In February 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standard Update (ASU) 2016-02, Leases (Topic 842). This standard requires lessees to recognize a liability and a right-of-use asset for all leases. When calculating a lease liability, there are several factors that must be considered.
One of these is variable lease payments. A variable lease payment is a payment made by a lessee that varies because of a change in factors or circumstances occurring subsequent to the commencement date of the lease (other than the passage of time).
Generally, variable rent payments are excluded from the calculation of the lease liability and right-of-use asset; however, those which are dependent on an index or rate shall be included. Examples of variable lease payments that depend on an index or rate include those dependent upon a consumer price index, benchmark interest rates, or changes in market rental rates.
When initially calculating the right-of-use asset and lease liability, an organization should measure the variable lease payment using the index or rate at the commencement date. No changes would be assumed for the initial calculation. Subsequently, any change to the rate should be treated as a contingent rent. The lessee would not remeasure the lease payments, but instead, the change would be a period cost in the period in which it was incurred. Conversely, when a lessee remeasures the lease payments for another reason, such as when another lease modification is being made, the variable lease payments will need to be remeasured.
Other variable lease payments that should not be considered in the initial calculation include payments based on the lessee’s performance or usage derived from the underlying asset. One example of this includes a retail organization paying a percentage of sales for the rental of space within a mall. Another example includes paying an additional amount if a lease of a vehicle exceeds a specified mileage. These costs are instead recognized as an expense in the period in which the event triggering the additional payment occurs.
When considering variable lease payments, it will not be sufficient to simply capture the fact that the obligation exists. As we have noted, the different structures have differing treatments for accounting purposes. Disclosures will include an additional level of complication because you will need to ensure that preparers of the financial statements have the appropriate information available to easily compile and report the differing lease structures.
Organizations need to find a suitable solution for calculating the FASB ASC Topic 842 right-of-use assets and lease liabilities at the transition date and the subsequent lease accounting. Generally, an Excel-based solution would be appropriate for a noncomplex portfolio of 10 or fewer leases. If the lease profile is more complex or greater than 10 individual leases, management is better served by a lease software solution, such as simpLEASE. In addition to offering our clients simpLEASE, Schneider Downs provides advisory services for the technical aspects of lease accounting. For more information concerning lease accounting and the impact on your organization, please visit the Schneider Downs Our Thoughts On blog or email us at [email protected].
