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«Global Network for Japanese practices Hotline Autumn 2010 No 61 - English version – 入国管理制限と雇用法の課題 Immigration quotas and ...»

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Global Network for Japanese practices


Autumn 2010 No 61

- English version –


Immigration quotas and employment law issues


Government plans to abolish default retirement age

収益の認識に関する IASB および FASB による公開草案の発表

IASB and FASB release revenue recognition exposure draft


The future of leasing in the UK

プライスウォーターハウスクーパース グローバル・ネットワーク-ジャパニーズ・プラクティス PricewaterhouseCoopers - Global Network for Japanese Practices  Editorial comments After living in Birmingham for 2 years I have realized that the temperature here is always 1 or 2 degrees lower than London although it is not far away at all. Looking around the trees you would find they are almost like a broom standing in the city centre trying to remind you that the late autumn had already been there and whirled away the leaves. Meanwhile in London most of the giant woods are still showing green, gold and red as a beautiful colourful painting outside of the window. In Japan we call autumn as a season full of desire of gourmet. Are you enjoying it?

Onsei Iwasaki I wish the world was really as peaceful as it appears. However I am afraid in Indirect Tax Manager this winter not everybody can afford to have a quiet Christmas. As you may know, the Government's Comprehensive Spending Review was announced on 20 October 2010. Overall, HMRC needs to deliver resource savings of 15% and efficiency savings of 25%. However, across the next 12-18 months, HMRC is investing £900m to "address the tax gap" and "tackle tax avoidance and evasion" with the aim of raising an additional £7 billion per year in tax revenues by 2014-15. There is a focus on large businesses and further gearing of resource towards risk. There is also a focus on tackling alcohol and tobacco fraud, and increased levels of checks on registrations and repayments. So, at this moment, what do we need to prepare? In PwC we gathered many experts from different parts of our business to summarize a list for the next steps. I don't mind shareing it with you here.

First of all

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Immigration quotas and employment law issues On 19 July 2010, the government introduced The interim quota was introduced as a precursor to a permanent quota due to an interim quota system come into force next spring. The interim quota not only limits the number of which limits the number of Tier 2 (General) new overseas hires a company can sponsor under Tier 2 (General), but also Certificates of affects the number of Tier 2 (General) extensions it will be able to issue for its Sponsorship ('CoS') an current workforce. Unsurprisingly, many employers now find themselves in employer can issue the position of needing to issue more Tier 2 (General) CoS than their interim under its sponsorship quota allows. The financial services sector is particularly impacted by this new licence. interim quota.

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The future of leasing in the UK The IASB and the FASB (‘the Boards’) plan to require all This note outlines the proposed changes and the key areas that are likely to leases to be reported be affected. PwC’s Asset Finance & Leasing Group has developed a on balance sheet. The programme using leasing specialists from accounting, IT, tax, lease modelling, impact on lessee corporate finance, consulting, regulatory capital and legal to review and financial reporting, assess the implications of the proposed changes for businesses.

asset financing, IT, systems and controls could be substantial.

What would the change mean for companies that lease assets?

 All leases would be affected, including leases of real estate, ‘big ticket’ equipment such as aircraft, medium ticket’ equipment such as cars and commercial vehicles, and ‘small ticket’ equipment such as office equipment.

 Balance sheets would grow, leverage ratios would increase and capital ratios would decrease. There would be a change to both expense character (rent replaced with depreciation/amortisation and interest expense) and recognition pattern (significant acceleration of total expense recognition relative to recognition pattern under current rules). Performance measures such as EBIT and EBITDA would therefore change.

 Lease obligations would require ongoing re-measurement. Significant changes to internal controls and accounting/information systems would be likely to be necessary.

 The start date of the standard is yet to be determined. However, the wide-ranging and potentially significant implications of the planned changes will require many businesses to review, assess and adapt asset financing arrangements and IT systems as soon as possible.

 ‘Lease-buy’ decisions may be affected.

Background Leasing is an important and widely used source of financing. It enables entities, from start-ups to multinationals, to acquire the right to use property, plant and equipment without making large initial cash outlays.

Entities currently account for leases as either operating leases or finance leases. Lease classification is based on complex rules. Where a lease is accounted for as an operating lease, neither the leased asset nor the obligation to pay for it are recorded on the balance sheet. Rather, rent expense is recorded on a straight-line basis throughout the lease term.

The IASB and FASB have been working to create a single, global leasing standard as part of their global convergence process, and building on previous work contained in the 1999/2000 discussion paper G4+1 Special Report: Leases: Implementation of a New Approach. They issued a joint discussion paper in March 2009 and expect to release an exposure draft in mid-2010, followed by a final standard around a year later, in mid-2011.

The proposed model The key elements of the proposed lease accounting model and its effect on

lessee financial statements are as follows:

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The proposed model will change both balance sheet and income statement presentation. Leverage and capital ratios may suffer from the gross-up of balance sheets. Rent expense will be replaced by depreciation and interest expense. In addition, the expense recognition pattern may change significantly. This will negatively impact some performance measures − such as interest cover – but improve others − such as EBIT or EBITDA − with no change in the underlying cash flows or business activity. In addition, continuous re-measurement will increase the volatility of key ratios.

Timely assessment of the proposals’ impact on covenants and financing agreements will enable management to start discussions with banks, rating agencies and other users of the entity’s financial data. Entities anticipating capital market transactions should consider the effects on their leverage ratios.

