FASB Makes Tentative Decisions on Land Easements and Authorizes Drafting of a Proposed ASU
At its meeting on August 2, 2017, the FASB continued its discussion of inquiries and feedback on whether land easements are within the scope of the new leases standard (ASU 2016-021) and reached several tentative decisions that will be exposed for public comment. Since the Board’s discussion during its May 2017 meeting, which left the issue unresolved, the FASB staff and a subset of Board members held a roundtable discussion with various stakeholders to learn more about the current accounting for land easements and the perceived challenges in applying ASC 842 to these arrangements.
Land Easements Background
Land easements typically provide an entity the right to use, access, or cross another entity’s property for a specified purpose. Common examples of land easements include those used to convey space for telephone and electricity poles and wires, access roads, and oil and natural gas pipelines. Easements often result in joint use of a property by the land owner and the easement holder.
Land easements can have varying forms and terms, and there is significant diversity in practice in the application of existing U.S. GAAP to these arrangements (e.g., accounted for as land, intangible assets, executory costs, or leases). As noted in the meeting handout, land easements “may be either perpetual or term based, provide for exclusive use or nonexclusive use (shared use) of the land, and may be either prepaid or paid over a defined term. Perpetual land easements are those that provide the easement holder with the right to use specified property in perpetuity, usually subject to the condition that the easement holder must continue to use the land for the purpose specified in the contract.” Given the existing diversity in accounting and the wide array of easement terms found in practice, the Board felt it was appropriate to clarify the accounting requirements going forward.
Tentative Decisions Reached
The Board agreed that the staff should move forward with drafting a proposed ASU in September 2017, with a 30-day comment period. The Board tentatively affirmed that the proposed ASU will include (1) clarification that an entity should “first apply [ASC] 842 to determine whether a land easement is or contains a lease”; (2) transition relief through “an optional practical expedient that would permit an entity not to apply [ASC] 842 to land easements that existed before [ASC 842’s] effective date, provided that the entity does not apply [ASC] 840 to those existing land easements”; and (3) a technical correction to Example 10 within ASC 350-30-55 to clarify that before applying the guidance in ASC 350, entities with land easements (regardless of whether they have perpetual or fixed terms) should first apply ASC 842 when determining whether the land easement is or contains a lease.
One Board member expressed the expectation that only a narrow subset of land easements would meet the definition of a lease under ASC 842 (i.e., land easements that are (1) term based (vs. perpetual), (2) provide exclusive use of the land to the customer, and (3) are paid for over time (vs. prepaid)). While we generally agree that many easements will not be leases under ASC 842, this expectation should not be considered a blanket conclusion, and each land easement’s facts and circumstance should be carefully evaluated on whether it meets the definition of a lease. In particular, we believe that the payment terms of the arrangement ultimately may not have an impact on the evaluation of whether the arrangement is or contains a lease.
The Board and staff noted that, during transition, an entity should maintain its current accounting policy for land easements until the effective date of ASC 842. This applies to both existing land easements as well as any new land easements that might be entered into between now and a company’s adoption of ASC 842. It was observed during the discussion that any departure from a company’s current accounting policy would be subject to preferability. Further, the technical correction to Example 10 of ASC 350-30-55 is expected to reduce diversity in practice and provide clarity on which model (i.e., ASC 842) should first be applied to land easements.
With respect to the accounting analysis of land easements under ASC 842, we anticipate some challenges, including (1) identifying the unit of account (the entire land parcel subject to the easement vs. the specific subset of that parcel that is ultimately occupied by the easement holder) and (2) assessing the economic benefits retained by the land owner. We do not expect the FASB to issue additional guidance in these areas; however, it was noted during the meeting that the unit of account determination requires judgment and, therefore, may be subject to reasonable diversity in practice.
FASB Accounting Standards Update (ASU) No. 2016-02, Leases (Topic 842). For titles of FASB Accounting Standard Codification (ASC) references, see Deloitte’s "Titles of Topics and Subtopics in the FASB Accounting Standards Codification.”