On the Horizon
May 21, 2013
Current practice issue
Asset retirement obligations in leasing arrangements
Current practice issue
FASB and IASB release revised leases exposure draft
Some leases impose requirements on a lessee to restore a facility to its
original condition at the end of a lease or to uninstall and remove leasehold
improvements. The accounting for those obligations varies on their exact
nature. Sometimes the obligation is considered to be part of minimum lease
payments and is accounted for under FASB Accounting Standards Codification®
(ASC) 840, Leases. When the obligation is not considered part of minimum
lease payments, it may be an asset retirement obligation under ASC 410-20,
Asset Retirement and Environmental Obligations: Asset Retirement Obligations.
SEC
NASDAQ withdraws its proposal to require an internal audit function
CorpFin updates Compliance and Disclosure Interpretations
EDGAR Filer Manual revised
COSO updates internal control framework
Comment letter issued
Asset retirement obligations in leasing arrangements
Obligations included in minimum lease payments under ASC 840
Generally, an asset retirement obligation to remove or restore an asset of
the landlord could be a part of minimum lease payments accounted for
under ASC 840. Like a residual value guarantee, the entire estimated
amount is included within minimum lease payments without regard to the
probability that the lessor will require removal when classifying the lease.
The estimated removal costs are included in the determination of straight© 2013 Grant Thornton LLP. All rights reserved. This Grant Thornton LLP On the Horizon provides information and comments on current accounting issues and developments. It is not a
comprehensive analysis of the subject matter covered and is not intended to provide accounting or other conclusions with respect to the matters addressed in this issue. All relevant facts and
circumstances, including the pertinent authoritative literature, need to be considered to arrive at accounting that complies with matters addressed in this publication. For additional information on
topics covered in this publication, contact a Grant Thornton client-service partner.
On the Horizon May 21, 2013
line rent and therefore are accrued over the term of the operating lease.
Estimated removal costs are included in the capital lease obligation for capital
leases. The liability is derecognized when removal costs are incurred or if the
lessor waives removal.
Example: CompanyCo agrees to lease a building and wishes to retain some of
the existing leasehold improvements from a previous tenant. The lessor agrees
but requires the lessee to remove the improvements on conclusion of the lease.
The obligating event is the signing of the lease. The requirement to remove the
improvements would be considered part of minimum lease payments.
Obligations that require creation of an asset retirement obligation under ASC
410-20
A lease provision that requires a lessee to restore a property to its original
condition or remove any leasehold improvements installed and owned by the
lessee would normally create an asset retirement obligation for the lessee that is
accounted for under ASC 410-20. Asset retirement obligations within leases are
often enforced at the discretion of the lessor. For asset retirement obligations
under ASC 410, the probability of the lessor enforcing the obligation is a
consideration when the lessee determines the amount to be recognized for
leasehold improvements (see ASC 410-20-55-44 through 55-46 for an example
of when the probability of enforcement is low).
Example: CompanyCo leases a building and modifies the site to its
requirements, including features such as signs, installed equipment, and interior
walls. The lease provides the lessor with the right to require that all leasehold
improvements be removed and the site restored to its original condition at the
end of the lease. In this case, the obligating event is construction or installation
of the leasehold improvements. The amount recognized by the lessee for the
leasehold improvements should include an asset retirement obligation.
Measurement of the asset retirement obligation would take into consideration
the probability that the lessor will require removal of the improvements.
FASB and IASB release revised leases exposure draft
On May 16, the FASB and IASB released their revised joint exposure draft,
Leases. The proposed changes to the accounting for leases are meant to
provide transparency within financial reporting on operations and risk
exposure related to lease transactions.
The core principle in the proposed guidance is for both the lessee and the
lessor to recognize an asset and obligation in the statement of financial
position upon commencement of the lease. The lessee would recognize a
“right-of-use” asset and a lease obligation measured at the present value of
the minimum lease payments due under the lease. The lessor would
recognize a receivable for the lease payments and an obligation to provide
the underlying asset.
Upon commencement of a lease, both the lessee and the lessor would
classify a lease as either a Type A or Type B lease. Generally, nonproperty
(equipment) leases would be classified as Type A leases unless either of the
following conditions is present:

The lease term is for an insignificant part of the total economic life of
the underlying asset.

The present value of the lease payments is insignificant relative to the
fair value of the underlying asset at the lease commencement date.
The current guidance in the exposure draft does not define “insignificant.”
Real property would generally be classified as a Type B lease unless either of
the following conditions applies:

The lease term is for the major part of the remaining economic life of
the underlying asset.

