Philadelphia Real Estate Attorney Fredrick Masters Discusses Proposed Accounting Changes and Their Expected Impact On Tenant Leasing

An article written by Fredrick H. Masters — a shareholder in the Real Estate Section of Buchanan Ingersoll & Rooney's Philadelphia office — was published in the May 2010 edition of the Mann Report.

In the article, titled "Proposed Accounting Changes With Major Impact On Tenant Leasing," Masters discussed how the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) are "working jointly to revise the rules governing the ways in which leases are treated for accounting purposes." Masters explained how "[i]n March of 2009, they issued a preliminary 'Discussion Paper' addressing the same and asking for public comments. The comment period ended on July 17, 2009. According to the FASB website, the Boards plan to publish an Exposure Draft of the rules sometime in 2010."

Masters goes on to explain how "the proposed rules would require operating leases to be treated and accounted for as assets and liabilities on financial statements, in contrast to the current rules under which there is a distinction between capital leases, which are accounted for on a company's balance sheet, and operating leases, which are 'off-balance sheet' items."

"While such a change may be a couple of years away," Masters explained, "the impact of the same will be significant and should be considered today in negotiating loan covenants, since the new rules will affect leases in effect at the time of implementation. While the new rules will affect lessors and lessees, the major impact will most likely be to lessees. Retailers, commercial banks (due to extensive branch operations), chain restaurants and multi-jurisdictional professional service providers, to name only a few, are all industries which will be affected by the proposed changes."

Maters discussed the rules proposed by the FASB and IASB and how they will have a "significant impact on many companies' debt-to-equity ratios, perhaps causing loan covenants to be broken and causing defaults, higher interest rates, loan pay-downs or stricter lending requirements." He concludes, advising that, "Since it is anticipated that the new rules will impact exiting leases, companies should consider discussing the proposed new rules and their anticipated impact with their existing lenders now (especially if they have long term financing agreements) and definitely as they negotiate renewals, extensions or new financings. Lessees should seek to have all financial covenants contain a 'carve-out' for the impact of any changes in the accounting treatments of their leases."

At the conclusion of the article, Masters thanks fellow Buchanan attorneys Joan L. Rood and Laura C. Kinney for their assistance with the article.