New Lease Accounting Considerations – Type A and Type B Leases

In their continuing deliberations, the accounting boards are now considering three different approaches to lease accounting. The first approach would basically retain the Type A–Type B model as proposed in the Exposure Draft – Type A for leases of personal property and Type B for leases of real property (land and buildings).

The second approach being considered is a single model, in which lessees would account for all leases as they would for Type A leases. Under this scenario Type B leases would be eliminated.

The third approach being considered would still utilize Type A and Type B leases, however the dividing line would no longer be the type of asset as proposed in the exposure draft. Rather, we would return to the current GAAP distinction between capital and operating leases, albeit now including all leases on the balance sheet. Lessees would account for most capital leases as Type A leases and for most operating leases as Type B leases.

 

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FASB Votes to release new Lease Accounting Exposure Draft

In a 4 to 3 vote, the FASB voted yesterday (April 10, 2013) to move ahead and re-release the Lease Accounting Exposure draft which will be converged with that of the International Accounting Standards Board (IASB). The divided FASB vote underscores just how difficult the process of establishing new guidelines for leases has been. The proposed rules postulate two different methods to account for leases.  In general, equipment and vehicle leases that tend to depreciate significantly during the life of a lease would be accounted for differently from leases of real estate, in which the asset usually does not depreciate and sometimes increases in value over the lease period.

The dissenting members of the board argued that the proposal introduces significant complexity for users because it divulges lease information in multiple places in the financial statements without bringing it all together in one footnote. They believe that the proposal has become complicated because the board has tried to create a single model for all leases when there isn’t agreement on how all leases should be treated.

On the other hand, those supporting the change did so because they felt it represents an improvement over current accounting, where leases are often structured in a way that enables them to escape recognition. They argued that the proposals eliminate the concept where minor changes in the economics will have drastic differences in the balance sheet. The Board plans to re-issue the exposure draft by June 2013.

By George Azih

How to use Excel to Calculate the Present Value of Minimum Lease Payments when the payment amount does not change.

Reader Request: This post explains how to use excel to calculate the present value of minimum lease payments when each payment is equal.  To learn how to calculate the present value of lease payments when payments change each period, click here. To calculate the present value for lease payments when the payment amounts do not change, perform the following steps:

Note: This method only works when every lease payment amount is the same each period. To see how to calculate the present value of minimum lease payments when one or more payments are different (or when there are some months with free rent), click here.

Go to a cell in excel, and click the function button.  Choose “PV,” (It should be under financial):

When you click “OK, you should see the following:

Let “Rate” be your interest rate (this is usually the interest rate which the company would get charged if the company went to a bank to borrow the money to buy the asset instead of leasing it). Please note that this rate depends on your payment frequency. If the payments are made monthly, then you would have to divide your annual rate by 12.

NPer is the number of payment periods. So if the Payments are made monthly and the lease is over five years, then the number of NPer is 60.

Pmt is simply your payment amount.

Fv should be zero.

Type should be “1” if payments are made at the beginning of the period, or 0 if payments are made at the end of the period.

Example:

Assume we have a 10 year lease with monthly payments of $2,500/month, paid in advance (at the beginning of each month). Assume that the lessee’s borrowing rate is 6%. To use excel to calculate this:

Rate = 6%/12 = 0.5% = 0.005 (in excel, you can either enter 0.5% or 0.005 without the percentage sign)

Nper = 120

Pmt = 2500

FV = 0

Type = 1 (Because payments are made in advance, at the beginning of each month).

Using this information, excel should give us a present value of $226,309.55 for the lease.