149 0 obj Thus, differences in the treatment of leases for financial accounting and income tax accounting remain, and implementing Topic 842 may highlight improper historical tax accounting methods. endobj No one should act on such information without appropriate professional advice after a thorough examination of the particular situation. International Accounting Standard 16 Property, Plant and Equipment. Telecommunications entities have been grappling with the accounting for long-term capacity arrangements ever since International Financial Reporting Standards came into widespread use, and a new standard issued in 2016 (IFRS 16) will soon add another layer of complexity. 1228 0 obj DXH 1H2Mfp00120m y? 7 Prior to FIN 43, the assets subject to telecommunications capacity agreements were generally viewed as equipment, and frequently, providers of capacity accounted for these agreements as sales-type leases. 1.263(a)-4 provides that certain internal costs (e.g., employee compensation and overhead) and de minimis costs are not required to be capitalized for tax purposes. 1141 0 obj Signals of different tenants are not intermingled at any time. Similarly, a payment made to the current tenant as an incentive to end the present lease contract would likely be classified as an initial direct cost because this cost was incurred since the new lease contract was signed. An optical converter projects a beam of light down the glass core; the light reflects off the glass cladding as it travels down the fiber strand. It is interesting to note that the conclusions in PLR 202133003 are substantially similar to those in PLR 202132002, with the seemingly minor exception that the taxpayer in PLR 202133003 was organized as a corporation while the taxpayer in PLR 202132002 was organized as a limited liability company. (80,000) 866,215. The tenant under a Wave Lease, however, does not have a right to a specifically identified strand, or wavelength within a strand, in a fiber optic cable, unlike a tenant of an IRU or a Capacity Lease. 467 rental agreements are subject to the Sec. When the interpretation in FIN 43 and the related EITF guidance became effective, many telecommunications capacity sellers concluded that they were unable to meet the title transfer requirement for the assets subject to the IRU and, therefore, were required to account for subsequent capacity sale transactions as operating leases. Read ourprivacy policyto learn more. %PDF-1.5 % This means that the right-of-use asset is an intangible asset. For more information, contact a tax professional with KPMGs Washington National Tax: Stephen Giordano | +1 (202) 533-3535 | stephengiordano@kpmg.com, David W. Lee | +1 (202) 533-4071 | dwlee@kpmg.com. 1205 0 obj When a lessor that provides a tenant improvement allowance to a lessee owns the resulting leasehold improvements, the lessee generally does not recognize the allowance as income or have a depreciable interest in the improvements. )C7Me~?f~( For financial statements to provide the information that investors and other decision-makers require, meaningful and consistent accounting standards and comparable practices are necessary. In addition to different accounting treatment, state property and transactional tax implications may be different. This area of telecom accounting received considerable scrutiny following challenges of "hollow swapping" (transactions lacking commercial substance, but structured to achieve an accounting result). The taxpayer in the ruling also intended in certain circumstances to lease capacity on its fiber optic cable to its TRS. The right-of-use asset pertains to the lessees right to occupy, operate, or hold a leased asset during the rental period. All Rights Reserved. The old lease standard, ASC 840, did not require all kinds of leases to be recorded on the balance sheet, which in turn provided the opportunity for many to use off-balance-sheet financing. 1062 0 obj For example, when a company purports to announce earnings before "unusual or nonrecurring transactions," it should describe the particular transactions and the kind of transactions that are omitted and apply the methodology described when presenting purportedly comparable information about other periods. This new standard is prompting many operators to reconsider, given the guidance the standard provides, whether their capacity arrangements contain leases. Dont get lost in the fog of legislative changes, developing tax issues, and newly evolving tax planning strategies. In addition, under DAS Agreements, as well as under certain IRUs and Capacity Leases, the Tenant generally pays an upfront amount in addition to a recurring amount. Each Agreement requires a fixed, recurring amount to be paid by the Tenant during the term of the Agreement. Adjustments may also be required for lease incentives, payments at or prior to commencement and restoration obligations or similar. endobj Beyond the questions and objectives of IRUs is the treatment of network expansion in the form of . Many of the accounting issues surrounding the accounting for telecommunications capacity contracts are complex, and I have provided only a brief summary of some of the more significant issues. 2018-06-07T11:31:36.000-04:00 This process involves the collision of commercial, accounting and tax requirements in a way that requires a very strong understanding of each in order to be reconciled in a workable agreement. This article discusses the history of the deduction of business meal expenses and the new rules under the TCJA and the regulations and provides a framework for documenting and substantiating the deduction. Recording the lease liability on a companys balance sheet requires you to determine the lease term and lease payment. Furthermore, in our oversight capacity, the SEC staff will continue to monitor developments in the accounting practices of the telecommunications industry, and provide recommendations for issues that need to be addressed by the accounting standards-setting organizations. FASB Accounting Standards Codification Topic 842. , significantly affects financial statement accounting for lessees, eliminating the traditional concept of an operating lease and requiring virtually all leases to be presented on the balance sheet. Under generally accepted accounting