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October 4, 2013

BUDGET & TAX POLICY
As Shutdown Continues and Economic Fears Grow, Boehner Pledges to Avert Default

CAPITAL & CREDIT
Small Businesses Largely Unaware of "Tsunami About to Hit Them" in the Form of FASB's Lease Accounting Proposal, Says House Lawmaker; FASB Chair Acknowledges Stakeholder Dissatisfaction With Latest Draft


BUDGET & TAX POLICY

As Shutdown Continues and Economic Fears Grow, Boehner Pledges to Avert Default   

With the Obama Administration stepping up its warnings about the economic fallout from a U.S. debt default — and no end in sight to the partisan impasse behind the now four-day-old government shutdown — business leaders and political observers increasingly expect negotiations over the shutdown to "blend" into more critical negotiations over the debt ceiling, which must be raised by Oct. 17 to avert a U.S. debt default and associated economic damage.

Boehner pointing

House Speaker John Boehner (R-OH) yesterday reportedly told GOP colleagues he would not allow the country to default

House Speaker John Boehner (R-OH) yesterday reportedly told GOP colleagues he would not allow the country to default, even if it meant relying on Democratic votes to pass a debt ceiling extension bill (Bloomberg, Washington Post, Oct. 3).  

His office subsequently denied the reports, saying “The speaker has always been clear that a default would be disastrous for our economy. He’s also been clear that a ‘clean’ debt hike cannot pass the House. That’s why the president and Senate Democrats should drop their ‘no negotiations’ stance, and work with us on a plan to raise the debt limit in a responsible way, with spending cuts and reforms to get our economy moving again and create jobs" (Time magazine, Oct. 3).

As with the past week's legislative volleys over a "continuing resolution" — which failed to avert a government shutdown on Oct. 1 — House Republicans are reportedly planning to attach conditions to debt ceiling extension legislation, which could come up for a vote as soon as next week. Such conditions could include proposals to approve the Keystone XL pipeline, means-testing of Medicare or other entitlement reforms, changes to malpractice law, and principles and an expedited process for passing fundamental tax reform — along the lines of legislation that cleared the House in August 2012.  

 Boehner Pelosi Obama

A White House meeting between Obama and congressional leaders on Wednesday showed no progress.

President Obama has made clear he will not negotiate on a debt ceiling extension, just as he and congressional Democrats have been unwilling to accept anything other than a "clean" CR to re-open the government.

Amid the speculation swirling over Boehner's next moves, Commentary magazine on Oct. 2 wrote that, "even though Obama’s position has never been stronger or the president more confident of victory, Boehner may think he can trade the end of the shutdown for a debt deal that he can sell to his party as at least a partial victory ... holding out for another few days or even a couple of weeks might cause the president to start sweating. And once that happens, a deal over some elements of the budget or some of the secondary issues with ObamaCare, such as elimination of the congressional exemptions or the medical device tax or something that won’t look like Robert E. Lee at Appomattox, is theoretically possible." 

Although financial markets showed surprisingly little reaction once the shutdown took effect on Tuesday, the S&P, Dow and NASDAQ indices all fell yesterday after Treasury Secretary Jacob Lew warned of "catastrophic" consequences for financial markets and the economy if Congress fails to raise the debt limit in time, and if the U.S. begins missing payments on its obligations (MarketWatch.com, Oct. 3).

Among other things, Lew warned that default could lead to a credit market freeze, devaluation of the dollar, and skyrocketing interest rates — potentially resulting in a financial crisis and recession worse than the 2008 financial crisis (UPI.com, Oct. 3). 

Debt Ceiling Potential Effect - Treasury cover

Treasury Department publication: The Potential Macroeconomic Effect of Debt Ceiling Brinkmanship
(.pdf download)

A White House meeting between Obama and congressional leaders on Wednesday showed no progress, with both sides restating their respective positions.

Democrats maintained they would accept only a clean CR — i.e. with no provisions to defund or delay "Obamacare" — and would not agree to a GOP demand for a conference committee "with a gun to our head." They also warned that acceding to GOP demands under such circumstances would undermine presidential authority and set a dangerous precedent.

