New Guidance on Accounting for Leases—Difference Between ASC 842 and 840 (Part III)

This article is the third in a series of articles exploring the new guidance on accounting for leases (ASC Topic 842) issued by the Financial Accounting Standards Board (“FASB”) in February 2016. This article discusses the initial and subsequent measurement of leases under ASC Topic 842 and highlights how measurement could differ from measurement under ASC Topic 840.

Initial and Subsequent Measurement of Leases Under ASC 842

As noted in the prior article, ASC 842, like ASC 840, requires lessees and lessors to determine the classification of leases. Lessees will classify leases as either finance or operating leases, while lessors will classify leases as either sales-type, direct financing, or operating leases. However, in its most significant departure from ASC 840, ASC 842 requires lessees to recognize a right-of-use asset and a lease liability for all leases, regardless of the outcome of the classification assessment.

Initial Measurement–Lessee

ASC 842 requires a lessee to recognize a right-of-use asset and lease liability for leases other than leases that meet the definition of a short-term lease (a lease with a term of 12 months or less). Regardless of how the lease is classified (operating or finance), the initial measurement of the right-of-use asset and lease liability will be the same.

In each case, the lease liability will equal the present value of the lease payments allocated to the lease component (assuming the lessee has not elected to attribute the consideration in the contract entirely to the lease component). The right-of-use asset will equal the lease liability, plus payments made prior to the commencement date of the lease and any incremental direct costs incurred by the lessee, less any incentives received from the lessor.