principles, an IRU is typically treated as an asset and a dark fiber lease is treated as an expense. A single strand of fiber has two glass components the core and the cladding, which together are about as thin as a typical human hair. 657980 Indefeasible Rights of Use, leased circuits, network purchase or leasing arrangements, the . For capacity contracts that meet the definition of a lease, the next significant accounting consideration is the determination of the appropriate lease classification. The letter ruling included a taxpayers representation that these assets are real property for purposes of the REIT rules and the following description: A fiber optic cable is composed of ultra-thin strands of glass surrounded by layers of insulating materials, including cladding (together, strands). The IRS ruled that, for purposes of the limited rental exception, the property with regard to taxpayers fiber optic cable is the continuously connected fiber optic cable within the geographic boundaries of the applicable area. <> 3 While the Commission has the statutory authority to set accounting principles, for over 60 years it has looked to the private sector for leadership in establishing and improving accounting standards. You can be assured that the SEC staff takes very seriously allegations of financial reporting improprieties by public companies. Consequently, holding all other variables equal, working capital will be lower after adopting Topic 842. The Tenant is required to pay for the contracted usage, regardless of the Tenants actual usage, and Taxpayer ensures that the Tenant has access to its contracted usage during the terms of an Agreement. <> Daily 20-Minute Product Tour at 1:00PM ET. The tenants signal will start at the tenants premises and follow a dedicated fiber optic pathway owned by the taxpayer to equipment (which will be monitored, operated, managed, maintained and repaired by either a TRS or an independent contractor (IK) for an arms length fee) that will direct the tenants signal along one of up to seven dedicated fiber optic pathways owned by the taxpayer. Consequently, lease incentives that were recognized upon initial measurement of the ROU asset subsequently are adjusted through the adjustment to the ROU asset. How to calculate the right-of-use asset under ASC 842 Under ASC 842, initial operating and finance lease ROU assets are calculated using the exact same method. [IFRS 16:24] The interest cost of $55,056 will be taken to the statement of profit or loss as a finance cost. Further, transparency is important to corporate governance because it enables boards of directors to evaluate management's effectiveness and to take early corrective actions, when necessary, to address deterioration in the financial condition of companies. 467 generally applies to lessors and lessees when (1) rental agreements are for the use of tangible property; (2) total rent under the agreement exceeds $250,000; and (3) the rental agreement provides for increasing or decreasing rent, or prepaid or deferred rent, subject to limited exceptions (such as a three-month rent holiday at the beginning of a lease term). The lease liability is equal to the present value of the six payments that are discounted at 9%. Both letter rulings were issued by the IRS to the taxpayers on the same date (February 5, 2021) and in response to ruling requests submitted on the same date (July 30, 2020). The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. An IRU is an agreement by which a telco provides another company (e.g., an Internet service pro-vider (ISP)) with the right to use its telecom network to transmit voice and data traffic. Q: What are some other examples of when the ROU asset might be subsequently adjusted? 65 0 obj <> endobj DAS Agreement: Under a DAS Agreement, the tenant has the exclusive right to use either a designated number of individual strands or a dedicated wavelength within the fiber optic pathway of a DAS installation. A: The answer depends on whether the lease is classified as a finance lease or an operating lease, as follows: Q: How is the ROU asset of an operating lease subsequently measured after an impairment? There are also various factors such as prepayment, initial direct costs, and prepayments that impact the right-of-use cash flow statement. The change is made with a Sec. Furthermore, both taxpayers are indirect subsidiaries of an existing REIT and intended to make an election to be taxed as REITs. The customer pays up front for the IRU and annually for maintenance. The main types of IRU and capacity agreements can be characterised as follows: 1) purchase or sale of specified network infrastructure; 2) purchase or sale of lit fibre capacity; and 3) exchange of network infrastructure or lit fibre capacity. Deputy Chief Accountant, U.S. Securities and Exchange Commission. Public companies may quite appropriately wish to focus investors' attention on critical components of quarterly or annual financial results in order to provide a meaningful comparison to results for the same period of prior years or to emphasize the results of core operations. Sales-type lease accounting reflects in the financial statements of the lessor a sale or financing when substantially all of the benefits and risks incident to the ownership of the leased property have been transferred to the lessee. A: By recognizing operating leases on the balance sheet, an entity will add to the balance sheet a lease liability classified between current and noncurrent, with the corresponding ROU asset classified as a long-term asset. endobj Add the balance of any existing prepaid rent, Add the unamortized balance of initial direct costs, Subtract the balance of any existing accrued rent, Subtract the balance of any lease incentives, Subtract the carrying amount of any liability recognized in accordance with Topic 420 on exit or disposal cost obligations for the lease. Real estate or equipment: The FASB issued Interpretation No. Before the issuance of Topic 842, lessees disclosed operating leases in the footnotes of financial statements. Chairwoman Kelly, Ranking Member Gutierrez and Members of the Subcommittee: I am pleased to appear before you on behalf of the Securities and Exchange Commission ("SEC" or "Commission") to testify concerning several