The interaction of the new rules regarding sale treatment under revenue recognition versus the proposed new lease accounting rules will likely mean that sale leasebacks of equipment in which there is a non-bargain purchase option will not be considered sales or leases. These “failed” sale leasebacks will be accounted for as debt and the “sold” asset will be left on the lessees books. Instead, the asset should be an operating lease asset (at a lower value) and the liability (also at a lower value) should be an “other” non-debt liability. This presentation is what the Leases Project concluded best represents the economic impact of operating leases for lessees. There are a few things in the new revenue recognition rules that may allow certain equipment sale lease backs to continue to get sale treatment but the rules are not clear. One way out is if the lessee is merely an agent in a sale leaseback that occurs at or near delivery and there is no profit element for the lessee. Another way out is if the lessee does not control the physical asset. Another way out is if the lessee only momentarily takes title of the asset subject to the sale leaseback.

The FASB has issued an exposure draft on the issues of determining if a party to a transaction (meaning the lessee in a sale leaseback) is acting as an agent or a principal. You should send them a comment letter to ask them to clarify the sale leaseback questions via guidance that targets the leasing issues and specific examples of common sale leaseback transactions. Your influence counts – use it!

Here is an example of where clarity is needed: if a lessee orders a corporate jet and makes a progress payment, does that lessee control the physical asset? If yes, then a subsequent lease of that asset occurring before the delivery of the asset would be deemed a sale leaseback. I think the lessee has a right to the plane and that right is not a leasable asset. I also think the lessee is acting as an agent of the lessor – the lessee orders the asset and then seeks a lessor willing to lease it under competitive terms. The logistics of the process may cause the form to be a sale leaseback, but in substance it is merely a lease.

Here is another example that needs to be clarified: a lessee and lessor enter into a master lease line of credit. The lessor agrees to fund certain types of assets under the lease. To reduce costs, the lessee funds the small ticket items and once a quarter the lessor does a sale leaseback of all the assets funded by the lessee. In my opinion, the lessee is merely an agent as the lessor is committed to fund the assets under the terms of the master lease. Also, the lessee controls the assets momentarily – but momentarily has to be defined.

My recommendation is that sale leasebacks with non-bargain purchase options are “special sales”. Those that occur at or near delivery and where there is no lessee profit element should be accounted for as operating Leases, not “failed” sale leasebacks. The sale lease backs that have a profit element and/or where the lessee is a principal should still be accounted for as operating leases, but any profit should be deferred and amortized over the lease term. This will result in the balance sheet presentation reflecting the actual “owned” assets and the liabilities will be non-debt liabilities.