Chapter 17 — Stakeholder Activities

17.3 FASB Activities

This Roadmap discusses the FASB’s standard setting through September 30, 2023.

17.3.1 Final ASUs and Expected Proposed ASU

As noted above, the FASB has released various final and proposed ASUs to amend and clarify the guidance in ASC 842. These final and proposed standards, which were largely issued in response to stakeholder feedback, are discussed throughout this Roadmap as applicable.

ASU 2017-13 on amendments to SEC paragraphs (Section 17.3.1.1).
ASU 2018-01 on the land easement practical expedient for transition (Section 17.3.1.2).
ASU 2018-10 on technical corrections and improvements (Section 17.3.1.3).
ASU 2018-11 on targeted improvements (Section 17.3.1.4).
ASU 2018-20 on narrow-scope improvements for lessors (Section 17.3.1.5).
ASUs 2016-13 and 2018-19 on TRG activities — billed operating lease receivables (Section 17.3.1.6).2
ASU 2019-01 on Codification improvements (Section 17.3.1.7).
ASUs 2019-10 and 2020-05 on deferrals of the effective dates of the leasing standard (Section 16.1).
ASU 2020-02 on amendments to ASC 842 in response to SEC guidance (Section 18.4).
ASU 2021-05 on the lessor’s accounting for leases with variable lease payments (Section 17.3.1.8).
ASU 2021-09 on improvement of discount rate practical expedient for lessees that are not PBEs (Section 17.3.1.9).
ASU 2023-01 on improvements for related-party leases under common control (Section 17.3.1.10).

17.3.1.1 ASU 2017-13 on Amendments to SEC Paragraphs

In September 2017, the FASB issued ASU 2017-13, which rescinds certain SEC guidance in light of ASUs 2014-09 and 2016-02. Specifically, ASU 2017-13 rescinds the following SEC guidance upon the adoption of ASU 2016-02:

ASC 840-30-S99-1 on a lessor’s consideration of third-party value guarantees.
ASC 840-40-S99-1 on sale treatment in sale-and-leaseback transactions with a repurchase option.
ASC 840-40-S99-2 on the effect of the lessee’s involvement in asset construction.
ASC 840-40-S99-3 on applying sale-and-leaseback guidance to certain sale-and-leaseback transactions.

In addition, ASU 2017-13 moved certain guidance in ASC 840-30-S99-2 on the effect of a change in tax law or rates on leveraged leases, which resulted from an SEC observer comment, to ASC 842-50-S99-1.

ASU 2017-13 also codified in ASC 842-10-S65-1 comments made by the SEC observer at the July 20, 2017, EITF meeting. In those comments, the SEC staff announced that it would not object when certain PBEs elect to use the non-PBE effective dates solely to adopt the FASB’s new standards on revenue and leases. See Section 18.4 for further discussion of this election.

17.3.1.2 ASU 2018-01 on the Land Easement Practical Expedient for Transition

The FASB received a significant amount of feedback from stakeholders in several industries who were concerned about the cost and complexity of evaluating all existing land easements under ASC 842’s definition of a lease at transition. Entities in these industries have potentially tens of thousands of existing land easements, many of which were executed decades ago, and the same complexities described in Section 2.4.3 would be relevant to these arrangements.

The Board observed that the costs of requiring an entity to evaluate all existing land easements under ASC 842’s definition of a lease outweighed the benefits to financial statement users. Accordingly, the FASB provided transition relief in the form of a practical expedient in ASC 842-10-65-1(gg):

An entity also may elect a practical expedient to not assess whether existing or expired land easements that were not previously accounted for as leases under Topic 840 are or contain a lease under this Topic. For purposes of (gg), a land easement (also commonly referred to as a right of way) refers to a right to use, access, or cross another entity’s land for a specified purpose. This practical expedient shall be applied consistently by an entity to all its existing and expired land easements that were not previously accounted for as leases under Topic 840. This practical expedient may be elected separately or in conjunction with either one or both of the practical expedients in (f) and (g). An entity that elects this practical expedient for existing or expired land easements shall apply the pending content that links to this paragraph to land easements entered into (or modified) on or after the date that the entity first applies the pending content that links to this paragraph as described in (a) and (b). An entity that previously accounted for existing or expired land easements as leases under Topic 840 shall not be eligible for this practical expedient for those land easements.

In short, an entity that elects the expedient is relieved from applying ASC 842 to evaluate all existing land easements that were not previously accounted for in accordance with ASC 840. The FASB explains in paragraph BC15 of ASU 2018-01 that an entity may thus elect to “run off” all such easements by using its historical accounting approach for land easements unless or until the arrangement is modified on or after the date on which the entity adopts ASU 2016-02.

The objectives of the land easement amendments in ASU 2018-01 are to:

Clarify that land easements entered into (or existing land easements modified) on or after the effective date of ASC 842 must be assessed under ASC 842.
Provide a transition practical expedient for existing or expired land easements that were not previously accounted for in accordance with ASC 840. The practical expedient would allow entities to elect not to assess whether those land easements are, or contain, leases in accordance with ASC 842 when transitioning to ASC 842.

The amendments in ASU 2018-01 do not, and are not intended to:

Provide illustrative or application guidance on whether land easements are, or contain, leases in accordance with the definition of a lease in ASC 842.
Help entities identify the appropriate accounting framework for situations in which a land easement is not determined to be a lease under ASC 842.

See Section 2.4 for more information about the land easement practical expedient for transition.

17.3.1.2.1 Scope

ASU 2018-01 only addresses land easements. Although the FASB does not define this term, ASC 842-10- 65-1(gg) and paragraph BC3 of ASU 2018-01 describe both a land easement and a right of way as a “right to use, access, or cross another entity’s land for a specified purpose.”

Further, ASU 2018-01 effectively breaks land easements into two groups on the basis of the effective date of ASU 2016-02: (1) land easements entered into (or existing easements modified) on or after the effective date (collectively, “new land easements”) and (2) land easements that existed as of, or expired before, the effective date (collectively, “existing land easements”). See Section 2.4.2 for further discussion of the scope of ASU 2018-01.

17.3.1.2.2 Identifying a Lease

ASU 2018-01 is not intended to provide illustrative or application guidance about whether new land easements meet the definition of a lease in ASC 842. Therefore, stakeholders and respondents may continue to raise questions about the application of the definition of a lease to new land easement arrangements, and it is possible that the FASB, IASB, and SEC staffs will want to share their perspectives as those questions are raised. Companies involved in land easement arrangements should consult with their accounting advisers and monitor developments on the topic. See Section 2.4.3 for further discussion of whether new land easements meet the definition of a lease in ASC 842.

17.3.1.2.3 Effective Date and Transition

The transition practical expedient for existing land easements may be elected alone or with any of the other transition practical expedients. In a manner consistent with the other transition practical expedients, entities must disclose whether they are electing the transition practical expedient for land easements.

