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Ethical Issues in Financial Reporting: Is Intentional Structuring of Lease Contracts to Avoid Capitalization Unethical?

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Abstract

Under present accounting rules, lessees frequently structure contracts for leased assets, in situations where they enjoy benefits similar to outright ownership, in a way that keeps both the leased assets and related liabilities off their books. This method of accounting creates off-balance sheet financing and is called operating lease accounting. The paper debates the ethicality of intentionally structuring lease contracts to avoid disclosing leased asset and liability amounts and describes the “slippery slope” of rule-based accounting for synthetic leases and special purpose entities, that, in the author’s opinion, led to the accounting debacles at Enron and other companies. The ethical intent that is implicit in the Securities and Exchange Commission and Financial Accounting Standards Board regulations is discussed and suggestions for improving the ethicality of financial reporting are provided.

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Acknowledgments

Comments provided by Robert Audi, James Fuehrmeyer, Eugene A. Imhoff, Steven E. Kaplan, Fred Mittelstaedt, Patrick E. Murphy, Thomas F. Schaefer, Ann Tenbrunsel and participants in the University of Notre Dame Institute for Ethical Business Worldwide 2006 Conference on Ethical Dimensions In Business are greatly appreciated.

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Authors and Affiliations

  1. Vincent and Rose Lizzadro Professor of Accounting, University of Notre Dame, 305B Mendoza College of Business, Notre Dame, IN, 46556, U.S.A.

    Thomas J. Frecka

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  1. Thomas J. Frecka
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Correspondence to Thomas J. Frecka.

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Thomas J. Frecka is the Vincent and Rose Lizzadro Professor of Accountancy at the University of Notre Dame. He teaches financial reporting and accounting fraud courses.

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Frecka, T.J. Ethical Issues in Financial Reporting: Is Intentional Structuring of Lease Contracts to Avoid Capitalization Unethical?. J Bus Ethics 80, 45–59 (2008). https://doi.org/10.1007/s10551-007-9436-y

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