accounting issues affecting the telecommunications industry. There is no federal securities law prohibition preventing public companies from publishing interpretations of their financial results or publishing summaries of GAAP financial statements. Many operators enter into IRU and/or capacity arrangements to minimise the cost of constructing networks and to accelerate the rate of network roll-out. And, if it is a lease, what kind of lease is it - a sales-type lease, for which revenue is recognized up-front, or an operating lease, for which revenue is recognized over time? 2016-02. , which is effective for public companies for fiscal years and interim periods within fiscal years beginning after Dec. 15, 2018 (Dec. 15, 2021, for entities not meeting FASB's definition of a public business entity). application/pdf 1 0 obj endobj The word "indefeasible" means "not capable of being annulled, or voided, or undone". %PDF-1.5 % Entities should evaluate the terms and conditions of significant lease incentives and discuss their approach with individuals responsible for accounting policy decisions and governance, as well as with their accounting advisers or independent accountants, as applicable. In a sale/financing arrangement, the lessee is the tax owner of the leased property and depreciates the property under Secs. We very much appreciate your prompt action and interest in the current issues that impact financial reporting and our capital markets. 1 The information contained in this statement concerning Global Crossing's accounting practices is based upon publicly available information. In contrast, for tax purposes leases are characterized based on all the facts and circumstances existing at the time an agreement is executed. The taxpayer designated areas to facilitate the operation of its continuously connected fiber across the country. endobj The taxpayer will compensate either the TRS or IK with an arms length fee for performing this service. Mechanically, the ROU asset is adjusted each reporting period by a plug to achieve the operating leases straight-line lease cost. The Sale/Lease Restriction may apply to an indefeasible right-of-use (IRU) arrangement that a recipient or subrecipient wishes to convey to another party for the use of BTOP-funded facilities. In addition, the Commission staff has worked closely with the private sector accounting standards-setting organizations to identify issues related to the accounting for telecommunications capacity purchase agreements, and to resolve those issues in a manner that is in the best interests of investors. When the lessee owns the resulting leasehold improvements, the lessee generally recognizes income and has a depreciable interest in the improvements. 1239 0 obj However, entities in this position should assess the accuracy of their lease measurement assumptions, such as the discount rate, identification of lease and nonlease components (if applicable), and allocation of contract consideration between the lease and nonlease components (if applicable). 13, and the related interpretations of this standard, a lease of real estate must transfer title in the leased assets to the lessee in order to be classified and accounted for as a sales-type lease by the lessor. The lease is fully terminated before the expiration of the lease term. Transparency in financial reporting, that is, the extent to which financial information about a company is available and understandable to investors and other market participants, plays a fundamental role in making our markets the most efficient, liquid, and resilient in the world. Recent press articles have raised questions about the transparency of the accounting and disclosure practices followed by Global Crossing. 47 . [115 0 R 119 0 R 120 0 R 121 0 R 122 0 R 125 0 R 128 0 R 131 0 R 132 0 R 133 0 R 134 0 R 135 0 R 136 0 R 137 0 R 138 0 R 139 0 R 140 0 R 141 0 R 142 0 R 144 0 R 145 0 R 146 0 R] No member firm has any authority to obligate or bind KPMG International or any other member firm vis--vis third parties, nor does KPMG International have any such authority to obligate or bind any member firm. 98. Furthermore, the exchange of a productive asset not held for sale for a similar productive asset also is not viewed as the culmination of the earnings process. Starting in 2019, entities will need to apply IFRS 16 accounting requirements for leases. <> endobj of drafting an "Indefeasible Right of Use" (1RU) agreement. 8 Entities that elect to apply the package of transition practical expedients should initially measure the ROU asset as follows: A: Yes, unlike the old lease guidance for capital leases, Topic 842 does not prohibit this scenario. hW[o:+jIl/VHzEHQR$36,tKv$$N Q } $vT,8V8R cSCl R3PAZ 9W-I/1|vt-waZ$;G2jJ,43vhjp6vhM1gd 467 generally applies to lessors and lessees when (1) rental agreements are for the use of tangible property; (2) total rent under the agreement exceeds $250,000; and (3) the rental agreement provides for increasing or decreasing rent, or prepaid or deferred rent, subject to limited exceptions (such as a three-month rent holiday at the beginning of a lease term). Operating leases in the footnotes of financial statements legislative changes, developing tax issues and. 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Present value of the lease is fully terminated before the issuance of Topic 842 leases the! 55,056 will be lower after adopting Topic 842, lessees disclosed operating leases in the of... Property, Plant and Equipment the SEC staff takes very seriously allegations of financial indefeasible right of use accounting treatment REIT and to. That meet the definition of a general nature and is not intended to address the circumstances any... As REITs be required for lease incentives, payments at or prior to commencement and restoration obligations similar! The term of the lease term endobj Beyond the questions and objectives of IRUs is the determination of accounting! The tax owner of the ROU asset is adjusted each reporting period by a to... Estate or Equipment: the FASB issued Interpretation No by Global Crossing, both taxpayers are subsidiaries., or hold a leased asset during the term of the ROU asset subsequently are adjusted through the adjustment the. 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