The effective date of ASU 2018-01 is aligned with that of ASU 2016-02. See Section 16.5.3 for more information about the effective date and transition provisions of ASU 2018-01.3

17.3.1.3 ASU 2018-10 on Technical Corrections and Improvements

In July 2018, the FASB issued ASU 2018-10 to make narrow-scope amendments (i.e., minor changes and clarifications) to certain aspects of the leasing standard (i.e., ASC 842). The table below, reproduced from ASU 2018-10, summarizes the 16 amendments that were made to ASC 842.

Area for Improvement	Summary of Amendments
Issue 1: Residual Value Guarantees
Stakeholders noted that paragraph 460-10-60-32 incorrectly refers readers to the guidance in Topic 842 about sale-[and-]leaseback-sublease transactions, when, in fact, it should refer readers to the guidance about guarantees by a seller-lessee of the underlying asset’s residual value in a sale and leaseback transaction.	The amendment corrects the cross-reference in paragraph 460-10-60-32. [See Section 10.3.1.2 of this Roadmap.]
Issue 2: Rate Implicit in the Lease
Stakeholders raised questions about the treatment of certain sales-type leases with significant variable payments under Topic 842 and whether the application of Topic 842 could result in a negative rate implicit in the lease, rather than a loss at the commencement date of the lease.	The amendment clarifies that a rate implicit in the lease of zero should be used when applying the definition of the term rate implicit in the lease results in a rate that is less than zero. [See Sections 7.3.1 and 9.3.7.1 of this Roadmap.]
Issue 3: Lessee Reassessment of Lease Classification
Topic 842 is clear that when a lease is modified and that modification is not accounted for as a separate contract, an entity (that is, a lessee or a lessor) should reassess, at the effective date of the modification, lease classification on the basis of the modified terms and conditions and the facts and circumstances existing as of that date. Although Topic 842 also requires a lessee to reassess lease classification if there is a change in the lease term or the assessment of a lessee option to purchase the underlying asset, stakeholders expressed that it is not clear whether the lessee should reassess lease classification on the basis of the facts and circumstances existing as of the date the reassessment is required.	The amendment consolidates the requirements about lease classification reassessments into one paragraph and better articulates how an entity should perform the lease classification reassessment, that is, on the basis of the facts and circumstances, and the modified terms and conditions, if applicable, as of the date the reassessment is required. [See Sections 8.3, 8.3.4, and 8.6.3 of this Roadmap.]
Issue 4: Lessor Reassessment of Lease Term and Purchase Option
Topic 842 requires a lessor to not reassess the lease term or a lessee purchase option unless the lease is modified and that modification is not accounted for as a separate contract. Topic 842 also requires a lessor to account for the exercise of a lessee option to extend or terminate the lease, or to purchase the underlying asset, in the same manner as a lease modification. Stakeholders questioned why a lessor should account for a lessee exercise of such options in a manner similar to a lease modification when the exercise of those options is consistent with the assumptions that the lessor made in accounting for the lease at the commencement date of the lease (or the most recent effective date of a modification that is not accounted for as a separate contract).	The amendment clarifies that a lessor should account for the exercise by a lessee of an option to extend or terminate the lease or to purchase the underlying asset as a lease modification unless the exercise of that option by the lessee is consistent with the assumptions that the lessor made in accounting for the lease at the commencement date of the lease (or the most recent effective date of a modification that is not accounted for as a separate contract). [See Section 5.4.2 of this Roadmap.]
Issue 5: Variable Lease Payments That Depend on an Index or a Rate
Stakeholders noted that the guidance in paragraph 842-10-35-4(b) about remeasurement of the lease payments when a contingency upon which some or all of the variable lease payments are based is resolved might be perceived as applying to any variable lease payments, including those that depend on an index or rate, which would be inconsistent with the Board’s decisions on this issue.	The amendment clarifies that a change in a reference index or rate upon which some or all of the variable lease payments in the contract are based does not constitute the resolution of a contingency subject to the guidance in paragraph 842-10-35-4(b). Variable lease payments that depend on an index or a rate should be remeasured, using the index or rate at the remeasurement date, only when the lease payments are remeasured for another reason (that is, when one or more of the events described in paragraph 842-10-35-4(a) or (c) occur or when a contingency unrelated to a change in a reference index or rate under paragraph 842-10-35-4(b) is resolved). [See Sections 6.3 and 8.5.3.2 of this Roadmap.]
Issue 6: Investment Tax Credits
Stakeholders indicated that there is an inconsistency in terminology used about the effect that investment tax credits have on the fair value of the underlying asset between the definition of the term rate implicit in the lease and the lease classification guidance in paragraph 842-10-55-8.	The amendment removes that inconsistency in terminology. [See Sections 8.3.3.6.2 and 9.2.1.4 of this Roadmap.]
Issue 7: Lease Term and Purchase Option
Stakeholders indicated that the description in paragraph 842-10-55-24 about lessor-only termination options is inconsistent with the description in paragraph 842-10-55-23 about the noncancellable period of a lease.	The amendment removes that inconsistency by clarifying that the period covered by a lessor-only option to terminate the lease is included in the lease term. [See Section 5.2.4.1 of this Roadmap.]
Issue 8: Transition Guidance for Amounts Previously Recognized in Business Combinations
Stakeholders indicated that the transition guidance for lessors in paragraph 842-10-65-1(h)(3) is unclear because it relates to leases classified as direct financing leases or sales-type leases under Topic 840, while the lead-in sentence to paragraph 842-10-65-1(h) provides transition guidance for leases classified as operating leases under Topic 840.	The amendment clarifies that paragraph 842-10-65-1(h)(3) applies to lessors for leases classified as direct financing leases or sales-type leases under Topic 842, not Topic 840. In other words, paragraph 842-10-65-1(h)(3) applies when an entity does not elect the package of practical expedients in paragraph 842-10-65-1(f), and, for a lessor, an operating lease acquired as part of a previous business combination is classified as a direct financing lease or a sales-type lease when applying the lease classification guidance in Topic 842. The amendment also cross-references to other transition guidance applicable to those changes in lease classification for lessors. [See Section 16.10 of this Roadmap.]
Issue 9: Certain Transition Adjustments
When an entity initially applies Topic 842 retrospectively to each prior reporting period and does not elect the package of practical expedients in Topic 842, paragraph 842-10-65-1(p) requires a lessee to write off, as an adjustment to equity, any unamortized initial direct costs that do not meet the definition of initial direct costs under Topic 842 for leases previously classified as operating leases under Topic 840. Stakeholders questioned why those nonqualifying costs should be charged to equity when those costs are incurred after the beginning of the earliest period presented in the financial statements in which an entity adopts Topic 842. Similar issues also were noted elsewhere in the transition guidance when an entity initially applies Topic 842 retrospectively to each prior reporting period.	The amendments clarify whether to recognize a transition adjustment to earnings rather than through equity when an entity initially applies Topic 842 retrospectively to each prior reporting period. [See Sections 16.3.1, 16.3.2.1.1, 16.3.2.2, 16.4.1, 16.4.2, and 16.4.4 of this Roadmap.]
Issue 10: Transition Guidance for Leases Previously Classified as Capital Leases Under Topic 840
Paragraph 842-10-65-1(r) provides guidance to lessees for leases previously classified as capital leases under Topic 840 and classified as finance leases under Topic 842. Paragraph 842-10-65-1(r)(4) provides subsequent measurement guidance before the effective date when an entity initially applies Topic 842 retrospectively to each prior reporting period, but it refers readers to the subsequent measurement guidance in Topic 840 about operating leases. It should refer them to the subsequent measurement guidance applicable to capital leases.	The amendment corrects that reference. [See Section 16.3.2.1.2 of this Roadmap.]
Issue 11: Transition Guidance for Modifications to Leases Previously Classified as Direct Financing or Sales-Type Leases Under Topic 840
Paragraph 842-10-65-1(x) provides transition guidance applicable to lessors for leases previously classified as direct financing leases or sales-type leases under Topic 840 and classified as direct financing leases or sales-type leases under Topic 842. For modifications to those leases beginning after the effective date, paragraph 842-10-65-1(x)(4) refers readers to other applicable guidance in Topic 842 to account for the modification, specifically paragraphs 842-10-25-16 through 25-17, depending on how the lease is classified after the modification. Stakeholders noted that it should refer to how the lease is classified before the modification to be consistent with the guidance provided in paragraphs 842-10-25-16 through 25-17.	The amendment corrects that inconsistency. [See Section 16.4.3 of this Roadmap.]
Issue 12: Transition Guidance for Sale and Leaseback Transactions
Stakeholders noted that the heading above the transition guidance on sale and leaseback transactions appears to suggest that there is no transition guidance for sale and leaseback transactions that occur after the earliest comparative period presented in the financial statements in which an entity adopts Topic 842 but before the effective date. Some stakeholders also questioned some of the references included in paragraph 842-10-65-1(bb).	The amendments clarify that the transition guidance on sale and leaseback transactions in paragraph 842-10-65-1(aa) through (ee) applies to all sale and leaseback transactions that occur before the effective date and corrects the referencing issues noted. [See Section 16.9 of this Roadmap.]
Issue 13: Impairment of Net Investment in the Lease
Paragraph 842-30-35-3 provides guidance to lessors for determining the loss allowance of the net investment in the lease and describes the cash flows that should be considered when the lessor determines that loss allowance. Stakeholders questioned whether the guidance, as written, would accelerate and improperly measure the loss allowance because the cash flows associated with the unguaranteed residual asset appear to be excluded from the evaluation.	The amendment clarifies the application of the guidance for determining the loss allowance of the net investment in the lease, including the cash flows to consider in that assessment. [See Section 9.3.7.5 of this Roadmap.]
Issue 14: Unguaranteed Residual Asset
Paragraph 842-30-35-4 provides guidance explaining that if a lessor sells the lease receivable associated with a direct financing lease or a sales-type lease and retains an interest in the residual value of the asset, the lessor should not continue to accrete the unguaranteed residual asset to its estimated value over the remaining lease term. Stakeholders questioned whether the Board intended to change the application as compared with current generally accepted accounting principles (GAAP) because the guidance in paragraph 840-30-35-53 (which will be superseded by the amendments in Update 2016-02) requires a lessor to continue to recognize interest resulting from accretion of the unguaranteed residual asset to its estimated value unless the lessor sells substantially all of the minimum rental payments.	The amendment clarifies that a lessor should not continue to accrete the unguaranteed residual asset to its estimated value over the remaining lease term to the extent that the lessor sells substantially all of the lease receivable associated with a direct financing lease or a sales-type lease, consistent with Topic 840. [See Section 9.3.7.6 of this Roadmap.]
Issue 15: Effect of Initial Direct Costs on the Rate Implicit in the Lease
Stakeholders noted that the ordering of the illustration in Case C of Example 1 in paragraphs 842-30-55-31 through 55-39 has raised questions about how initial direct costs factor into determining the rate implicit in the lease for lease classification purposes for lessors only.	The amendment more clearly aligns the illustration to the guidance in paragraph 842-10-25-4. [See Sections 9.3.7.1.2 and 9.3.8.1 of this Roadmap.]
Issue 16: Failed Sale and Leaseback Transaction
In accordance with Subtopic 842-40, Leases — Sale and Leaseback Transactions, when a sale and leaseback transaction does not qualify as a sale, the entity should account for the transaction as a financing arrangement. Paragraph 842-40-30-6(a) further requires a seller-lessee to adjust the interest rate as necessary to prevent negative amortization of the financial liability recognized. Some stakeholders questioned whether the language used in paragraph 842-40-30-6(a) actually meets the objective of preventing negative amortization of the financial liability recognized by a seller-lessee in a failed sale and leaseback transaction.	The amendment clarifies that a seller-lessee in a failed sale and leaseback transaction should adjust the interest rate on its financial liability as necessary to ensure that the interest on the financial liability does not exceed the total payments (rather than the principal payments) on the financial liability. This clarification is also reflected in the relevant illustration on failed sale and leaseback transactions that is contained in Subtopic 842-40. [See Sections 10.4.2.1 and 10.4.2.3 of this Roadmap.]

