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Differences Continue to Mount in Lease Accounting Project

The FASB and IASB opted for different approaches to recognizing the gains from sale-and-leaseback transactions. In U.S. GAAP, sellers will book the full gain at the time of the sale. In IFRS, sellers will have to defer part of the gain to reflect the lease’s term.

The FASB and IASB continued at their joint meeting on July 23, 2014, to pursue different approaches to lease accounting, this time on the recognition of gains for sale-and-leaseback transactions.

The FASB voted to let sellers of assets they then lease back to recognize the full gain from the sale at the time of the transaction. The IASB decided that sellers must defer a portion of the gain based on the term of the lease. The decisions were made as part of the boards’ efforts to redeliberate the May 2013 proposals — the FASB’s Proposed Accounting Standards Update (ASU) No. 2013-270, Leases (Topic 842), and the IASB’s Exposure Draft (ED) No. 2013-6, Leases.

The difference in the proposed treatment for gains on leasebacks reflects the broader differences the boards took in March.

In response to comments from companies, the FASB decided to retain the existing distinction in U.S. GAAP between capital and operating leases. Although in contrast to current treatment, both types of leases would be included on lessees’ balance sheets, under the revisions the FASB approved to the exposure draft, significant differences would remain in how lease payments are expensed.

In general, more of the payments on capital leases, called Type A by the FASB, are expensed in the early years of the lease, reflecting the greater amount of interest included in payments at that point. In contrast, lease payments on operating leases are spread out evenly. As a result, operating leases have a smaller effect on earnings early in their terms than capital leases do.

Unlike the FASB, the IASB decided to make no distinction between leases in its March vote on changes to the exposure draft.

Reflecting those differences, the FASB applied the guidance from ASU No. 2014-09, Revenue from Contracts with Customers, to leasebacks. The IASB’s decision to restrict day-one recognition of the gain was specific to sale-leaseback transactions.

The FASB acted despite some criticism from constituents that allowing full recognition of a sale would be inconsistent with current GAAP, which requires deferral based on the present value of the lease. In effect, the board accepted some staff members’ contention, as characterized in a meeting document, that “the presence of the leaseback should not affect the recognition of any gain or loss resulting from the sale if the transaction is at market value.”

The potential change in GAAP in regard to leasebacks would be significant, Charles Mulford, an accounting professor at the Georgia Institute of Technology, said in an email. “Going forward, leaseback transactions will lead to higher gains being recognized on the date of sale,” he said.

In contrast, the meeting document noted that other staff members argued in favor of partial recognition along the lines the IASB approved because it was “particularly relevant under the IASB’s lessee accounting model.”

The boards said in March they would work to resolve their differences over leasing, but the votes at the most recent meeting show that this will be difficult to do, as Ernst & Young LLP predicted in a paper the firm released soon after the March votes.

Leasing isn’t the only area in which the boards’ approaches differ despite the long-running effort to converge U.S. GAAP and IFRS. The other important differences include the valuation of financial instruments and inventory and asset impairment, which Mulford observed can result in wide variations in the results companies report despite similar operating performance.

The differences between the FASB and IASB in the treatment of gains on leasebacks would add significantly to those variations, especially for airlines and retailers, Mulford said.

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