Page 5 - eBook-Real-estate-leases

Separation of Lease & Non-lease Components

Lessees and lessors are required to separate lease components and non-lease components (e.g., any services provided)
in an arrangement and allocate the total transaction price to the individual components. Lessors would perform the
allocation in accordance with the guidance in the new revenue recognition standard, and lessees would do so on a
relative stand-alone-price basis (by using observable stand-alone prices or, if the prices are not observable, estimated
stand-alone prices).

Practical Expedient:

Companies may also elect to not separate lease and However, payments for property taxes or insurance would
non-lease components by class of underlying assets and most likely be considered part of the lease component
account for each separate lease component along with because they do not transfer a separate good or service
the associated non-lease component as a single lease to the tenant. This treatment could have the effect of
component (as an accounting policy) increasing a lessee’s lease liability since it would include
amounts that are currently considered executory costs.
When evaluating whether an activity should be considered From a practical standpoint, however, such amounts are
part of a lease component or a separate non- lease frequently variable and therefore would not be included in
component, an entity should consider whether the the measurement of the lease liability.
activity transfers a separate good or service to the lessee.
For example, maintenance services (including common-
area maintenance services) and utilities paid for by the
lessor but consumed by the lessee would be separate
non-lease components because the tenant would have
been required to otherwise contract for these services
separately.

Different accounting treatment for property taxes and insurance

There are various types of lease agreements involving property taxes and insurance. In some leases, the lessees will pay
a fixed amount of taxes and insurance every year as part of the lease payment. In other lease agreements, the lessor
will send the related tax and insurance bills to the lessee and the lessee will pay it as it is received. Therefore, based
on the two different scenarios, it is possible to have different accounting treatments for property taxes and insurance
depending on the terms of the lease agreement.

Variable: Fixed:
If the real estate taxes and insurance premiums during the If the real estate taxes and insurance premiums during
lease term are variable, these will not be included as part the lease term are fixed (every year the lessee pays a fixed
of the initial measurement of the present value calculation amount regardless of the actual amount billed by the
of the lease liability and instead will be considered a taxing or insurance agency) , these will be included as part
variable lease payment because the two components are of the as part of the initial measurement of the present
attributable to the lease of the buildings and no other value calculation of the lease liability.
service are offered.

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