17.3.1.3.1 Effective Date and Transition

The effective date of the amendments in ASU 2018-10 is aligned with that of ASU 2016-02.4 For entities that have early adopted ASC 842, the ASU is effective upon issuance and its transition requirements are the same as those in ASC 842.

17.3.1.4 ASU 2018-11 on Targeted Improvements

In July 2018, the FASB issued ASU 2018-11 to provide entities with relief from the costs of implementing certain aspects of the leasing standard. Specifically, under the amendments in ASU 2018-11:

Entities may elect not to recast their comparative periods in the period of adoption when transitioning to ASC 842.
Lessors may elect not to separate lease and nonlease components when certain conditions are met.

The scope of the amendments in the ASU is as follows:

Transition relief — These amendments, which allow entities to report the comparative periods presented in the period of adoption under ASC 840, affect all entities with lease contracts that elect not to restate their comparative periods in transition.
Lessor relief — These amendments, which give lessors the option of electing, as a practical expedient by class of underlying asset, not to separate the lease and nonlease components of a contract, only affect lessors whose lease contracts meet certain criteria (discussed below).

Note that while the transition relief amendments may benefit both lessees and lessors, the lessor relief amendments will benefit only lessors.

17.3.1.4.1 Transition Relief

ASC 842, as initially issued, required entities to use a “modified retrospective” transition approach that is intended to maximize comparability and be less complex than a full retrospective approach. See Chapter 16 for further discussion of the effective date and transition guidance.

Under the modified retrospective approach, ASC 842 is effectively implemented as of the beginning of the earliest comparative period presented in an entity’s financial statements. That is, a public entity for which the standard becomes effective on January 1, 2019, would first apply ASC 842 and recognize an adjustment for the effects of the transition as of January 1, 2017 (i.e., the date of initial application).

