Page 18 - JoFA_Jan_Apr23

FINANCIAL REPORTING

The adoption of Topic 842 ■ Initial direct costs paid at the beginning
amount to $150,000.
created many challenges for ■ The implicit lease rate is 5%.
■
The marginal tax rate is 21%.
Topic 840 required total rent expense with
public and nonpublic entities. escalating payments to be recognized on a
straight-line basis over the lease term. In effect,
the sum of the payments divided by the number
of periods represented the amount of rent expense
to be recognized each period. Any difference
Accounting for beginning of year 1 between the lease payment and the fixed lease
expense was treated as deferred rent. In periods
Debit Credit
during which the fixed lease expense exceeded the
lease payment, an entity would have accounted
Initial direct cost $150,000
for the difference as deferred rent classified as
a liability. In periods during which the lease
Cash $150,000
payment exceeded the lease expense, the difference
would be treated as a reduction of this account. By
Accounting for end of year 1 the end of the lease term, this account would be
amortized to zero.
Debit Credit Under Topic 840, the initial direct cost is
capitalized and amortized on a straight-line basis
Lease expense $1,167,750 over the duration of the lease. In the example
above, for instance, total payments for the 20 years
Initial direct cost $7,500 would be $23,205,000 ÷ 20, equaling $1,160,250
for straight-line amortization over the life of the
Deferred rent $160,250 contract. Initial direct costs of $150,000 would
be amortized on a straight-line basis over the
Cash $1,000,000 20-year period, amounting to $7,500 per year
($150,000 ÷ 20). Topic 840 required this expense
to be added to rent expense to compute the total
Deferred tax asset and income tax expense lease expense for each period. Thus, the total lease
expense would be equal to $1,160,250 + $7,500, or
Debit Credit $1,167,750. The deferred rent would be calcu-
lated as the difference between $1,160,250 and
Deferred tax asset $33,653 $1,000,000, or $160,250. Based on this informa-
tion, entries for year 1 under Topic 840 would be
Deferred income $33,653
tax expense as shown in the chart “Accounting for Beginning
of Year 1.” This chart records the initial direct cost

IN BRIEF of deferred rent and initial direct cost ■ Topic 842 requires that initial direct
differ under Topic 840 and Topic 842 costs be added to the right-of-use
■ FASB ASC Topic 842, Leases, differs by giving an example of how journal asset and be included in its subsequent
markedly from the previous guidance, entries would be recorded for the same amortization.
FASB ASC Topic 840, Leases, and lease under each set of standards. ■ While deferred rent is not explicitly
represents a major shift in the way ■ Topic 842 requires operating leases of recognized under Topic 842, it
entities have to report on long-term greater than one year to be recognized is implicitly recognized in the
leases. on the balance sheet as right-of-use amortization of the right-of-use asset.
■ This article looks at how the treatment assets and related lease obligations.
To comment on this article or to suggest an idea for another article, contact Courtney Vien at Courtney.Vien@aicpa-cima.com.

16 | Journal of Accountancy January 2023