July 20, 2018
By Ed Wlodarczyk and David Clark
Commercial leasing brokers and property mangers, both for landlords and tenants starting in 2019, have an added complexity in defining and solving their client’s basic space lease requirements. The new FASB 842 Lease Accounting Rule will directly impact the tenant’s balance sheet and finances in many, as yet unanticipated, ways.
The financial impacts will require new relationships with both a company’s real estate and financial staffs. Negotiations with landlords will require more details and definitions for both leasing and financial purposes. To be competitive, the landlord’s broker should know the potential legal and financing structures which are feasible for their clients as part of marketing.
Strategies to consider may be a series of one year leases, the detailed identification between direct payment for actual use of space; “rent” and all “expenses,” and the detailed description of who controls the use of the occupancy of the space. In addition, for larger space for good credit tenants, brokers may need to determine if the decades old, dormant lease/financing structure of a synthetic lease is best, versus purchasing the property.
Synthetic leases were popular prior to 2004. Used by companies that were growing quickly; synthetic leases are an income tax advantaged, low capital cost method to acquire large blocks of needed, finished space for growth. The financing and the tax advantages were more than sufficient to offset the complexity and additional costs of creating the synthetic lease.
Historically, the synthetic lease had limited impact on the tenant’s balance sheet, credit rating or ability to finance corporate operations. Banks, developers, investors and tenants all benefited either by more fees, secured lending or lower rent payments. Rent payments over the term were lower as a result of minimal amortization and options to extend, purchase or pay a termination fee based on the unpaid amortization by rent.
With FASB 842, a synthetic lease will be on the tenant’s balance sheet. However, the financing and tax advantages for the tenant and the landlord should remain unchanged. In particular, extensive tenant improvements and other working capital requirements that could not be financed using the required term of a traditional lease structure, may be possible with the synthetic lease structure. The tenant should be able to depreciate those capital costs.
The tenant’s borrowing rate, frequently better than a single purpose landlord, will be applicable. Another significant advantage to lower rent. With proper use of accounting and financial professionals; tax, financing and purchase advantages may make a synthetic lease the best alternative for leasing brokers to consider, to minimize the impact of the new FASB 842 for a tenant.
For comments, questions or concerns, please contact Dennis Kaiser
Neither author is an attorney, accountant or other registered or licensed financial professional. Prior to consideration of any financial transaction, appropriate professionals should be consulted extensively.