However, ASU 2018-11 amends ASC 842 so that entities may elect not to recast their comparative periods in transition (the Comparatives Under 840 Option). Effectively, ASU 2018-11 allows entities to change their date of initial application to the beginning of the period of adoption of ASC 842 (e.g., January 1, 2019, for a calendar-year PBE). In doing so, the entity would:

Apply ASC 840 in the comparative periods.
Provide the disclosures required by ASC 840 for all periods that continue to be presented in accordance with ASC 840.
Recognize the effects of applying ASC 842 as a cumulative-effect adjustment to retained earnings as of the effective date (e.g., January 1, 2019); under the Comparatives Under 840 Option, this date would represent the date of initial application.

The entity would not:

Restate comparative periods for the effects of applying ASC 842.
Provide the disclosures required by ASC 842 for the comparative periods.
Change how the transition requirements apply, only when the transition requirements apply.

17.3.1.4.1.1 Effective Date and Transition

The transition relief amendments in ASU 2018-11 apply to entities that have not yet adopted ASC 842.5 Entities that have early adopted ASC 842 cannot elect the Comparatives Under 840 Option.

See Sections 16.1.1 and 16.11 for further discussion of the transition relief amendments in ASU 2018-11, including the related disclosure requirements.

17.3.1.4.2 Lessor’s Separation of Lease and Nonlease Components

ASU 2016-02, as initially issued, required lessors to separate lease and nonlease components in all circumstances. Once separate components were identified, lessors were required to use the relative stand-alone selling price allocation method in ASC 606 to allocate the consideration in the contract to the separated components. ASC 842 (including its presentation and disclosure guidance) applied to the lease component, while other guidance, typically ASC 606 (including its presentation and disclosure guidance), applied to the nonlease component.

As a result of feedback received from stakeholders indicating that the costs of complying with the separation and allocation requirements for lessors outweigh the benefits, the FASB amended ASC 842 to give lessors the option of electing a practical expedient under which they would not be required to separate lease and nonlease components, provided that the nonlease component(s) otherwise would be accounted for under the revenue guidance in ASC 606 and both of the following conditions are met:

Criterion A — The timing and pattern of transfer for the lease component are the same as those for the nonlease components associated with that lease component.
Criterion B — The lease component, if accounted for separately, would be classified as an operating lease.

The practical expedient can be elected by class of underlying asset and should be applied, as of the date elected, to all transactions within those classes of underlying assets that qualify for the expedient.

Further, ASC 842-10-15-42C clarifies that the presence of a nonlease component that is ineligible for the practical expedient does not preclude a lessor from electing the expedient for the lease component and nonlease component(s) that meet the criteria. Rather, the lessor would account for the nonlease components that do not qualify for the practical expedient separately from the combined lease and nonlease components that do qualify.

See Section 4.3.3.2 for more information about the practical expedient related to a lessor’s separation of lease and nonlease components.

17.3.1.4.2.1 Disclosure Requirements

When a lessor elects the practical expedient to combine lease and nonlease components in a contract, it is required to provide certain disclosures. Such disclosures include (1) the lessor’s election to combine lease components with associated nonlease components, (2) the class(es) of underlying asset(s) for which the election was made, (3) the nature of the items that are being combined, (4) any nonlease components that were not eligible for the practical expedient, and (5) which standard applies to the combined component (i.e., ASC 842 or ASC 606). (See Section 15.3.2.4 for additional discussion of the disclosure requirements related to ASU 2018-11.)

17.3.1.4.2.2 Effective Date and Transition

For entities that have not yet adopted ASU 2016-02, the effective date of ASU 2018-11 is aligned with the leasing standard’s effective date and transition requirements.6

Upon transition to ASU 2018-11, a lessor electing the practical expedient would be required to apply it to all new and existing transactions within a class of underlying asset that qualify for the expedient as of the date elected. That is, a lessor would not be permitted to apply the practical expedient only to new or modified transactions within a class of underlying asset. See Section 16.4.6 for further discussion of transition requirements related to ASU 2018-11.

17.3.1.5 ASU 2018-20 on Narrow-Scope Improvements for Lessors

In December 2018, the FASB issued ASU 2018-20, which addresses certain concerns raised by lessors regarding the guidance in ASU 2016-02. Specifically, ASU 2018-20 includes amendments related to the following items:

Item 1 — “Sales taxes and other similar taxes collected from lessees.”
Item 2 — “Certain lessor costs.”
Item 3 — “Recognition of variable payments for contracts with lease and nonlease components.”

17.3.1.5.1 Sales Taxes and Other Similar Taxes Collected From Lessees

Under ASC 606, as amended by ASU 2016-12, entities can elect an accounting policy of presenting sales taxes collected from customers on a net basis. Specifically, ASC 606-10-32-2A states, in part:

An entity may make an accounting policy election to exclude from the measurement of the transaction price all taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue-producing transaction and collected by the entity from a customer (for example, sales, use, value added, and some excise taxes).

As issued, ASU 2016-02 did not provide lessors with a similar practical expedient for sales taxes collected from lessees. Feedback from stakeholders cited operational challenges with applying the leasing guidance without such an expedient. Stakeholders noted that although lessors are not within the scope of ASC 606, they are performing a revenue-generating activity in a manner similar to a service accounted for under ASC 606. Therefore, these stakeholders requested that the FASB provide a similar practical expedient under which lessors could elect to present sales taxes collected from lessees on a net basis.

Accordingly, ASU 2018-20 offers lessors an accounting policy election under which they can exclude from lease revenue sales taxes and other similar taxes assessed by a governmental authority and collected by the lessor from a lessee. This is a policy election by the entity. Lessors making this accounting policy election must disclose that they have done so in addition to complying with the disclosure requirements in ASC 235-10-50-1 through 50-6. See Section 15.3.6 for further details about the disclosure requirements in ASU 2018-20 and Section 4.4.2.1.3 for a general discussion of ASU 2018-20.

17.3.1.5.2 Lessor Costs

A lessor may incur various costs in its role as a lessor or as owner of the underlying asset. A requirement for the lessee to pay those costs, whether directly to a third party on behalf of the lessor or as a reimbursement to the lessor, does not transfer a good or service to the lessee separately from the right to use the underlying asset. ASU 2016-02, as initially issued, required a lessor to report those amounts, regardless of the payor, as revenue and expenses.

Under ASC 606, an entity must evaluate whether it is acting as the principal or the agent in the transaction to determine whether revenue should be presented on a gross or net basis. However, after the issuance of the revenue standard, stakeholders raised questions about whether an entity should be required to estimate gross revenue when it is acting as the principal but there is uncertainty in the transaction price that is not expected to ultimately be resolved. As a result, when the FASB issued amendments to the principal-versus-agent guidance in ASU 2016-08, it specifically addressed this question in paragraph BC38(c) of the Background Information and Basis for Conclusions of that ASU:

The determination of whether revenue may be estimated or not is based on an assessment of the transaction price guidance in Section 606-10-32 on measurement (such as, the amount of consideration which the entity expects to be entitled to for transferring promised goods or services to a customer and the constraint on variable consideration). The guidance on variable consideration is instructive as to whether amounts should be recognized as revenue. A key tenet of variable consideration is that at some point the uncertainty in the transaction price ultimately [will] be resolved. When the uncertainty is not expected to ultimately be resolved, the guidance indicates that the difference between the amount to which the entity is entitled from the intermediary and the amount charged by the intermediary to the end customer is not variable consideration and, therefore, is not part of the entity’s transaction price.