The present value of the lease payments accounts for substantially all of
the fair value of the underlying asset at the lease commencement date.
Reassessment of the classification after the commencement date would not
be permitted.
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On the Horizon May 21, 2013
For lessees, a Type A lease would require recognition of interest and
amortization consistent with the view that a lease comprises a purchase and
related financing. A lessee with a Type B lease would recognize a single lease
expense by calculating the unwinding of the discount on the lease liability
combined with the amortization of the right-of-use asset. This effectively results
in the net lease cost recognized on a straight-line basis over the term of the
lease.
For lessors, the Type A lease would be accounted for upon commencement by
recognizing a lease receivable, a residual asset (the expected amount of the
underlying asset at the end of the lease term), and any resulting profit or loss.
After commencement of the lease, the lessor would recognize in profit or loss
(a) interest income resulting from the unwinding of the discount on the lease
receivable, (b) interest income resulting from the unwinding of the discount on
the gross residual asset, and (c) variable lease payments not already in the lease
receivable during the periods in which they were earned. Lessors would account
for Type B leases similar to operating leases under current guidance.
When a lease contains both lease and nonlease elements, both lessors and
lessees would be required to separately account for the lease and nonlease
elements. Lessors would account for the nonlease elements consistent with the
multiple-element guidance in ASC 605-25, Revenue Recognition: Multiple-Element
Arrangements. Lessees would not include payments for nonlease elements as part
of the right-of-use asset and lease obligation, but would need to disclose future
payments in a maturity schedule in the notes to the financial statements.
An entity would have the option to make an accounting policy election to not
apply the guidance to short-term leases. The proposed guidance defines shortterm leases as “a lease that, at the commencement date, has a maximum
possible term under the contract, including any options to extend, of 12 months
or less. Any lease that contains a purchase option is not a short-term lease.”
For both the lessee and the lessor, there would be a substantial increase in the
disclosure requirements under the proposed guidance.
The comment period on the exposure draft ends on September 13.
For more information, refer to FASB in Focus, “Proposed Accounting
Standards Update on Leases.”
SEC
NASDAQ withdraws its proposal to require an internal audit function
On May 7, NASDAQ withdrew its proposed rule to require that listed
companies have an internal audit function in order to adequately consider
the comments received on the proposal. NASDAQ has stated that it
intends to resubmit a revised proposal.
CorpFin updates Compliance and Disclosure Interpretations
The Compliance and Disclosure Interpretations (CDIs) reflect the views of the SEC
staff. They are not rules, regulations, or statements of the Commission and have not been
approved by the Commission. The interpretations are highly informal in nature and are
intended as general guidance and should not be relied on as definitive.
The Division of Corporation Finance (CorpFin) recently updated the
following Compliance and Disclosure Interpretations:

Securities Act Sections

Securities Act Rules

Securities Act Forms

Regulation S-K

Exchange Act Form 8-K

Oil and Gas Rules
These CDIs were updated to provide guidance on certain specific topics,
including

When it is appropriate to file a resale registration statement for
securities sold in a private equity line financing

Whether additional securities of the same class already registered may
be added to an automatic shelf registration statement on Form S-3 by
post-effective amendment
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On the Horizon May 21, 2013

Whether a registrant may incorporate by reference into Form S-4 risk
factors disclosed in its most recently filed Form 10-K in certain
circumstances
Communication, and Monitoring Activities), it also now identifies 17
specific principles related to these components that are necessary to achieve
effective internal control.

Whether a Form 8-K, Item 2.06 (material impairment), is required if the
timing of an impairment conclusion coincides with, but is not in connection
with, the preparation, review, or audit of financial statements required in
the next Exchange Act periodic report
COSO also issued Illustrative Tools for Assessing Effectiveness of a System of
Internal Control and the Internal Control over External Financial Reporting (ICEFR):
A Compendium of Approaches and Examples. The compendium and illustrative
tools are intended to assist users (particularly preparers of financial
statements for external purposes) in assessing whether an internal control
system meets the requirements of the updated 2013 Framework.
EDGAR Filer Manual revised
The SEC recently issued a Final Rule, Adoption of Updated EDGAR Filer Manual,
to announce its adoption of a revised version of the EDGAR Filer Manual.
The revisions are being made primarily to implement the new Form 13F online
application and to support the U.S. GAAP 2013 XBRL Taxonomy.
COSO updates internal control framework
The Committee of Sponsoring Organizations (COSO) of the Treadway
Commission issued an updated Internal Control – Integrated Framework (2013
Framework). The 2013 Framework broadens and clarifies the application of
internal control and its effectiveness, in consideration of changes to business
and operating environments since the issuance of the initial framework.
Although the 2013 Framework retains the five components of internal control
(Control Environment, Risk Assessment, Control Activities, Information and
Users are encouraged to transition to the 2013 Framework as soon as
feasible. The original 1992 Framework will be available through December
15, 2014, at which time it will be superseded and the updated Framework
will be required. Further discussion can be found in Grant Thornton’s May
15, 2013 Corporate Governor Alert.
Comment letter issued
On May 15, the firm issued a comment letter in response to the FASB’s
proposed Accounting Standards Update (ASU), Recognition and
Measurement of Financial Assets and Financial Liabilities.
The comment letter is available at grantthornton.com.
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