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Accounting for leases

income on a straight-line basis over the lease term (unless another systematic and rational basis is
more representative of the pattern in which benefit is expected to be derived from the use of the
underlying asset). The difference between the cash received and the straight-line lease income
recognized is recorded as rent receivable. If cash flows are higher than the lease income, deferred rent
is recorded on the balance sheet.

Example 4-15 illustrates the application of this guidance.

EXAMPLE 4-15

Lessor operating lease subsequent measurement and recognition – automobile lease

This example is a continuation of Example 4-10.

This lease is classified as an operating lease as none of the criteria for sales-type or direct financing
lease treatment have been met. As this is an operating lease, Lessor Corp does not record a net
investment, retains the automobile in property, plant, and equipment on its balance sheet, and
continues to depreciate the asset.

How would Lessor Corp account for the leasing transaction after lease commencement?

Analysis

Lessor Corp would likely determine that the most appropriate income recognition pattern is straight-
line over the economic useful life of the asset (as no other systematic and rational basis is more
representative of the pattern in which benefit is expected to be derived from the use of the underlying
asset). As such, Lessor Corp would calculate the straight-line rental income per period by dividing the
total rent payments to be made over the lease term by the total number of periods. In this example, the
straight-line income Lessor Corp would record is $550 per month calculated as follows.

Monthly rent Annual total

Year 1 $500 $6,000

Year 2 550 6,600

Year 3 600 7,200

$19,800

Number of periods 36

Straight-line rent per period $550

Lessor Corp would record the excess between the $550 monthly rental income and the actual rental
payments required by the lease agreement in year one as deferred rent receivable on the balance sheet.
Subsequently, any difference between the actual rental payments and the $550 monthly rental would
reduce the deferred rent receivable. The following table shows the calculation of the deferred rent
receivable at the end of each year. For the sake of simplicity, this table is shown on an annual basis; the
actual schedule would be calculated on a monthly basis to match the frequency of lease payments.

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