate industry before final implementation of the rule is required.

Status

On May 16, 2013, FASB and its international counterpart, the International Accounting Standards Board (IASB) issued a Revised Exposure Draft of the leasing standards.  While some revisions were made by FASB in response to concerns raised by the real estate community, leases would still have to be carried on company balance sheets. FASB has issued he Final Rule, and public companies must implement the standards by 2019.

Talking
Points

  • FASB's lease accounting standard would result in lessees incentivized to choose shorter lease terms, with no renewal options or contingent rent provisions. To do otherwise would increase their front-end costs and reduce their earnings, with a negative impact on their stock value.
  • Lessees would have to document and disclose their future renewal intentions and what rents they expect to pay, affecting their negotiating posture with their landlords.
  • Property developers work hard to attract creditworthy tenants and sign them to long-term leases in order to obtain better financing and valuation terms. Because the standards encourage shorter-term leases, they could lead to a reduction in the availability of capital for both lessees and lessors.
  • Investors (such as pension funds, insurance companies, and others) choose real estate in order to match assets to their long-term obligations, and shortened lease terms will undermine the attractiveness of real estate assets for these purposes.
  • The proposed standards increase accounting complexity and subjectivity. Lessees will need to estimate the likelihood of lease renewals and the exercise of options that may take years if not decades into the future under existing lease arrangements. They will also have to estimate payments and contingent rents that are not true current liabilities.
  • Administrative and operating cost increases will be substantial. Lessees and lessors of investment real estate with a multitude of lease transactions will face added costs in terms of changes or additions to their information technology systems, increased complexity in their financial accounting and reporting processes and their internal controls.

Resources

Text of the Revised Exposure Draft is available on FASB website at www.fasb.org

The Economic Impact of the current IASB and FASB Exposure Draft on Leases 

NAIOP December 10, 2010 Comment Letter to FASB 

Trade Association Coalition December 8, 2010 Letter to FASB 

Contact

Aquiles Suarez
Vice President for Government Affairs
703-904-7100, ext. 115