September 27, 2013
Highlights of this Issue:
G-20 Leaders Call for Completion of Convergence Projects by Year-End
On Sept. 6, leaders from the Group of 20 (G-20) called for the Financial Accounting Standards Board and the International Accounting Standards Board (IASB) (collectively, the Boards) to complete the remaining convergence projects by the end of the 2013. The leaders remain concerned that the Boards have not developed “a single set of high-quality accounting standards” in the five years since the financial crisis. This would appear to be a near impossible goal to achieve given the remaining work that the Boards have on Revenue Recognition, Leases, Financial Instruments and Insurance.
FASB/IASB Joint Leases Project
On Sept. 12, NAREIT filed its submission on the Leases Proposal (the Proposal). While NAREIT recommended a number of modifications to the Proposal, NAREIT strongly supported the model that the Boards propose for most property leases. NAREIT indicated that if the Boards desired to develop a single model for all leases, NAREIT would not object to such a model so long as the lease income and expense would be recognized on a straight-line basis (i.e., the Type B model developed for property in the Proposal).
NAREIT made the following recommended modifications to the Proposal:
- Clarify that tenant reimbursements of a landlord’s costs associated with the landlord’s property be considered part of lease income;
- Classify all leases of property as Type B to eliminate potential reporting issues associated with applying the receivable and residual model to multi-tenant properties; and,
- Revise the definition of property to include integral equipment attached to land that is defined in current U.S. GAAP.
During the summer months, NAREIT shared its views on the Proposal and gathered input with the following key stakeholders in the standard setting arena:
- FASB Chairman Russell Golden and FASB Member Larry Smith;
- Paul Beswick, Chief Accountant of the Securities and Exchange Commission (SEC), and members of his staff;
- Representatives from the national offices and real estate leaders with each of the major public accounting firms (i.e., BDO Seidman, Deloitte, Ernst & Young, Grant Thornton, KPMG, and PwC);
- The Head of Accounting Policy at the CFA Institute;
- The U.S. Chamber of Commerce; and,
- Other national trade associations including The Real Estate Roundtable.
The Boards continue to hold public roundtable meetings at which they are collecting further input on the proposals. NAREIT, its partners in the Real Estate Equity Securitization Alliance (REESA) and representatives from NAREIT member companies have participated in the roundtables in London, UK on Sept. 16, in Norwalk, CT on Sept. 23, and are scheduled to participate in the roundtable to be held in Los Angeles, CA on Oct. 3. Representatives from NAREIT member companies that participated in the roundtables included Arthur Flashman, Vice President, Principal Accounting Officer, Boston Properties; Heidi Roth, SVP, CAO & Controller, Kilroy Realty Corporation; Robert Meyer, Senior Vice President, Finance/Corporate Controller, American Tower; and, Stephen Theriot, Chief Financial Officer, Vornado Realty Trust.
On Oct. 7, NAREIT representatives, including a Chief Executive Officer of a NAREIT member company and industry investors and analysts, are scheduled to meet with and share their views on the Leases
Proposal with three FASB members and staff in Norwalk, CT.
Based on conversations that NAREIT has had with FASB members, the Boards plan to commence re-deliberations on the Proposal as early as November, and anticipate finalizing the standard by the end of 2014. While no effective date has been established, NAREIT anticipates that the effective date will be no earlier than Jan. 1, 2017.
FASB/IASB Joint Revenue from Contracts with Customers Project
The FASB and IASB have continued to work together toward finalizing their re-deliberations of the proposed Revenue from Contracts with Customers Proposal (the Proposal or the Revenue Recognition Proposal). Over the summer months, the FASB reconfirmed that certain guidance in the revenue standard will also apply to transfers of non-financial assets (e.g., sales of real estate). Therefore, preparers will have to apply the new revenue recognition guidance with respect to i) identifying the contract; ii) transfer of control; and, iii) measurement.
A key determination as to whether a sale of real estate is within the scope of the new guidance is whether the counterparty in the transaction is a customer. Only transfers of assets to a non-customer will be outside the scope of the standard. In these cases, an entity will continue to apply existing deconsolidation guidance. These changes might affect the derecognition or timing of income recognition for certain property transfers.
The Boards expect to finalize re-deliberations in the near term and issue a final standard in the fourth quarter of 2013 with an effective date of Jan. 1, 2017.
FASB Reporting Discontinued Operations Project
On Aug.16, NAREIT submitted a letter with the FASB on the Reporting Discontinued Operations Proposal (the Proposal). NAREIT commended the FASB’s positive response to NAREIT’s request for a revised definition of a discontinued operation. In NAREIT’s view, a discontinued operation should represent a change in the strategic direction of a company. NAREIT offered the following recommended enhancements regarding the Proposal:
- Develop specific and limited disclosure requirements with respect to disposals of equity method investments that focus on the one-line income and investment amounts reported on the income statement and balance sheet; and,
- Permit retrospective application and early adoption of the Proposal.