In light of the guidance in the Background Information and Basis for Conclusions of ASU 2016-08, some lessor stakeholders requested that the FASB provide a similar accounting policy election under which lessors would not be required to recognize lease revenue (and the corresponding expense) for certain costs that are considered lessor costs under ASC 842.

Accordingly, ASU 2018-20 addresses stakeholder concerns about the challenges related to determining costs paid by lessees directly to third parties on behalf of lessors by requiring lessors to exclude such costs from variable payments, and thus from lease revenue. Lessor costs are not a component in the contract because they are neither lease components nor nonlease components (e.g., services). Some common examples of lessor costs include property taxes and insurance in a real estate lease.

Although stakeholders requested a policy election, the amendments in ASU 2018-20 indicate that lessor costs that are paid directly to a third party by a lessor and then reimbursed by the lessee must be accounted for as variable payments. Paragraph BC28 of ASU 2018-20 notes that “[a]lthough the economics between Lessee-Paid and Lessee-Reimbursed are similar in that both may be costs of the lessor, the Board highlighted that all Lessee-Reimbursed costs are known amounts to the lessor and concluded that those costs should be accounted for as lessor costs.”

See Section 4.4.2.1.2 for a detailed discussion of ASU 2018-20.

17.3.1.5.3 Recognition of Variable Payments for Contracts With Lease and Nonlease Components

ASU 2016-02 initially required lessors to recognize variable payments “in profit or loss in the period when changes in the facts and circumstances on which the variable payment is based occur,” regardless of whether the variable payment is related to the lease or nonlease component in the contract.

Stakeholders observed that the guidance, as originally issued, may lead a lessor to recognize as revenue a variable payment related to a nonlease component before the nonlease component is transferred to the customer. That is, as issued, ASC 842-10-15-40, read literally, implied that as soon as an uncertainty that created variability in the consideration is resolved, that amount should be recognized as revenue regardless of whether the item to which it is related has been delivered to the customer-lessee.

To clarify the paragraph’s intent, ASU 2018-20 amended ASC 842 to require a lessor to allocate (rather than recognize) certain variable payments to the lease and nonlease components when the changes in facts and circumstances on which the variable payment is based occur. After the allocation, the amount of variable payments allocated to the lease component would be “recognized as income in profit or loss in accordance with this Topic [ASC 842], while variable payment amounts allocated to nonlease component(s) [would] be recognized in accordance with other Topics (for example, Topic 606 . . .).”

See Section 4.4.2.2 for more information about allocating the consideration in the contract and recognizing variable payments in accordance with ASC 842-10-15-40 when a portion is attributable to the nonlease component(s).

17.3.1.5.4 Effective Date and Transition

If an entity has not yet adopted ASU 2016-02 on the date of issuance of ASU 2018-20 (i.e., December 10, 2018), the effective date of ASU 2018-20 is aligned with that of ASU 2016-02.7

In addition, such an entity should consistently apply the amendments to all new and existing leases and apply the same transition method elected for ASU 2016-02.

17.3.1.6 TRG Activities — Billed Operating Lease Receivables

In June 2016, the FASB issued ASU 2016-13, which adds to U.S. GAAP an impairment model — known as the CECL model — that is based on expected losses rather than incurred losses. ASU 2016-13 significantly changes the accounting for credit impairment under ASC 326.8 (See Deloitte’s June 17, 2016, Heads Up for more information about the guidance in ASU 2016-13.)

Upon issuing ASU 2016-13, the FASB formed a credit losses transition resource group (TRG).9 At the TRG’s June 11, 2018, meeting,10 a stakeholder asked the FASB staff “whether billed operating lease receivables are within the scope of the guidance in Subtopic 326-20.” The stakeholder noted that views on this issue differ and that such views include the following:

“Topic 842 has specific guidance . . . indicating that if the assessment of collectibility of an operating lease changes, any amount of lease income recognized that has not been collected should be reversed through a current-period adjustment to lease income.”
“[T]he scope of Subtopic 326-20 includes financing receivables and billed operating lease receivables appear to meet that definition.”

In response to this inquiry, the FASB staff stated its belief that “operating lease receivables are not within the scope of Topic 326-20” and that “it was never the Board’s intent to include operating leases within the scope.” In November 2018, the FASB issued ASU 2018-19 to clarify certain aspects of ASU 2016-13, including that operating lease receivables are within the scope of ASC 842 rather than ASC 326. Therefore, an entity would apply ASC 842 rather than ASC 326-20 to account for changes in the collectibility assessment for operating leases. When applying ASC 842, an entity would recognize changes in the collectibility assessment for an operating lease receivable as an adjustment to lease income in accordance with ASC 842-10-25-13.

See additional discussion in Section 9.3.9.2.1.

17.3.1.7 ASU 2019-01 on Codification Improvements

In March 2019, the FASB issued ASU 2019-01 on Codification improvements related to the following three ASC 842 issues:

Determination of the fair value of the underlying asset by lessors that are not manufacturers or dealers.
Presentation in the statement of cash flows for sales-type and direct financing leases by lessors within the scope of ASC 942.
Clarification of interim disclosure requirements during transition.

17.3.1.7.1 Determination of the Fair Value of the Underlying Asset by Lessors That Are Not Manufacturers or Dealers

ASC 840-10-55-44 provided guidance on determining fair value and applying it to lease classification and measurement for lessors that are not manufacturers or dealers (“qualifying lessors”), stating that:

If the lessor is not a manufacturer or dealer, the fair value of the property at lease inception ordinarily will be its cost, reflecting any volume or trade discounts that may apply. However, if there has been a significant lapse of time between the acquisition of the property by the lessor and lease inception, the determination of fair value should be made in light of market conditions prevailing at lease inception, which may indicate that the fair value of the property is greater or less than its cost or carrying amount, if different.

ASC 842, as originally issued, eliminated this fair value exception and instead required that the definition of fair value established in ASC 820 be applied for all aspects of lease accounting in ASC 842.

Stakeholders communicated to the FASB that not carrying forward the fair value exception to ASC 842 would have significant adverse financial reporting consequences for qualifying lessors in certain industries. Specifically, a lessor that is not a manufacturer or dealer would be required to recognize (i.e., expense) acquisition costs (e.g., sales taxes and delivery charges) at lease commencement regardless of how long the lessor has held the asset. Consequently, a lessor whose business model consists of financing the cost of the underlying asset to the lessee would need to record a day 1 loss under ASC 842 in many cases. Further, to recover these costs, the lessor would recognize interest income for sales-type and direct financing leases that is significantly greater than that being recognized under ASC 840. Stakeholders expressed their belief that this accounting outcome is neither useful to investors nor representative of the business model of these lessors.

