Accountants Covering New Ground on Lease Modifications Due to Covid-19 And New Equipment Lease Accounting Rules
October 7, 2021
Alta Director John Bober, who is chairman of the ELFA Accounting Committee, was a member of the international working group that collaborated with the Financial Accounting Standards Board (FASB) and International Accounting Standards Boards during their development of new accounting rules for equipment leases. The FASB’s standard — now referenced as ASC 842 — has been in effect since 2019 for public companies.
The working relationship that was solidified during the project with the rule-makers was useful. It was built on consistent and clear objectives, which included an understanding that:
- new rules should reflect the economics of the lease arrangement for both lessors and lessees; and
- they should not be so hard to apply that it would discourage leasing.
This approach has helped to maintain channels of communication in times of crisis. Suddenly, during the pandemic in 2020, there was a deluge of lessees needing/requesting contract modifications. At the same time, the second wave of lease implementations was in process and private companies were facing new lease accounting rules, which for many lessees include putting operating leases on the balance sheet, rather than in the footnotes.
So, the FASB provided reasonable relief for both groups. For lessors, in cases where the lease was modified but basically sound, the lessor did not have to push the change through lease modification accounting in addition to all the operational effort that was underway. For private companies in the process of adopting the standard, the FASB gave them an extra year before they had to implement it. Given the chaos of early 2021, this took one burden off the plates of private companies.
Regarding the easing of the burden on lessors, another accountant wrote in Equipment Finance Advisor:
The (FASB) proposal provides an exemption from applying lease modification guidance to all lease components when only one or more lease components are terminated. For example, a modification of a railcar lease to reduce the number of railcars would not require application of modification guidance to the remaining railcars. This exemption can be applied only if the termination of the separate lease components does not economically impact the remaining components
In 2021 we may think the Covid-19 related lease accounting issues are in the rear view mirror, but they are not. Private company lessors, in particular, need to address the accounting for Covid-19 related modifications for the first time when they transition to the new lease standard. Given that reality, how lessors are dealing with modifications and lease impairments as a consequence of the Covid-19 impact were hot topics at the ELFA Accountants Conference last month.
Conference speakers presented some examples of modifications and issues that surface when conclusions are reached that the customer is not expected to make the lease payment. Another lessor issue — changes in sale-leaseback transactions due to ASC 842 — was also prominently featured. The standard effectively expanded the universe of transactions that were subject to stringent sale-leaseback accounting requirements, and it essentially prevents a seller-lessee from achieving sale accounting if they have a fixed price purchase option on the asset sold and leased back. This was a major change in the equipment finance world. Another feature of the rules is that the failed sale essentially drives both the lessee and the lessor to treat the transaction as a loan. This major change for lessors is sometimes overlooked.
The conference also covered the implications of the sunsetting of LIBOR rates which are being replaced with SOFR or other rates at the start of 2022 and will affect existing contracts as well as new ones. One of the major implications of the change is that we are moving into a multi rate environment. The default choice was LIBOR; now it could be SOFR, BSBY, or Ameribor, to name a few alternatives. Additionally, there are operational implications, touching on documentation, pricing, lease/loan admin and syndication.
There also was considerable discussion on what constitutes a service versus what is a lease transaction under the new accounting rules. Attendees were reminded that a transaction that was a lease under the old ASC 840 rules might not be a lease under ASC 842 and vice versa. The difference between a lease and a service is sometimes clear but often ambiguous as companies evaluate whether there is a specified asset and which party controls the asset.
It is generally agreed within the industry that equipment leasing and finance performed well through the pandemic. This is in part because of the relief provided by FASB, said Bober, who moderated a panel with Jay Wilensky of Chicago Freight Car Leasing Col, a subsidiary of Sasser Family Companies; Kyle Elken of DLL Financial Services; and Marc Jerusalem of the Accounting & Consulting Services of PwC, National Quality Organization. The ELFA is making the presentations available online to people who attended the conference for 30 days from the conference dates, Sept. 12-14.
One day after this accountants’ conference, the Wall Street Journal ran a story reporting that the FASB will be adjusting the lease standard for private companies and non-profits, which are now implementing the standard. It said, “The new standard requires private-company or nonprofit lessees to select one type of discount rate to use for all of their leases. But the relief granted Wednesday provides an alternative to that by allowing companies to choose the type of rate they will use for a particular asset class such as office space or equipment, instead of obliging them to opt for one rate for all of their leases.”
The FASB is mindful of the needs of small and mid-size private companies and actively seeks ways of making the accounting easier without creating a completely separate accounting system. They are also willing to circle back when the original feature, such as private companies using the risk free rate for their leases, is not providing the relief that was intended.
About John Bober
John, who joined The Alta Group in 2020 as a director, is chairman of ELFA’s accounting Committee and has been active in the accounting standards setting process, having served on both the Emerging Issues Task Force and Accounting Standards Executive Committee working groups. He was also a member of the joint FASB and IASB international working group on lease accounting.
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