The Boards expect to commence re-deliberations in the fourth quarter. The Boards have not established an effective date for the Proposal.
FASB/IASB Joint Financial Instruments - Credit Impairment Project
On May 31, NAREIT submitted a letter to the FASB in response to the Financial Instruments – Credit Impairment Proposal (the Proposal). While this project was a joint project between the FASB and the IASB, the Boards did not arrive at a converged Proposal. NAREIT’s evaluation and response was focused on the FASB Proposal.
In the letter, NAREIT concurred with the FASB’s goal of developing a financial reporting model that more accurately reflects the timing and degree to which companies sustain credit losses on financial assets. However, with respect to the FASB’s proposed current expected credit loss model (CECL), we believe that there were a number of areas that need improvement for the model to become operational for preparers and understandable for users, regulators and auditors alike. Therefore, NAREIT proposed the following enhancements with regard to the CECL model:
- Allow the credit loss allowance to be based on management’s “best estimate” of expected credit losses – so, for example, an investor in an AA-rated bond or U.S. Treasury bond or Agency security would expect a best estimate of zero;
- Clarify that the time horizon for the CECL model is based on the expected life (as opposed to the contractual life) of the financial asset;
- Allow preparers to reverse previously recorded credit losses and require preparers to adjust the effective yield over the remaining life of the financial instrument to the extent that the expected cash flows exceed the originally anticipated amount;
- Exclude trade receivables and lease receivables from the scope of the Proposal; and,
- Ensure that interim disclosures are not a mere repeat of the annual disclosures unless there is a material change.
The Boards commenced re-deliberations of the Proposals in the third quarter of 2013. The Boards have not established an effective date for the respective Proposals.
FASB/IASB Joint Financial Instruments - Recognition and Measurement Project
On May 15, NAREIT submitted a letter to the FASB in response to the Financial Instruments – Recognition and Measurement Proposal (the Proposal). In the letter, NAREIT recommended that the FASB continue to provide companies with the ability to recognize and measure financial assets and financial liabilities based on a business model assessment. NAREIT commended the Board for working with the IASB in developing a mixed attribute model for the recognition and measurement of financial assets. This model would allow financial assets to be reported, based on the company’s business model, as one of the following:
- Amortized cost;
- Fair value with changes in value reported in other comprehensive income; and,
- Fair value with changes in value reported in net income.
Financial liabilities would be reported at amortized cost or at fair value with changes in value reported through net income based on the company’s business model. In NAREIT’s view, a mixed attribute model would be consistent with the business models of companies that own and operate real estate, as well as companies that finance transactions involving real estate.
While NAREIT supported the FASB’s mixed attribute model, NAREIT recommends the following enhancements to the Proposal:
- Synchronize embedded derivatives guidance for financial assets with financial liabilities;
- Eliminate the restrictive nature of the criteria to classify financial instruments at amortized cost (For example, many financial instruments that include derivative elements and that are held for the collection of cash flows that are currently measured at amortized cost would be precluded from such classification under the Proposal);
- Converge the Proposal’s impairment guidance with the FASB and IASB respective Credit Impairment models in allowing for the reversal of previously recorded impairment charges;
- Clearly articulate the threshold for sales and the consequence of selling financial assets that are classified in the amortized cost category;
- Include fair value disclosures for financial instruments measured at amortized cost in the notes to the financial statements rather than on the face of the balance sheet; and,
- Ensure that interim disclosures are not a mere repeat of the annual disclosures unless there is a material change.
The Boards commenced re-deliberations of the Proposal in the third quarter of 2013, and intend on issuing a final standard in the first half of 2014. The Boards have not established an effective date for the Proposal.
FASB/IASB Insurance Project
On June 27, the FASB issued its Insurance Proposal (the Proposal) for public comment. The Proposal, if finalized, would represent a major change in the way that insurance contracts are recognized, measured and reported. The Proposal could impact both equity and mortgage REITs due to the Proposal’s change in scope. Some common transactions that may be impacted by the Proposal include:
- REITs with captive insurance subsidiaries
- Indemnities in sale contracts
- Seller support of operations
- Loan “reps and warranties” in securitizations
If you are interested in participating in NAREIT's task force that will evaluate the Proposal and consider whether NAREIT should submit a comment letter, please contact Christopher Drula at email@example.com by Oct. 4. Comments are due to the FASB by Oct. 25.
While this project was a joint project between the FASB and the IASB, the Boards did not arrive at a converged Proposal. The FASB Proposal will be the focus of NAREIT’s evaluation.
The scope of the Proposal would be a major change from existing U.S. GAAP. Under current GAAP, insurance accounting applies to insurance companies only; the Proposal would apply at the insurance contract level. Therefore, there could be situations when a REIT may have to apply the Proposal.