Boehner reiterated the GOP view that Democrats are to blame for the shutdown, having refused to accept GOP entreaties for a conference or a series of piecemeal bills approved by the House since Tuesday to re-open parts of the federal government. 

Meanwhile, "a group of Republicans uncomfortable with Mr. Boehner's strategy" — reportedly including Reps. Peter King (R-NY), Charlie Dent (R-PA) and Michael Grimm (R-NY) — continues to look for ways to break the stalemate over the shutdown, which include simply allowing the clean Senate CR to be brought up on the House floor.

In a CNN interview earlier this week, Grimm proposed including the upcoming negotiations over the debt ceiling into discussions about ending the shutdown. "Why not deal with it right now?", he said. "Let's get everything done and finished so that there's some certainty in the markets and the American people aren't wondering are we going to go from a shutdown to failing on our credit" (Capital New York, Oct. 2). 

King, who attempted to lead a "moderate revolt" on the House floor Monday night, said the shutdown would do "lasting damage" to the Republican brand and could hurt members in marginal districts in the 2014 congressional elections.

  9_27_2013 image Coaltion Letter Debt Ceiling Congress

coalition of 236 business organizations (including The Real Estate Roundtable) wrote to U.S. lawmakers on Sept. 27, 2013 about the debt ceiling.

Unintended Consequences

As the Wall Street Journal reported Tuesday, one of the unintended consequences of the shutdown is that "key economic scorekeepers — statistical agencies within the Labor and Commerce departments — suspended operations Tuesday because of the shutdown," complicating efforts to gauge the economy's performance or the exact amount of revenue available to Treasury as it nears the Oct. 17 deadline.  

Among the casualties was the Labor Department's employment figures for September — due out today — which "will be important to Federal Reserve officials considering how long to continue their ["QE3"] bond-buying program."

Additionally, small businesses with limited access to capital will be unable to obtain loan guarantees from the U.S. Small Business Administration (which reportedly issued approximately $106 billion in loans to nearly 200,000 small businesses over the past four years), while the National Parks Conservation Association estimates that local communities could lose some $30 million in business for every day of the shutdown.

Given the economic fallout from the shutdown and a potential U.S. default, a coalition of 236 business organizations (including The Real Estate Roundtable) wrote to U.S. lawmakers on Sept. 27 urging them to ensure "uninterrupted funding of the federal government into the next fiscal year" and "expeditious" action to raise the nation’s debt limit.  

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CAPITAL & CREDIT

Small Businesses Largely Unaware of "Tsunami About to Hit Them" in the Form of FASB's Lease Accounting Proposal, Says House Lawmaker; FASB Chair Acknowledges Stakeholder Dissatisfaction With Latest Draft  

As the Financial Accounting Standards Board (FASB) continues to process stakeholder comments regarding FASB's pending lease accounting proposal — including a Sept. 9 letter from The Roundtable and its coalition partners, House Financial Services Committee member Brad Sherman (D-CA) yesterday [Thursday] sent a sharply worded letter to the board, warning of vast economic harm from the proposed accounting changes and urging both field testing and improved outreach, especially to millions of smaller U.S. businesses that are likely unaware of the "tsunami that is about to hit them."

Brad Sherman (D-CA)

House Financial Services Committee member Brad Sherman (D-CA) sent a sharply worded letter to FASB warning of vast economic harm from proposed accounting changes and urging both field testing and improved outreach

According to Congressman Sherman, who is also a CPA, FASB's latest lease accounting proposal would:

distort the economic behavior of lessors and lessees

put millions of smaller U.S. businesses in danger of violating their loan covenants (since most such covenants would be based on GAAP accounting and would likely lack language to accommodate an entirely new type of lease accounting)

add $2 trillion in debt to the balance sheets of U.S. companies' balance sheets, thereby:

    • expanding debt ratios
    • prompting many to try to de-leverage by cutting spending (potentially including cutbacks on payroll and new hiring)
    • raising the cost of capital and, "perhaps, stalling our fragile recovery"

treat real estate leases as a financing (i.e. financed ownership of an interest in real property), thereby encouraging lessees to shift to shorter-term leases, which would:

    • "raise the cost of (or possibly, make unavailable) the construction and permanent financing that lessors must obtain in order to successfully build and lease commercial and industrial real estate"
    • encourage tenants to "avoid real estate renewal options"
    • penalize long-term leases, which would undermine community continuity and impose harmful social costs, e.g., through factory closings and relocations that force families to move in order to follow jobs

"Accounting rules should not have such dramatic effects on economic activity; they are meant to be neutral means of scorekeeping," Sherman asserted in his Oct. 3 letter.