Agreements based on (entity-specific) key performance indicators will require reassessment and potentially adjustment (for example, remuneration agreements).

IT and lease accounting systems

IT and lease accounting systems in the marketplace are based on the existing risks and rewards concept; they will need to be modified to the proposed right-of-use concept. Obviously, systems designed to meet the needs of this potential new pronouncement have not yet been created and must be developed. Lessees will have to account for and manage lease agreements differently (including existing operating lease agreements). They may need to implement contract management systems for lease agreements and integrate these with existing accounting systems. Lessees will need to identify and implement IT and accounting solutions that meet their future needs.

Lessees may expect lessors to provide them with the necessary information to comply with the proposed standard. However, lessors may not have, or may be unwilling to provide, data required by lessees. Lessees will need to capture such information themselves and may therefore need to modify their systems.

Timely assessment and management of the impact on IT and lease accounting systems will help reduce business and reporting risks.

Internal controls and processes Many entities in the past have not needed robust processes and controls for leases. In addition to eliminating operating lease accounting, existing lessee accounting models (absent a modification or exercise of an extension) did not require leases to be periodically revisited. The proposal that leases should be re-measured (for example, for changes in expected lease term) will require entities to (re)design processes and controls to ensure proper management and accounting of all lease agreements.

Initial recording on balance sheet and annual reassessment of lease terms and payment estimates may require significant and complex changes to existing processes and internal controls, including support for significant management assumptions. Monitoring and evaluating the estimates and updating the balances may also require more resources than current accounting.

Timely assessment and management of the impact on processes, controls and resource requirements will help control your business and reduce reporting risks.

Information gathering The proposed model does not currently include grandfathering for existing leases. Management will need to catalogue existing leases and gather data about lease term, renewal options and payments to measure the amounts to be included on balance sheet. Gathering and analysing the information could take considerable time and effort, depending on the number of leases, the inception dates and the records available. Beginning the process early would ensure that implementation of a future standard is orderly and well controlled, and that data on new leases written before implementation of the changes is captured from the outset. In addition, it may allow entities to consider potential adoption strategies or to renegotiate agreements in order to reduce the impact of adoption.

Financial reporting The financial statements will require restatement for the effect of the changes.

The effects of the proposed lease accounting model should be clearly communicated to analysts and other stakeholders in advance.

Ongoing accounting for leases may require incremental effort and resources as a result of an increase in the volume of leases recognised on balance sheet; there is also likely to be a need for regular reassessment of the lease term, contingent rentals, residual value guarantees or the impact of purchase options.

The impact of change will not be restricted to external reporting; internal reporting information, including financial budgets and forecasts, will also be affected.

Tax impact Whether a lease is treated for UK tax purposes as a rental agreement or a financing depends, inter alia, on whether the lease is a finance lease for accounting purposes. UK tax law will need to change as a consequence of the planned accounting changes.

The proposed lease accounting model will have a broad impact on the tax treatment of leasing transactions, to the extent that the tax treatment of leases is based on accounting principles. Multinational groups will also need to consider the tax implications of the planned changes in each jurisdiction, as the taxation of leases varies by jurisdiction.

Items that may be impacted include the entitlement to capital allowances (that is, tax depreciation), income recognition, the impact on tax relief for corporate borrowing (for example, thin capitalisation rules), existing transfer pricing agreements, sales/indirect taxes and existing leasing tax structures (in territory and cross border). A reassessment of existing and proposed leasing structures should be performed to ensure compliance with tax law and to assess whether the changes cause any adverse tax implications.

Existing tax-variable leases will need to be reviewed to ensure that the proposed changes do not cause rental payments under the lease to change.

Timely assessment and management of the potential tax impact will help minimise any unexpected tax exposures where these would therwise arise from the accounting changes.

Regulatory capital Lessors and lessees that are regulated banks and investment firms will need to look again at the regulatory capital implications of the proposed requirements. The situation is uncertain, as the regulators have had many issues on their minds in the last year, and have not come out with anything specific on the implications of the new lease accounting regime on regulatory capital.

For the lessors, the impact of the changes could be limited, as the existing capital treatment (set by the Basel Committee of global banking supervisors) is independent of the accounting treatment. However, the possibility remains that a bank’s regulator will require more capital if the new approach leads to two assets (the lease receivable and the asset itself) being recognised on balance sheet. This seems unlikely at present, if only on common sense grounds, but it is an area to be watched closely, as it could have a fundamental impact on lessors’ business models.

For lessees that are banks or investment firms, the position could be more complex: the new accounting approach increases balance sheet assets, increasing the likelihood that the regulators will require capital to be set aside to cover the new assets. Such an approach could push lessees away from leasing (for example, sale and leaseback of assets) as a solution to capital problems.

At the same time as the new accounting approach is developed and implemented, the regulators are putting together ‘Basel 3’, the new global regime of regulation to reflect the lessons of the last two years. This could impact the capital treatment of leases in some cases, but that is not the main focus; other factors will arise as well. In particular, the regulators are likely to introduce a leverage ratio’ that limits the gross size of a bank’s balance sheet total as a multiple of capital. An on balance sheet treatment for leases could increase some banks’ balance sheets (particularly lessees) and trigger bankwide leverage ratio concerns.

Questions and answers Q: Is it possible that management will need to develop an entirely new system to track leases?

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