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Area for Improvement |
Summary of Amendments |
Issue 1: Residual Value Guarantees
Stakeholders noted that paragraph 460-10-60-32 incorrectly refers readers to the guidance in Topic 842 about sale-leaseback-sublease transactions, when, in fact, it should refer readers to the guidance about guarantees by a seller-lessee of the underlying asset's residual value in a sale and leaseback transaction.
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The amendment corrects the cross-reference in paragraph 460-10-60-32.
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Issue 2: Rate Implicit in the Lease
Stakeholders raised questions about the treatment of certain sales-type leases with significant variable payments under Topic 842 and whether the application of Topic 842 could result in a negative rate implicit in the lease, rather than a loss at the commencement date of the lease.
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The amendment clarifies that a rate implicit in the lease of zero should be used when applying the definition of the term rate implicit in the lease results in a rate that is less than zero.
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Issue 3: Lessee Reassessment of Lease Classification
Topic 842 is clear that when a lease is modified and that modification is not accounted for as a separate contract, an entity (that is, a lessee or a lessor) should reassess, at the effective date of the modification, lease classification on the basis of the modified terms and conditions and the facts and circumstances existing as of that date. Although Topic 842 also requires a lessee to reassess lease classification if there is a change in the lease term or the assessment of a lessee option to purchase the underlying asset, stakeholders expressed that it is not clear whether the lessee should reassess lease classification on the basis of the facts and circumstances existing as of the date the reassessment is required.
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The amendment consolidates the requirements about lease classification reassessments into one paragraph and better articulates how an entity should perform the lease classification reassessment, that is, on the basis of the facts and circumstances, and the modified terms and conditions, if applicable, as of the date the reassessment is required.
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Issue 4: Lessor Reassessment of Lease Term and Purchase Option
Topic 842 requires a lessor to not reassess the lease term or a lessee purchase option unless the lease is modified and that modification is not accounted for as a separate contract. Topic 842 also requires a lessor to account for the exercise of a lessee option to extend or terminate the lease or to purchase the underlying asset in the same manner as a lease modification. Stakeholders questioned why a lessor should account for a lessee exercise of such options in a manner similar to a lease modification when the exercise of those options is consistent with the assumptions that the lessor made in accounting for the lease at the commencement date of the lease (or the most recent effective date of a modification that is not accounted for as a separate contract).
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The amendment clarifies that a lessor should account for the exercise by a lessee of an option to extend or terminate the lease or to purchase the underlying asset as a lease modification unless the exercise of that option by the lessee is consistent with the assumptions that the lessor made in accounting for the lease at the commencement date of the lease (or the most recent effective date of a modification that is not accounted for as a separate contract).
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Issue 5: Variable Lease Payments That Depend on an Index or a Rate
Stakeholders noted that the guidance in paragraph 842-10-35-4(b) about remeasurement of the lease payments when a contingency upon which some or all of the variable lease payments are based is resolved might be perceived as applying to any variable lease payments, including those that depend on an index or rate, which would be inconsistent with the Board's decisions on this issue.
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The amendment clarifies that a change in a reference index or rate upon which some or all of the variable lease payments in the contract are based does not constitute the resolution of a contingency subject to the guidance in paragraph 842-10-35-4(b). Variable lease payments that depend on an index or a rate should be remeasured, using the index or rate at the remeasurement date, only when the lease payments are remeasured for another reason (that is, when one or more of the events described in paragraph 842-10-35- 4(a) or (c) occur or when a contingency unrelated to a change in a reference index or rate under paragraph 842-10-35-4(b) is resolved).
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Issue 6: Investment Tax Credits
Stakeholders indicated that there is an inconsistency in terminology used about the effect that investment tax credits have on the fair value of the underlying asset between the definition of the term rate implicit in the lease and the lease classification guidance in paragraph 842-10-55-8.
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The amendment removes that inconsistency in terminology.
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Issue 7: Lease Term and Purchase Option
Stakeholders indicated that the description in paragraph 842-10-55-24 about lessor-only termination options is inconsistent with the description in paragraph 842-10-55-23 about the noncancellable period of a lease.
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The amendment removes that inconsistency by clarifying that the period covered by a lessor-only option to terminate the lease is included in the lease term.
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Issue 8: Transition Guidance for Amounts Previously Recognized in Business Combinations
Stakeholders indicated that the transition guidance for lessors in paragraph 842-10-65-1(h)(3) is unclear because it relates to leases classified as direct financing leases or sales-type leases under Topic 840, while the lead-in sentence to paragraph 842-10-65-1(h) provides transition guidance for leases classified as operating leases under Topic 840.
