reporting of capital and operating leases and their impact on fair value measurements. The essay surveys lease accounting standards from 1976 thru the present.
The basic principle of lease accounting is that some leases are merely rentals, while others are in effect purchases. U.S. regulations that specify lease accounting rules are issued by the Financial Accounting Standards Board (FASB). The primary FASB statement on leases was Number 13, issued in 1976, and is also known as FAS 13, SFAS 13 and FASB 13. Over the years it has been amended several times by additional FAS, including FAS 22, FAS 23, FAS 27, FAS 28, FAS 29, FAS 98, and FAS 121. In addition to financial accounting standards, various interpretations and technical bulletins have also been issued to provide additional guidance. Lease accounting rules were previously labeled as section L10 in the FASB Current Text, while the new FASB Codification uses section ASC 840 for lease accounting rules and guidelines (“Lease Accounting Rules”).
The AICPA also publishes leasing accounting guidelines. In 1962 the AICPA published Accounting Research Study (ARS) No. 4, Reporting of Leases in Financial Statements, which re-examined the treatment of leasing and its development since the late 1940. The study’s author, John H. Myers, argued that since the issuance of ARB 38, as well as its restatement in ARB 43, leases had grown in importance. Myers also contended that disclosures were rarely meeting ARB 43 standards, that financial analysts were seeking more information than that required by ARB 43, and that balance sheet presentation of leases that were in substance purchases was nearly non-existent (“History” 3).
Myers presented a series of examples illustrating how leases can vary from a and mortgage-borrowing arrangement to a more traditional rent arrangement. Myers therefore introduced a different accounting model from that used in ARB 43. Instead of considering how closely a lease corresponded to an ownership and mortgage-borrowing arrangement, Myers argued that a lease conveys rights to use property, even if those rights are not perfectly aligned with or even close to ownership rights. As a result, the rights obtained through a lease could still be considered an asset, even if the lease term was for a relatively short duration (“History” 4).
The U.S. Securities and Exchange Commission (SEC) also establishes lease accounting standards as part of its mission to protect investors and maintain order in the markets. In October 1973, the SEC issued Accounting Series Release (ASR) No. 147, Notice of Adoption of Amendments to Regulation S-X Requiring Improved Disclosure of Lease. ASR 147 criticized the Accounting Principles Board for requiring substantially less disclosure in Opinion 31 than that which the SEC had identified as needed by investors. As a result, the SEC provided the most extensive recognition and disclosure requirements to date for lease accounting. By contrast with Opinion 31, the SEC required disclosure of the present value of financing leases as well as their impact on net income of capitalization of such leases. ASR 147 also included other lease accounting guidance which covered renewal options, determining whether a lessor’s investment was recovered, fair market value of leased assets, minimum rentals, net lease payments, implicit interest rates, and materiality (“History” 11).
One aspect of lease accounting that ASR 147 did not address was providing any new conceptual model for lease accounting. However, it did define a financing lease to be “a lease which, during the non-cancelable lease period, either (i) covers 75% or more of the economic life of the property or (ii) has terms which assure the lessor a full recovery of the fair market value
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