The issuer in an insurance contract would be required to recognize an insurance contract liability when the insurance contract is originated. The liability would be measured based on a “current value” discounted cash flow model, with assumptions updated each period with discounting based on a liability rate, rather than an investment or pricing rate. Any excess of expected premiums over expected claims and expenses would be deferred as "margin" and amortized into income over future periods. The issuer would recognize expected losses on the insurance contract immediately. In an effort to address the volatility in net income from currently measuring the insurance contracts, changes in the liability’s value due to interest rates volatility would be recognized in other comprehensive income.
A modified approach would apply for short-duration contracts (e.g.
, property and casualty insurance contracts) meeting specified criteria. The Proposal would require discounting of incurred losses with limited exceptions.
In addition, the Proposal would result it changes to the earnings pattern of underwriting and net investment margins and changes in the pattern and amount of revenue. Further, the Proposal may create increased income statement volatility due to the requirement to update assumptions each period.
The Board plans to commence re-deliberations in 2014, and intends to issue a final standard in 2015. The Board has not established an effective date for the Proposal.
FASB Clarifying the Definition of a Business Project (formerly Application of Asset- or Entity-Based Guidance to Non-financial Assets held in an Entity)
On May 29, the FASB added a project to its agenda to clarify the definition of a business with the objective of addressing whether transactions involving in-substance non-financial assets (e.g., real estate) should be accounted for as acquisitions (or disposals) of nonfinancial assets or as acquisitions (or disposals) of businesses. The project will include clarifying the guidance for partial sales or transfers and the corresponding acquisition of partial interests in a nonfinancial asset or assets.
The project objective is to clarify the definition of a business in order to address whether transactions involving in-substance nonfinancial assets should be accounted for as acquisitions (or disposals) of nonfinancial assets or as acquisitions (or disposals) of businesses. Additionally, the project will include clarifying the guidance for partial sales or transfers and the corresponding acquisition of partial interests in a nonfinancial asset or assets.
The Board plans to commence deliberations on the project in the near term. The Board has not published an expected date for issuance of an exposure draft.
FASB Proposed 2014 U.S. GAAP Financial Reporting Taxonomy
On Aug. 30, the FASB issued the proposed 2014 U.S. GAAP Financial Reporting Taxonomy for public review and comment. The proposed 2014 U.S. GAAP Financial Reporting Taxonomy contains updates for newly issued accounting standards and other recommended improvements to the official taxonomy, which is used by public issuers registered with the SEC.
If you are interested in participating in NAREIT's task force that will evaluate the Proposal and consider whether NAREIT should submit a comment letter, please contact Christopher Drula at firstname.lastname@example.org by Oct. 4. Comments are due to the FASB by Oct. 31.
The FASB expects to finalize the 2014 U.S. GAAP Financial Reporting Taxonomy in early 2014. The proposed 2014 U.S. GAAP taxonomy and instructions on how to submit comments are available at the FASB’s XBRL page. The deadline to submit written comments is Oct. 31.
PCAOB Proposal on Proposed Auditing Standards on the Auditor's Report and the Auditor's Responsibilities Regarding Other Information and Related Amendments
On Aug. 13, the Public Company Accounting Oversight Board (PCAOB) issued a proposed auditing standard (the Proposed Standard) and related amendments (the Proposed Related Amendments) (collectively, the Proposed Standards) to enhance the auditor's reporting model. The Proposal would impact all NAREIT members due to the fundamental change in the audit report and auditor responsibilities with respect to “other information” included in company filings. If you are interested in participating in NAREIT's task force that will evaluate the Proposed Standards and consider whether NAREIT should submit a comment letter, please contact Christopher Drula at email@example.com by Oct. 15. Comments are due to the PCAOB by Dec. 11.
The Proposed Standard would retain the pass/fail model, whether the company received an unqualified or qualified opinion, in the existing auditor's report, but would provide additional information to investors and other financial statement users about the audit and the auditor.
The Proposed Standard would require:
- The communication of critical audit matters as determined by the auditor;
- The addition of new elements to the auditor's report related to auditor independence, auditor tenure, and the auditor's responsibilities for, and the results of, the auditor's evaluation of other information outside the financial statements; and,
- Enhancements to existing language in the auditor's report related to the auditor's responsibilities for fraud and notes to the financial statements.
The Proposed Related Amendments describe the scope of "other information" and procedures the auditor is required to perform, including procedures when the auditor identifies a material inconsistency between the other information and the audited financial statements, a material misstatement of fact, or both.
The scope of "other information" in an annual report filed on Form 10-K would include, among other items, selected financial data and management's discussion and analysis.
The Proposed Standards would be effective, subject to approval by the SEC, for audits of financial statements for fiscal years beginning on or after Dec. 15, 2015. The PCAOB is considering whether it will hold a public roundtable in 2014 to discuss the Proposed Standards and comments received.
For further information, please contact George Yungmann, NAREIT's SVP, Financial Standards, at firstname.lastname@example.org or Christopher Drula, NAREIT's Vice President, Financial Standards, at email@example.com.
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