FASB Leases Roundtable:: What We Heard

The Financial Accounting Standards Board held its long-awaited, virtual, leases roundtable in mid-September. Participants included public accounting firms, financial statement users, public and private companies and trade associations. There were five major topics of discussion:

• Lessee application of the rate implicit in the lease;
• Lessee application of the incremental borrowing rate;
• Embedded leases;
• Lease modifications; and
• Lessee allocation of fixed and variable payments.

For each of these topics, the FASB staff prepared agenda papers (available on the FASB’s website here). ELFA Financial Accounting Committee Chair John Bober summarized the questions within each major topic area in a November 2020 Financial Watch column entitled “FASB Leases Roundtable: What’s on the Table.”

The FASB met on Dec. 2 to discuss the feedback it received from the roundtable.

What was the feedback?

Given the number and diversity of roundtable participants, as might be expected, there were varied opinions on some items within the broader topics. However, there was also a surprising amount of near consensus around other items.

Lessee application of the rate implicit in the lease Roundtable participants we re generally opposed to either:

• Permitting (option) or requiring lessees to estimate the lessor’s implicit rate, even if there is publicly available (observable) information available that is likely to be consistent with the information used by the lessor to calculate its implicit rate; or
• Eliminating the requirement for lessees to consider whether the lessor’s implicit rate is readily determinable.

Since the roundtable, the FASB voted at a public meeting on Oct. 21 not to further consider either of these possible changes to Topic 842. Consequently, this roundtable topic was not discussed further at the Dec. 2 meeting.

Lessee application of the incremental borrowing rate
Roundtable participants were mostly opposed to changing the lessee incremental borrowing rate guidance for public business entities, including to permit or require use of a default discount rate (e.g., an A or AA rate). While many participants observed that determining incremental borrowing rates was an implementation challenge, they also observed that entities that have adopted Topic 842 generally now have processes in place that are sustainable and repeatable such that changes to the incremental borrowing rate guidance would be disruptive.

By contrast, roundtable participants were largely in favor of making changes to the incremental borrowing rate guidance for non-public entities, most of whom have not yet adopted Topic 842. Participants were generally receptive to one or both of the following revisions to the risk-free discount rate practical expedient available to these entities:

• Making the practical expedient electable by class of underlying asset (rather than on an all-or-nothing basis for all leases); and
• Incorporating a credit element into the practical expedient (effectively making the default rate a high credit quality rate other than a risk-free rate)
• At its Dec. 2 meeting, FASB members expressed interest in the staff bringing back research to the Board on both of these possible changes.

Embedded leases
Most roundtable participants were opposed to either:

• Making changes to the definition of a lease in Topic 842; or
• Enacting embedded lease scoping exemptions such as:
  o The “low-value asset” exemption in the IFRS leases standard (IFRS 16), which would permit not recognizing embedded leases of assets with a low value when new (e.g., small IT equipment); or
  o The exemption in the revenue guidance (Topic 606) that permits entities to not separately account for promised goods or services that are qualitatively and quantitatively “immaterial in the context of the contract.”

Some of those participants observed that the lease definition has conceptual merit and is identical to that in IFRS 16. Others observed that both of the above scoping exemptions were debated during the development of Topic 842 and were deemed to have operational and/or conceptual flaws.

At its Dec. 2 meeting, some FASB members expressed that additional education on the part of the FASB with stakeholders may assist with some of the lingering concerns and complexity associated with identifying embedded leases, particularly for those entities still undertaking implementation of Topic 842.

Lease modifications
While participants generally agreed that the modification accounting models under Topic 842 were an improvement from those that applied under Topic 840 and that stakeholders understand and know how to apply the Topic 842 modification guidance, they were broadly supportive of possible changes to:

• Reduce how often modification accounting triggers reassessments of lease judgments and estimates, such as lease classification, discount rate for the lease and lease term;
• Permit the recognition of certain termination penalties as an expense of the termination (rather than as a cost of the remaining lease components); and
• Prevent counterintuitive lease classification outcomes, such as the classification of a lease changing multiple times during its life or changing solely due to the passage of time since lease commencement.

At its Dec. 2 meeting, a number of the FASB members expressed an interest or willingness to consider modification accounting changes consistent with these suggestions, as well as to consider any other worthwhile suggestions received from respondents to the FASB’s recent proposed ASU on targeted lease standard improvements.

Lessee allocation of fixed and variable payments
The lessor guidance in Topic 842, derived from guidance in Topic 606, requires lessors to allocate a variable payment, and therefore also potentially a fixed payment, to only one or some of the contract components if specified conditions are met. While many roundtable participants were supportive of expanding this guidance to lessees on a conceptual and decision-useful information basis, many of those same participants (and others) were concerned about disrupting lessees’ existing accounting processes and lease systems with this change. 

FASB members did not make specific comments in relation to this topic at the Dec. 2 meeting.

Next Steps

The Financial Watch column will provide an update on changes to Topic 842, including those stemming from the September 2020 roundtable, in the coming months.