In response to this issue, the Board issued the amendment in ASU 2019-01 to provide a fair value exception similar to that in ASC 840-10-55-44. Therefore, unless a significant lapse of time has occurred, lessors that are not manufacturers or dealers (generally financial institutions and captive finance companies) will continue to use their cost, reflecting any volume or trade discounts that may apply, as the fair value of the underlying asset.

17.3.1.7.2 Statement of Cash Flows Presentation for Sales-Type and Direct Financing Leases by Lessors Within the Scope of ASC 942

ASC 842, as originally issued, contained guidance that conflicted with industry-specific GAAP for depository and lending lessors on the presentation of principal payments received from sales-type and direct financing leases. That is, ASC 842 initially required all lessors to classify cash receipts from leases within “operating activities” in accordance with ASC 842-30-45-5, while ASC 942 provides an example in which principal payments received under leases are classified as investing activities for entities within the scope of ASC 942. (This example existed before, and was not consequentially amended by, the issuance of ASC 842.)

The Board issued the amendment in ASU 2019-01 to clarify that the existing guidance in ASC 942 should continue to be applied after the adoption of ASC 842. Accordingly, depository and lending lessors should continue to classify principal payments received from sales-type and direct financing leases within “investing activities.”

17.3.1.7.3 Clarification of Interim Disclosure Requirements During Transition

ASU 2019-01 also clarifies the transition guidance in ASC 842-10-65-1(i), noting that entities adopting ASC 842 need not provide the interim-period disclosures required by ASC 250-10-50-3, which states:

In the fiscal year in which a new accounting principle is adopted, financial information reported for interim periods after the date of adoption shall disclose the effect of the change on income from continuing operations, net income (or other appropriate captions of changes in the applicable net assets or performance indicator), and related per-share amounts, if applicable, for those post-change interim periods.

Accordingly, interim disclosures about the effect on income in the year of adoption of ASC 842 are excluded from the required disclosures in transition. The similar annual disclosures in ASC 250-10-50-1(b)(2) about the effect on income have always been excluded from the ASC 842 disclosures in transition.

17.3.1.7.4 Transition and Effective Date

There is no separate effective date and transition guidance for the Codification improvement related to interim disclosure requirements because that amendment represents a clarification of existing guidance. However, the effective date of the other two amendments in ASU 2019-01 (related to the determination of fair value and presentation in the statement of cash flows) is aligned with the effective dates of ASU 2016-02.11

Early adoption is permitted for all entities. In accordance with ASC 842-10-65-1(c), for entities that early adopt the ASU, the amendments are effective as of the date on which the entity first applies ASU 2016-02.

17.3.1.8 ASU 2021-05 on Lessor’s Accounting for Certain Leases With Variable Lease Payments

In July 2021, the FASB issued ASU 2021-05, which requires a lessor to classify a lease with variable lease payments that do not depend on an index or rate as an operating lease on the lease commencement date if specified criteria are met.

Before the release of the ASU, sales-type leases or direct financing leases with significant variable payments may have resulted in a day 1 loss on the arrangement even if the overall economics of the arrangement were expected to be profitable. This is because, under ASC 842, variable payments are excluded from the definition of lease payments for both lessees and lessors. Accordingly, lessors exclude variable payments when measuring the net investment in the lease. As a result, the amount recognized for the net investment in the lease may be less than that derecognized for the underlying asset. See Section 9.3.7.1.2 for more information about the accounting for such leases before the adoption of ASU 2021-05.

17.3.1.8.1 Key Provisions of ASU 2021-05

ASC 842-10-25-3A (added by ASU 2021-05) requires a lessor to classify a lease with variable lease payments that do not depend on an index or rate as an operating lease at lease commencement if both of the following conditions are met:

The lease would have been classified as a sales-type lease or direct financing lease in accordance with the classification criteria in ASC 842-10-25-2 and 25-3, respectively.
The lessor would have recognized a selling loss at lease commencement.

When applying the guidance in ASC 842-10-25-3A, the lessor would not derecognize the underlying asset upon lease commencement but would continue to depreciate the underlying asset over its useful life. Further, in accordance with ASC 842-30-25-11(a), the lessor would recognize fixed lease payments as “income . . . over the lease term on a straight-line basis 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.” Variable lease payments would be recognized as “income in profit or loss in the period in which the changes in facts and circumstances on which the variable lease payments are based occur,” as indicated in ASC 842-30-25-11(b).

Note that the ASU does not prescribe a threshold for the amount of variable payments; the ASU’s guidance must be applied when a lease contains any amount of variable payments (in addition to the requirement that the lessor would have otherwise recognized a selling loss at lease commencement).

Connecting the Dots

Impacts of ASU 2021-05

We expect that, under ASU 2021-05, more lessors will be required to classify leases as operating leases rather than as sales-type or direct financing leases. Accordingly, additional leases will qualify for the lessor practical expedient in ASC 842-10-15-42A, which allows lessors to combine lease and nonlease components into a single component if certain scope requirements are met. One of these requirements is that the underlying lease component must be classified as an operating lease. See Section 4.3.3.2 for more information about the lessor practical expedient.

We also expect more arrangements to qualify as a successful purchase by the buyer-lessor in a sale-and-leaseback transaction, since the lease from the buyer-lessor to the seller-lessee must be classified as an operating lease for such a purchase to be successful. Accordingly, under ASU 2021-05, more buyer-lessors will be able to obtain control of the underlying asset in the sale-and-leaseback arrangement. However, this ASU will not affect the seller-lessee’s accounting in a sale-and-leaseback transaction since it does not change the lessee’s determination of lease classification. See Section 10.3 for additional guidance on evaluating whether the transfer of an asset is a sale in a sale-and-leaseback transaction.

17.3.1.8.2 Transition and Effective Date

Lessors that have not adopted ASC 842 on or before July 19, 2021, should apply the transition requirements in ASC 842-10-65-1 when adopting ASU 2021-05. Those entities should adopt the ASU on the same date on which they adopt ASC 842.

ASC 842-10

Transition Related to Accounting Standards Update No. 2021-05, Leases (Topic 842): Lessors — Certain Leases With Variable Lease Payments

65-5 The following represents the transition and effective date information related to Accounting Standards Update No. 2021-05, Leases (Topic 842): Lessors — Certain Leases With Variable Lease Payments:

An entity that has not yet adopted the pending content that links to paragraph 842-10-65-1 as of July 19, 2021, shall apply the pending content that links to this paragraph when it first applies the pending content that links to paragraph 842-10-65-1 and shall apply the same transition method elected for the pending content that links to paragraph 842-10-65-1.
An entity within the scope of paragraph 842-10-65-1(a) that has adopted the pending content that links to paragraph 842-10-65-1 as of July 19, 2021, shall apply the pending content that links to this paragraph for fiscal years beginning after December 15, 2021, and interim periods within those fiscal years. Earlier application is permitted.
An entity within the scope of paragraph 842-10-65-1(b) that has adopted the pending content that links to paragraph 842-10-65-1 as of July 19, 2021, shall apply the pending content that links to this paragraph for fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022. Earlier application is permitted.
An entity within the scope of (b) or (c) shall apply the pending content that links to this paragraph by using one of the following two methods:
1. Retrospectively to the date in which the pending content that links to paragraph 842-10-65-1 was adopted (the beginning of the period of adoption of Topic 842). Under this transition method, the entity shall apply the pending content that links to this paragraph to leases that commence or are modified on or after the beginning of the period of its adoption of Topic 842 and do not meet the conditions in paragraph 842-10-25-8.
2. Prospectively to leases that commence or are modified on or after the date that the entity first applies the pending content that links to this paragraph and do not meet the conditions in paragraphs 842-10-25-8.
An entity within the scope of (b) or (c) that elects the transition method in (d)(1) shall provide the following transition disclosures:
1. The applicable transition disclosures required by Topic 250 on accounting changes and error corrections, except for the requirements in paragraph 250-10-50-1(b)(2) and paragraph 250-10-50-3
2. The transition disclosures in paragraph 250-10-50-1(b)(3) as of the beginning of the earliest period presented but not before the date in which the pending content that links to paragraph 842-10-65-1 was adopted.
An entity within the scope of (b) or (c) that elects the transition method in (d)(2) shall provide the following transition disclosures:
1. The nature of and reason for the change in accounting principle
2. The transition method
3. A qualitative description of the financial statement line items affected by the change.

Lessors that have adopted ASC 842 as of July 19, 2021, should apply the transition requirements for fiscal years beginning after December 15, 2021.12 Entities should use either of the following approaches to apply the ASU’s amendments:

Retrospective application to leases that commence or are modified on or after the adoption of ASC 842, when the modification does not meet the conditions to be accounted for as a separate contract (as defined in ASC 842-10-25-8).
Prospective application to leases that commence or are modified on or after the date on which a lessor first applies the amendments in ASU 2021-05, when the modification does not meet the conditions to be accounted for as a separate contract (as defined in ASC 842-10-25-8).

An entity is permitted to early adopt ASU 2021-05 as long as it does not do so before adopting ASC 842.

Changing Lanes

Proposed ASU

The FASB initially addressed the day 1 loss issue in a proposed ASU released on October 20, 2020, that suggested targeted improvements to the leasing guidance in ASC 842. This proposal also discussed two additional issues that stakeholders have raised regarding the implementation of ASC 842:

Option to remeasure lease liability — lessee only — The purpose of this issue was to converge U.S. GAAP and IFRS accounting requirements related to remeasuring lease liabilities and the associated ROU assets when future lease payments are based on a reference index or rate. While ASC 842 precludes a lessee from remeasuring a lease liability associated with a change in lease payments as a result of changes in the reference index or rate, IFRS 16 requires a lessee to remeasure the lease liability in such circumstances. The proposed ASU would have given lessees the option of performing such remeasurement. This proposed guidance was ultimately rejected, and the project was removed from the FASB’s technical agenda.
Modifications reducing the scope of a lease contract — The initial proposal would have amended the lease modification framework for master lease agreements or lease arrangements with multiple components. Specifically, if the scope of a lease agreement had changed (i.e., one lease component was terminated) but the remaining lease components were not economically affected, an entity would have been exempt from applying modification accounting to the remaining lease components in the lease contract. The FASB ultimately decided to remove this issue from the proposed ASU and instead added a project on lease modifications to its technical agenda. See Section 17.3.3 for further discussion of this project.

17.3.1.9 ASU 2021-09 on the Discount Rate for Lessees That Are Not PBEs

In November 2021, the FASB issued ASU 2021-09, which allows lessees that are not PBEs to make an accounting policy election by class of underlying asset, rather than on an entity-wide basis, to use a risk-free rate as the discount rate when measuring and classifying leases.

In September 2020, the FASB held public roundtables to discuss lease implementation topics. During those discussions, stakeholders expressed concerns about the cost and complexity of applying ASC 842, specifically regarding the determination of the discount rate used to measure a lessee’s lease liabilities and ROU assets.

Before the issuance of ASU 2021-09, ASC 842-20-30-3 permitted non-PBE lessees to “use a risk-free discount rate for the lease, determined using a period comparable with that of the lease term, as an accounting policy election for all leases” (emphasis added). However, during the roundtables, the FASB learned that many entities would not benefit from electing this practical expedient because such entities did not want to use the risk-free rate for all of their leases for which they are a lessee. In response, private-company stakeholders proposed a more practicable alternative that would allow lessees to elect to use the risk-free rate as their discount rate for certain classes of underlying assets, as opposed to only having the option of making that election at an entity-wide level.13

17.3.1.9.1 Key Provisions of ASU 2021-09

ASU 2021-09 amends the current guidance in ASC 842-20-30-3 to allow a non-PBE lessee to make an accounting policy election, by class of underlying assets, to use a risk-free rate as the discount rate when the rate implicit in the lease is not readily determinable. Specifically, ASU 2021-09 amends the guidance in ASC 842-20-30-3 to state:

A lessee should use the rate implicit in the lease whenever that rate is readily determinable. If the rate implicit in the lease is not readily determinable, a lessee uses its incremental borrowing rate. A lessee that is not a public business entity is permitted to use a risk-free discount rate for the lease instead of its incremental borrowing rate, determined using a period comparable with that of the lease term, as an accounting policy election made by class of underlying asset. [Emphasis added]

In addition to allowing lessees to elect to use the risk-free rate as an accounting policy by asset class rather than on an entity-wide level, the ASU requires lessees to:

Disclose their election, including the asset class(es) for which they have elected the accounting policy.14
Use the rate implicit in the lease instead of the risk-free rate when the former is readily determinable, regardless of whether the practical expedient has been elected.

Connecting the Dots

Lessees Must Use Rate Implicit in the Lease if Determinable

Before ASU 2021-09, it was unclear whether non-PBE lessees that made the entity-wide risk-free rate election were still required to use the rate implicit in the lease when it was readily determinable. The ASU clarifies that this requirement applies even if a lessee elected the risk-free rate for the relevant class of underlying asset. In practice, many lessees cannot readily determine the rate implicit in a lease since they may not know all material inputs in the lessor’s calculation of that rate. See Section 7.2.1 for further discussion of how to evaluate whether the rate implicit in a lease is readily determinable.

17.3.1.9.2 Transition and Effective Date

Lessees that did not adopt ASC 842 on or before November 11, 2021, should apply the transition requirements in ASC 842-10-65-1 when adopting ASU 2021-09. The ASU should be adopted on the same date on which an entity adopts ASC 842.

Lessees that have adopted ASC 842 as of November 11, 2021, should apply the transition requirements below for fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022.

An entity should apply a modified retrospective transition method to leases affected by the amendments existing as of the beginning of the year of adoption by adjusting the lease liability and corresponding ROU asset at the beginning of the fiscal year in which the ASU is adopted.15
When adopting the ASU, an entity is not permitted to:
- Remeasure and reallocate the consideration in the contract.
- Reassess the lease term or a lessee’s election to exercise a purchase option on the underlying asset.
- Remeasure the lease payments.
- Reassess lease classification.
The following must be disclosed as of the beginning of the year of adoption:
- The applicable information in ASC 250-10-50-1(a) and ASC 250-10-50-1(b)(3).
- The amount of the change in the lease liability and the corresponding ROU asset resulting from the adoption of the ASU.

