BOMA International Urges Industry to Oppose New Commercial Real Estate Lease Accounting Standards

Dec 3, 2010 by

You will recall that we started this thread several months ago (See October 8th Post  or See September 21st Post) regarding proposed changes to commercial and industrial real estate accounting practices.  Well it looks like our friends at BOMA International are taking up the cause.  You can see the BOMA article here.  Again there seems to be major concern over how the “debt component” of a tenant’s  and landlords financials will be effected if the rules come into play.  Any lease longer than a 12 month term will have to include the lease obligations as debt.   Click here for a full copy of the Exposure Draft.  Not being an accountant I cant really comment on the nuances of increased debt on a tenants financial statements.  I do know that debt from a real estate perspective is not necessaryily bad  as long as I have a corresponding asset that goes along with the debt. 

Some are concerned that the rule changes could not come at a worse time regarding the current economic conditions.  “The proposed changes to the lease accounting standard would have a detrimental impact on landlords and tenants, making future lease terms more complicated and costly at a time when commercial real estate is struggling to recover from one of the worst recessions in decades,” said BOMA International Chair Ray H. Mackey, Jr., RPA, CPM, CCIM, partner and chief operating officer, Stream Realty Partners, L.P.

Others anticipate that long term leases may be harder to do and may push some tenants to consder ownership vs leasing.  This will become particularly challenging in design build situations, a segment of the Calgary Industrial real estate market that is presently gaining momentum.  Design building sees developers typically looking for 10 and 15 year leases.   The report cites “Both landlords and tenants holding leases greater than 12 months will be required to apply the standard to their leases, whether they are new or existing Consequently, tenants may no longer want a typical ten-year lease with a five-year extension option due to the debt that will need to be recorded on their balance sheets. Tenants will also find it more difficult to negotiate tenant improvements.”

I still propose the biggest concern will be how the lending community views these changes to the financial statements of the tenants and landlords.  If they continue to look at traditional definitions of “debt service coverage ratios”  as a financial covenant to be maintained when determining lending then there will be significant problems for some industrial real estate users and landlords. 

We recommend strongly that you consult with your accountant to determine the specific affects on your company.

Some other resources on the changes are noted below.

Jones Lang Lasalle – How will the changes in Lease Accounting Affect You?

McGladrey – Changes to Lease Accounting Standards