The Financial Accounting Standards Board (“FASB”) and the International Accounting Standards Board (“IASB”) (collectively, “the Boards”) met earlier this week to continue their deliberations on the Joint Lease Accounting Project. The meeting focused specifically on the definition of a lease and the Boards reiterated the conclusions that they had reached in their Joint Meeting in October 2014. Apparently the discussion on this specific topic has been concluded.
The Boards have decided that a lease must embody the following characteristics:
- Contract that conveys the right to use a specific asset (underlying asset) for a period of time;
- Exchange of consideration;
- Use of an identified asset either explicitly or implicitly specified; and
- Contract conveys to the customer the right to control the use of the identified asset through the term of the use.
Note that if the supplier has a substantive right to substitute the asset, then the contract would not involve the use of a specific asset. A substantive right is one where the supplier has the practical ability to make the substitution and benefits from the substitution.
Note also that right to control means that the customer has the right to both direct the use of the asset and obtain substantially all of the economic benefit from the asset during the period of use.
The Boards decided against requiring that the customer would have to direct the use of the asset on its own or together with other resources.
Although the deliberations have concluded, there undoubtedly will be questions regarding how this definition will be applied in practice to certain contractual arrangements. For example, there was a recent discussion in the Lease Administration section of LinkedIn which described a contractual arrangement for what can be characterized as “hoteled” office space. In this case the user contracts for use of office space of a certain type but there may well not be any specific identified asset. The supplier has the right to move the customer to a number of locations (substitution) and the customer does not have control of a specific, identified asset. The consensus of those commenting was that this arrangement did not meet the definition of a lease as proposed by the Boards and would be accounted for as a service arrangement. However, this conclusion is only the opinion of those commenting and it is not clear how the Boards would view this arrangement.
It will be important for the Boards to include specific examples in the final standard that will assist in clarifying how the definition of a lease will be applied in practice. In any case, this will continue to be a challenging aspect of implementation.