FASB Chair Russell Golden

FASB Chairman Russell Golden on Monday acknowledged the ongoing pushback from stakeholders and indicated that further changes to FASB's May 2013 "exposure draft" are likely. (Watch August 2  video interview with Mr. Golden on Accounting Today TV)

He warned that some "99% of lessees are oblivious to the impacts this rule will have," due to FASB's "limited outreach to ordinary America," and by its "restricted approach to who may address even the minority of board members who are hearing public testimony." He continued, "It's almost as if the Board wishes to remain oblivious to the implementation cost, practicality, consistency of results, negative impacts and unintended consequences of this ill-conceived change."

Sherman concluded by saying, "It is time to field test. It is time to have outreach."

Meanwhile, FASB Chairman Russell Golden on Monday acknowledged the ongoing pushback from stakeholders and indicated that further changes to FASB's May 2013 "exposure draft" are likely.

At a meeting with the Private Company Council (PCC), which advises FASB on the appropriate treatment for private companies on policy issues under the board's active consideration, Golden said, "We put out an exposure draft, there has been disagreement, mixed views between preparers, auditors and users. It's clear we're going to have to change something—and we should change something" (BNA/Bloomberg, Oct. 2).

In their Sept. 9 letter to FASB, The Roundtable and its coalition partners said the boards’ latest proposal to overhaul lease accounting standards remains flawed, despite efforts to address stakeholder concerns over the past three years.

FASB's original lease accounting proposal — released in Aug. 2010 — would have eliminated off-balance-sheet treatment for operating leases for both property lessors and lessees. After an outpouring of concern from stakeholders, the boards in late 2012 agreed to exempt at least some commercial property owners from the new requirements, while still requiring tenants (lessees) to capitalize real estate leases on their balance sheets.

  09_09_13 image RER and ELFA Lease Proposal Comment Letter

FASB's pending lease accounting proposal is addressed in a Sept. 9 letter from The Roundtable and its coalition partners

The board's latest exposure draft from May [see Roundtable Weekly, May 24] proposes a "dual-track” approach for lessee and lessor accounting. 

For capitalized "Type A" operating leases (e.g., equipment, aircraft, cars ), cost recognition will be more front-loaded (i.e. higher in the early years of a lease and lower in later years), and there will be both cost amortization and interest expenses.

Most real estate leases will be classified as "Type B" leases, requiring straight-line cost recognition (spread evenly throughout the lease term). Despite the shift to straight-line basis for real estate lessees and lessors, The Roundtable remains concerned about the potential impact of the new lessee requirement on tenant behavior.

At the PCC meeting with FASB on Monday, PCC member Neville Grusd (Merchant Financial Corp.) said the requirement to include real estate operating leases “for people who rent offices or warehouses is going to hit every single company, and in my opinion, this is going to incur cost and confusion and I'm strongly recommending that if we're going to do any good to complete our mission for helping private companies, this is it.”

“We can stop this right at the beginning," he continued, "because as the user of statements of private companies, I certainly don't need the capitalization of the asset, the right of use and putting liabilities on the balance sheet—the footnote that we have right now has been fine—and gives us all of the information we need,” Grusd said, echoing a point made by Congressman Sherman in his letter to FASB.

The Roundtable met recently with members of the International Accounting Standards Board (IASB) and the Securities and Exchange Commission’s (SEC) chief accountant to raise concerns about the economic consequences of the latest lease accounting exposure draft on real estate.

FASB would like to finalize a rule by next year, although any such rule would likely not take effect until 2017. 

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For questions about content/editorial matters, please contact The Roundtable's Xenia Jowyk at xjowyk@rer.org or (202) 639-8400. For layout or email delivery issues, contact RER's Scott Sherwood at rweekly@rer.org or (202) 639-8400.

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