Overview

The Financial Accounting Standards Board (FASB) and International Accounting Standards Board (IASB) issued a revised proposal on May 16, 2013, regarding the accounting treatment and reporting for leases, as part of their larger accounting standards convergence project. The first exposure draft was released in 2010. Both FASB and IASB believe these changes would improve transparency as well as provide investors with more consistent and concise financial reporting.

However, if ratified, this proposal would hurt businesses of all sizes, especially lessees and lessors of commercial real estate. The proposal would bring nearly $1.3 trillion in leased assets back onto companies’ balance sheets, with roughly 70% being real estate leases. The new lease accounting proposal reduces the overall borrowing capacity of many commercial real estate lessees and lessors, by requiring them to recognize leases on their balance sheets as liabilities and assets, as opposed to their current treatment as operating expenses, which are not reflected on balance sheets. Including leases on balance sheets may have the effect of “bloating” them, and some companies may see their debt-to-equity ratios increase as a result, making it more difficult for them to get credit.

FASB/IASB finalized their proposal in 2016. The effective date of the new standard is 2019 for public companies and 2020 for private companies.

Lease Accounting Topics

Political Advocacy

Current Legislation/Regulation

None at this time.


In-Depth

Find NAR's letters, testimonies, bill updates, and more on the NAR Federal Issues Tracker


Legislative Contact(s):

Erin Stackley,
estackley@realtors.org
202-383-1150

Helen Devlin,
hdevlin@realtors.org
202-383-7559

Regulatory Contact(s):

Stephanie Spear,
sspear@realtors.org
202-383-1018

What is the fundamental issue?

In February 2016, the Financial Accounting Standards Board (FASB) released its long awaited updated lease accounting standards.

Under the new standard, companies would be required to use a “right-of-use” accounting model where both lessees (renters) and lessors (property owners) recognize assets and liabilities arising from lease contracts. Currently, accounting rules allow many businesses to classify leases as operating expenses, which do not appear on their balance sheets. The FASB believes these changes would improve transparency as well as provide investors with more consistent and concise financial reporting.

I am a real estate professional. What does this mean for my business?

The new standards could harm businesses of all sizes, especially lessees and lessors of commercial real estate. With leases inlcuded in balance sheets, some companies may see their debt-to-equity ratios increase and find it more difficult to obtain credit. The new standard could also complicate compliance with debt covenants or agreements between the bank and borrower. By capitalizing new and/or existing leases, some businesses could show more debt than allowed in their agreement with the lender, and therefore be in default of their loan. This could force some firms to put up more capital for existing loans or even have their credit lines revoked.

Additionally, the elimination of off-balance-sheet financing could be detrimental to commercial property owners. More frugal lessees will want less space and shorter-term leases without renewal options or contingent rents, which will decrease cash flow for property owners. Shorter-term rents will likely reduce the borrowing capacity of many commercial real estate lessors, who rely on leases and the value of the property as collateral in order to obtain financing. Ultimately, property owners would be forced to increase rent rates due to market uncertainty and reduce tenant improvements due to shorter recovery periods. Conversely, this change could encourage some firms to consider buying instead of leasing commercial real estate.

NAR Policy:

NAR believes the new lease accounting standard will be detrimental to our nation’s economy.  Also, NAR is opposed to lease accounting standards changes that would treat the income producing real estate business as a financing business on company balance sheets. NAR currently supports a proposal that would exempt privately held companies from complying with the new standard.

The new lease accounting proposal reduces the overall borrowing capacity of many commercial real estate lessees and lessors, by requiring them to recognize leases on their balance sheets as liabilities and assets, as opposed to their current treatment as operating expenses, which are not reflected on balance sheets.  Including leases on balance sheets may have the effect of “bloating” them, and some companies may see their debt-to-equity ratios increase as a result, making it more difficult for them to get credit. Treating income producing real estate business as a financing business on company balance sheets will not accurately depict the unique characteristics of the investment real estate sector and in turn discounts the usefulness of the industry’s financial statements.

Legislative/Regulatory Status/Outlook

FASB released the new standard in late February 2016. The Accounting Standards Update (ASU) on leases will take effect for public companies for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. For all other organizations, the ASU on leases will take effect for fiscal years beginning after December 15, 2019, and for interim periods within fiscal years beginning after December 15, 2020.

NAR Committee:

Commercial Legislation and Regulatory Advisory Board

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