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The amendment clarifies that paragraph 842-10-65-1(h)(3) applies to lessors for leases classified as direct financing leases or sales-type leases under Topic 842, not Topic 840. In other words, paragraph 842-10-65-1(h)(3) applies when an entity does not elect the package of practical expedients in paragraph 842-10-65-1(f), and, for a lessor, an operating lease acquired as part of a previous business combination is classified as a direct financing lease or a sales-type lease when applying the lease classification guidance in Topic 842. The amendment also cross-references to other transition guidance applicable to those changes in lease classification for lessors.
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Issue 9: Certain Transition Adjustments
When an entity initially applies Topic 842 retrospectively to each prior reporting period and does not elect the package of practical expedients in Topic 842, paragraph 842-10-65-1(p) requires a lessee to write off, as an adjustment to equity, any unamortized initial direct costs that do not meet the definition of initial direct costs under Topic 842 for leases previously classified as operating leases under Topic 840.
Stakeholders questioned why those nonqualifying costs should be charged to equity when those costs are incurred after the beginning of the earliest period presented in the financial statements in which an entity adopts Topic 842. Similar issues also were noted elsewhere in the transition guidance when an entity initially applies Topic 842 retrospectively to each prior reporting period.
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The amendments clarify whether to recognize a transition adjustment to earnings rather than through equity when an entity initially applies Topic 842 retrospectively to each prior reporting period.
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Issue 10: Transition Guidance for Leases Previously Classified as Capital Leases under Topic 840
Paragraph 842-10-65-1(r) provides guidance to lessees for leases previously classified as capital leases under Topic 840 and classified as finance leases under Topic 842. Paragraph 842-10-65-1(r)(4) provides subsequent measurement guidance before the effective date when an entity initially applies Topic 842 retrospectively to each prior reporting period, but it refers readers to the subsequent measurement guidance in Topic 840 about operating leases. It should refer them to the subsequent measurement guidance applicable to capital leases.
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The amendment corrects that reference.
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Issue 11: Transition Guidance for Modifications to Leases Previously Classified as Direct Financing or Sales-Type Leases under Topic 840
Paragraph 842-10-65-1(x) provides transition guidance applicable to lessors for leases previously classified as direct financing leases or sales-type leases under Topic 840 and classified as direct financing leases or sales-type leases under Topic 842. For modifications to those leases beginning after the effective date, paragraph 842-10-65-1(x)(4) refers readers to other applicable guidance in Topic 842 to account for the modification, specifically paragraphs 842-10-25-16 through 25-17, depending on how the lease is classified after the modification. Stakeholders noted that it should refer to how the lease is classified before the modification to be consistent with the guidance provided in paragraphs 842-10-25-16 through 25-17.
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The amendment corrects that inconsistency.
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Issue 12: Transition Guidance for Sale and Leaseback Transactions
Stakeholders noted that the heading above the transition guidance on sale and leaseback transactions appears to suggest that there is no transition guidance for sale and leaseback transactions that occur after the earliest comparative period presented in the financial statements in which an entity adopts Topic 842 but before the effective date. Some stakeholders also questioned some of the references included in paragraph 842-10-65-1(bb).
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The amendments clarify that the transition guidance on sale and leaseback transactions in paragraph 842-10-65-1(aa) through (ee) applies to all sale and leaseback transactions that occur before the effective date and corrects the referencing issues noted.
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Issue 13: Impairment of Net Investment in the Lease
Paragraph 842-30-35-3 provides guidance to lessors for determining the loss allowance of the net investment in the lease and describes the cash flows that should be considered when the lessor determines that loss allowance. Stakeholders questioned whether the guidance, as written, would accelerate and improperly measure the loss allowance because the cash flows associated with the unguaranteed residual asset appear to be excluded from the evaluation.
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The amendment clarifies the application of the guidance for determining the loss allowance of the net investment in the lease, including the cash flows to consider in that assessment.
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Issue 14: Unguaranteed Residual Asset
Paragraph 842-30-35-4 provides guidance explaining that if a lessor sells the lease receivable associated with a direct financing lease or a sales-type lease and retains an interest in the residual value of the asset, the lessor should not continue to accrete the unguaranteed residual asset to its estimated value over the remaining lease term. Stakeholders questioned whether the Board intended to change the application as compared with current generally accepted accounting principles (GAAP) because the guidance in paragraph 840-30-35-53 (which will be superseded by the amendments in Update 2016-02) requires a lessor to continue to recognize interest resulting from accretion of the unguaranteed residual asset to its estimated value unless the lessor sells substantially all of the minimum rental payments.
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The amendment clarifies that a lessor should not continue to accrete the unguaranteed residual asset to its estimated value over the remaining lease term to the extent that the lessor sells substantially all of the lease receivable associated with a direct financing lease or a sales-type lease, consistent with Topic 840.
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Issue 15: Effect of Initial Direct Costs on Rate Implicit in the Lease
Stakeholders noted that the ordering of the illustration in Case C of Example 1 in paragraphs 842-30-55-31 through 55-39 has raised questions about how initial direct costs factor into determining the rate implicit in the lease for lease classification purposes for lessors only.
