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Companies have several financial statements that report various aspects of their business. Among these, the balance sheet presents the assets and liabilities balances that companies own or owe. However, these do not contain all of those assets or liabilities. It is because some of these items may remain off the balance sheet. Off-balance sheet accounting has long been a debate topic for most experts.
What is an Off-Balance Sheet?
Off-balance sheet represents items that do not appear on a company’s balance sheet. It may include both assets and liabilities. However, that does not mean that companies don’t own these. Instead, some accounting standard provisions may disallow these companies from reporting them. In some cases, companies may also use it adversely and structure their assets and liabilities to stay off the balance sheet.
Off-balance sheet accounting, while permissible, can also lead to some problems. For a company’s stakeholders, off-balance-sheet accounting can cause incorrect decision-making. In some cases, assets and liabilities may miss the definition set by the contextual frameworks. Therefore, companies cannot disclose them. However, some companies may deliberately choose to keep items off-balance sheets to mask their financial health.
What are Off-Balance Sheet Assets?
Off-balance sheet assets are resources that companies may remove from their balance sheet. Despite them not appearing on the balance sheet, it does not imply that companies don’t own these assets. Companies may hold these assets, whether tangible or intangible, but not report them on their balance sheet. Some companies may use it to their advantage and remove any assets that may have an adverse effect on their balance sheets.
According to the contextual framework, assets are resources that companies own or control and result in future economic inflows. Any item that does not meet the definition cannot be a part of the balance sheet. There are some items that may not meet this definition. Therefore, it may give rise to off-balance-sheet assets that companies do not report.
As mentioned, however, some companies may use it to benefit or mask their accounts. They may structure their assets, so they don’t meet the definition and stay off their balance sheet. Inherently, off-balance sheet items are not deceptive in nature. However, companies may use them with the wrong intent, making them a problem for their stakeholders.
An example of a company using off-balance-sheet assets is Enron. The company worked on assets and immediately claimed the projected profits from it. If the actual profits were lower than anticipated, it would remove the asset from the balance sheet.
What are the types of Off-Balance Sheet Assets?
There are various types of off-balance sheet assets that companies may keep away from their balance sheet. These include the following.
Accounts Receivables
With accounts receivable balances, companies have the option to outsource their collection using a factoring company. Once they do so, they can remove the accounts receivable balance from their balance sheet. This way, they can outsource their default risk while also keeping the asset off their balance sheet.
Operating leases
Operating leases come with an underlying asset that companies can use. However, their accounting treatment may require companies not to report the leased asset and the associated liability. In that case, companies only report the rent payments while keeping the asset away from the balance sheet.
Conclusion
Off-balance sheet items include any assets or liabilities that do not appear on a company’s balance sheet. Off-balance assets are resources that a company may own but not report on its balance sheet. While the requirement to avoid including them may come to accounting standards, some companies may also use it adversely.
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