When new lease accounting standards eventually take effect, companies reporting under the international rules are likely to look more profitable than those reporting under U.S. GAAP.
That’s the assessment of the International Accounting Standards Board in its recent comparison of how the lease accounting rules will look when they are finalized, which are expected in 2015. “For lessees that currently have material off-balance-sheet leases, the IASB model will result in higher profit before interest compared to the amounts reported today and under the FASB model,” IASB says. FASB’s model is not expected to result in any material change to a company’s income statement compared to the accounting rules they follow currently.
“Under the IASB model, a lessee will present the implicit interest in former off-balance-sheet lease payments as part of finance costs,” the IASB says. “Today, the entire off-balance-sheet lease expense is included as part of operating costs.” The size of the increase in operating profit and finance costs will depend on a company’s particular circumstances, including the significance of its lease holdings, the length of its leases, and the discount rates applied, the IASB says.
The IASB and the Financial Accounting Standards Board have been working for many years on new comprehensive standards, with the new rules expected to result in similar effects on the balance sheet, but different treatment on the income statement. The update provides an overview of how FASB and IASB’s standards will compare to each other and to current standards with respect to how leases will be recognized on the balance sheet, how they will be measured, and how they will be presented.
The boards have decided they will establish the same requirements for how they will define a lease, how leased assets and liabilities will be recognized, and how lease liabilities will be measured. The rules will lead to the essentially the same treatment on the balance sheet, except that the IASB plans to exempt “small” leases from the standard.
The FASB model will require companies to amortize leased assets more slowly in the earlier years of a lease compared with the IASB model, where amortization will occur more on a straight-line basis, according to the IASB. “Accordingly, the IASB expects the carrying amount of lease assets, as well as reported equity, to be higher under the FASB model than under the IASB model, although those effects are not expected to be significant for most entities,” the IASB says.
Beth Paul, a partner with PwC, said during a webcast that the IASB’s summary provides a good overview of the standards and how they will differ. The key difference, she says, is the impact on the income statement. “The models are not aligned,” she said. “The IASB is planning to move forward with a model that treats all leases as financed. The FASB model is going to retain the two-lease model we have today.” FASB won’t be providing the bright lines that are present in current rules, Paul said, but the effect will be similar.