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The amendment more clearly aligns the illustration to the guidance in paragraph 842-10-25-4.
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Issue 16: Failed Sale and Leaseback Transaction
In accordance with Subtopic 842-40, Leases—Sale and Leaseback Transactions, when a sale and leaseback transaction does not qualify as a sale, an entity should account for the transaction as a financing arrangement. Paragraph 842-40-30-6(a) further requires a seller-lessee to adjust the interest rate as necessary to prevent negative amortization of the financial liability recognized. Some stakeholders questioned whether the language used in paragraph 842-40-30-6(a) actually meets the objective of preventing negative amortization of the financial liability recognized by a seller-lessee in a failed sale and leaseback transaction.
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The amendment clarifies that a seller-lessee in a failed sale and leaseback transaction should adjust the interest rate on its financial liability as necessary to ensure that the interest on the financial liability does not exceed the total payments (rather than the principal payments) on the financial liability. This clarification is also reflected in the relevant illustration on failed sale and leaseback transactions that is contained in Subtopic 842-40.
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Areas for Improvement |
Related Paragraphs |
Issue 1: Residual Value Guarantees |
3 and 4 |
Issue 2: Rate Implicit in the Lease |
5 and 6 |
Issue 3: Lessee Reassessment of Lease Classification |
7 and 8 |
Issue 4: Lessor Reassessment of Lease Term and Purchase Option |
9 and 10 |
Issue 5: Variable Lease Payments That Depend on an Index or a Rate |
11 and 12 |
Issue 6: Investment Tax Credits |
13 and 14 |
Issue 7: Lease Term and Purchase Option |
15 and 16 |
Issue 8: Transition Guidance for Amounts Previously Recognized in Business Combinations |
17 and 18 |
Issue 9: Certain Transition Adjustments |
19 and 20 |
Issue 10: Transition Guidance for Leases Previously Classified as Capital Leases under Topic 840 |
21 and 22 |
Issue 11: Transition Guidance for Modifications to Leases Previously Classified as Direct Financing or Sales-Type Leases under Topic 840 |
23 and 24 |
Issue 12: Transition Guidance for Sale and Leaseback Transactions |
25 and 26 |
Issue 13: Impairment of Net Investment in the Lease |
27 and 28 |
Issue 14: Unguaranteed Residual Asset |
29 and 30 |
Issue 15: Effect of Initial Direct Costs on Rate Implicit in the Lease |
31 and 32 |
Issue 16: Failed Sale and Leaseback Transaction |
33–35 |
Paragraph |
Action |
Accounting Standards Update |
Date |
460-10-60-32 |
Amended |
2018-10 |
07/18/2018 |
Paragraph |
Action |
Accounting Standards Update |
Date |
Rate Implicit in the Lease |
Amended |
2018-10 |
07/18/2018 |
842-10-25-1 |
Amended |
2018-10 |
07/18/2018 |
842-10-25-2 |
Amended |
2018-10 |
07/18/2018 |
842-10-25-9 |
Amended |
2018-10 |
07/18/2018 |
842-10-35-3 through 35-5 |
Amended |
2018-10 |
07/18/2018 |
842-10-55-8 |
Amended |
2018-10 |
07/18/2018 |
842-10-55-24 |
Amended |
2018-10 |
07/18/2018 |
842-10-65-1 |
Amended |
2018-10 |
07/18/2018 |
Paragraph |
Action |
Accounting Standards Update |
Date |
Rate Implicit in the Lease |
Amended |
2018-10 |
07/18/2018 |
Paragraph |
Action |
Accounting Standards Update |
Date |
Rate Implicit in the Lease |
Amended |
2018-10 |
07/18/2018 |
842-30-35-3 |
Amended |
2018-10 |
07/18/2018 |
842-30-35-4 |
Amended |
2018-10 |
07/18/2018 |
842-30-55-20 |
Amended |
2018-10 |
07/18/2018 |
842-30-55-32 |
Amended |
2018-10 |
07/18/2018 |
842-30-55-32A |
Added |
2018-10 |
07/18/2018 |
Paragraph |
Action |
Accounting Standards Update |
Date |
842-40-30-6 |
Amended |
2018-10 |
07/18/2018 |
842-40-55-33 |
Amended |
2018-10 |
07/18/2018 |
. . . take into consideration the collateral relating to the net investment in the lease. The collateral relating to the net investment in the lease represents the cash flows that the lessor would expect to derive from the underlying asset during the remaining lease term (for example, from sale of the asset or release of the asset for the remainder of the lease term), which excludes the cash flows that the lessor would expect to derive from the underlying asset following the end of the lease term (for example, cash flows from leasing the asset after the end of the lease term). [Emphasis added.] |
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