1. Profit and Loss Recognition
Patterns on Lease
AN OVERVIEW
Presented by: Radhika Chittoor Balani

2. Reason for New Leasing
Standard
OBJECTIVE: TO ENSURE THAT ASSETS AND
LIABILITIES ARISING FROM LEASE
CONTRACTS ARE RECOGNIZED ON THE
BALANCE SHEET.

3. Timelines
 August 2010:
 The FASB and IASB jointly issued an ED of a proposed accounting
standard for leases
 January 2011:
 The boards identified 5 key areas
 Definition of a lease
 Lessor accounting
 Definition of lease term
 Variable/uncertain cash flows
 Profit and loss recognition pattern
 May 2011 –till date:
 Deliberations, comments, roundtables
 Final Recommendations: Towards end of 2011
 Implementation: 2014 tentative

4. Feedback and Comments Process
 770 Comment letters received
 Direct outreach with users and preparers by the
boards
 Public roundtable discussions in London, Hong
Kong, Chicago and Norwalk
Profile of respondents: industry trade
organizations, professional organizations, local standard
setters/regulators, individuals, auditors, consultants, academic
s and users

5. Discussions & Deliberations on P&L Recognition
Patterns
 All leases treated as financing transactions with an
accelerated profit and loss recognition pattern by the
Exposure Draft (ED)
 Concerns expressed across industries on this
 Pattern inconsistent with the economics of diverse lease
transactions that are priced in reference to other market
transactions
 Adjustments usually made to the balance sheets of lessees and
not to the income statements
 Usefulness of the income statement or operating cash flow as
performance metrics doubtful if all leases were reflected as
financings

6. Discussions & Deliberations on P&L Recognition
Patterns
 Fundamental distinction between those leases that are
primarily financing transactions in nature and those that are
"other than financing."
 Though all leases would be on balance sheet, the profit and
loss recognition pattern will vary on the basis of lease type
 Impact of this approach:
 Leases that are primarily financing transactions in nature would have a
recognition pattern similar to a financed purchase.
 Leases that are "other than financing" would have a recognition pattern
more closely aligned with today's straight line rent under an operating
lease.
 Leases to be differentiated on the basis of:
 two new sets of indicators
 Targeted outreach being done currently

7. Comments on P&L Recognition Pattern Contd..
 Majority felt that the ED effectively views lease
transactions fundamentally as the purchase of a right
to use an asset with seller financing thus accepting
the resultant accelerated expense recognition pattern
due to the financing element
 Some concerned about the expense recognition
pattern as certain types of leases are not inherently
financings
 Suggested use of “Linking Approach” or sinking fund
depreciation methods

8. Comments on P&L Recognition Pattern
 The ED proposes the right-of-use model.
 Recognition pattern for the lessee changes the expense
recognition pattern of operating leases from rental expense to
a combination of amortization and interest expense
 Results in acceleration of expenses compared to today's
operating lease accounting and the timing of cash payments.
 Usefulness of the model questioned

9. Follow Up Amendments by ED as on May 2011
 The ED implicitly treats all leases as financing transactions with an
accelerated profit and loss recognition pattern
 Fundamental distinction between leases based on financial
transactions basis
 Indicators identified: IAS 17, Leases, as the basis for distinguishing between the
two categories of leases.
 All leases to be recorded on the balance sheet, with the exception of
short-term leases.
 Initially the board directed that expense recognition pattern for
leases will differ
 Leases that are primarily financing transactions would have a recognition pattern
similar to a financed purchase
 Other leases will have a straight-line recognition pattern, with expense reflected
in a single line item in the income statement
This has been removed as it is a complex exercise to differentiate the
leases