Early adoption of ASU 2021-09 is permitted, as long as an entity does not adopt the ASU before adopting ASC 842.

Before the issuance of this ASU, non-PBE lessees that had adopted ASC 842 were required to use the risk-free rate as the discount rate to measure all of their leases if they had elected this practical expedient.16 Upon adopting the ASU, lessees that previously applied this requirement may choose to discontinue using the risk-free rate as the discount rate for any class of underlying asset. Conversely, lessees that did not elect to apply the risk-free rate to all their leases upon adopting ASC 842 may now choose to apply the risk-free rate as the discount rate for any class of underlying asset. A lessee’s policy election regarding the classes of underlying asset to which it will apply the risk-free rate should be consistently applied.

17.3.1.10 ASU 2023-01 on Common-Control Arrangements

In March 2023, the FASB issued ASU 2023-01, which amends certain provisions of ASC 842 that apply to arrangements between related parties under common control. Specifically, the ASU:

Offers private companies, as well as not-for-profit entities that are not conduit bond obligors, a practical expedient that gives them the option of using the written terms and conditions of a common-control arrangement when determining whether a lease exists and the subsequent accounting for the lease, including the lease’s classification.
Amends the accounting for leasehold improvements in common-control arrangements for all entities.

17.3.1.10.1 Practical Expedient That Allows the Evaluation of Written Terms and Conditions of a Common-Control Arrangement

ASC 842 requires entities to determine whether a related-party arrangement between entities under common control is a lease on the basis of the legally enforceable terms and conditions of the arrangement. The accounting for a lease depends on the enforceable rights and obligations of each party as a result of the contract. This principle applies irrespective of whether such rights or obligations are included in the contract or explicitly or implicitly provided outside of the contract (i.e., there may be enforceable rights or obligations that extend beyond the written lease contract). See Section 8.3.5.2 for further discussion of the accounting for related-party leases between entities under common control.

As part of the FASB’s postimplementation review of ASC 842, private companies asserted that this requirement creates unnecessary cost and complexity for financial statement preparers, since the terms and conditions of such common-control lease arrangements may lack sufficient details, may be uneconomic, or may be changed without approval, given that one party in the common-control group generally controls the arrangement. Therefore, stakeholders have indicated that it is challenging to determine the legally enforceable terms and conditions of these arrangements and that legal counsel may need to be involved in making this determination, thereby incurring additional cost.

In response to that feedback, the ASU provides an optional practical expedient under which private companies, as well as not-for-profit entities that are not conduit bond obligors, can use the written terms and conditions of an arrangement between entities under common control to determine (1) whether a lease exists and (2) the subsequent accounting for (and classification of) the lease. This practical expedient can be applied on an arrangement-by-arrangement basis, and an entity is not required to consider the legal enforceability of such written terms and conditions. However, if no written terms and conditions of an arrangement between entities under common control exist, an entity is not allowed to elect the practical expedient and is required to apply ASC 842 in a manner consistent with how it is applied to other arrangements.

17.3.1.10.2 Accounting for Leasehold Improvements in Common-Control Arrangements

Under ASC 842, a lessee is generally required to amortize leasehold improvements that it owns over the shorter of the useful life of those improvements or the lease term. See Section 8.8.3 for further discussion of lessee accounting related to leasehold improvements.

As part of the FASB’s postimplementation review of ASC 842, some stakeholders stated that leasehold improvements associated with leases between entities under common control are economically different from those associated with leases between entities not under common control. In lease arrangements between entities not under common control, leasehold improvements made by the lessee can either be for the lessee’s own benefit or for the benefit of the lessor. However, leasehold improvements made under leases between entities under common control are expected to benefit the parties under the common-control arrangement. Therefore, private-company stakeholders have noted that, in a lease arrangement between entities under common control, the amortization requirements of ASC 842 are inconsistent with the underlying economics of the arrangement, since (1) the lessee may continue to control the use of the underlying asset after the lease term and (2) another party in the common-control group may benefit from the leasehold improvements after the lessee no longer controls the use of the underlying asset.

In response to that feedback, ASU 2023-01 requires a lessee in a common-control lease arrangement to amortize leasehold improvements that it owns over the improvements’ useful life17 to the common-control group, regardless of the lease term, if the lessee continues to control the use of the underlying asset through a lease.

In situations in which a lessee obtains control of an underlying asset through a lease with an unrelated party not under common control and subsequently subleases the asset to an entity under common control, the sublessee would generally amortize the leasehold improvements over a period that does not exceed the term of the lease between the lessee/intermediate lessor and the unrelated party. However, if the lease between the lessee/intermediate lessor and the unrelated party contains an option to purchase the underlying asset and the lessee/intermediate lessor is reasonably certain to exercise that option, the leasehold improvements should be amortized over the useful life to the common-control group.

Further, a lessee that no longer controls the use of the underlying asset will account for the transfer of the underlying asset as an adjustment to equity (i.e., as with a transfer of assets between entities under common control).

This amendment applies to all entities. The FASB believes that this issue is pervasive and that all entities are currently applying multiple methods to account for leasehold improvements in leases between related parties under common control. For example, according to the FASB, some entities are accounting for these leasehold improvements by (1) amortizing them over the shorter of the lease term or the useful life of the leasehold improvements, (2) amortizing them over the lease term to an estimated salvage value and accounting for the unamortized balance as a transfer between entities under common control at the end of the lease term, or (3) amortizing them over the lease term with a portion recognized as a lease payment. Accordingly, the FASB’s objective is to eliminate this diversity in practice by requiring both public and private entities to apply these amendments.

17.3.1.10.3 Transition and Effective Date

ASU 2023-01 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years. Early adoption is permitted in any annual or interim period as of the beginning of the related fiscal year.

In relation to the practical expedient offered by ASU 2023-01, entities that have not adopted ASC 842 on or before the effective date of ASU 2023-01 must apply the transition requirements of ASU 2016-02. Entities that have adopted ASC 842 before the effective date of ASU 2023-01 can apply the amendments in either of the following ways:

Prospectively to arrangements that commence or are modified on or after when the entity first applies ASU 2023-01.
Retrospectively to the beginning period in which an entity applied ASC 842 for arrangements that existed as of the adoption date of ASU 2023-01. The practical expedient cannot be applied to common-control arrangements that no longer exist as of the adoption date.

In addition, ASC 842-10-65-7(d) states, in part, that “[a]n entity may document any existing unwritten terms and conditions of an arrangement between entities under common control before the date on which the entity’s first interim (if applicable) or annual financial statements are available to be issued.”

Regarding the amendment related to accounting for leasehold improvements in common-control arrangements, entities that have not adopted ASC 842 on or before the effective date of ASU 2023-01 may apply the transition requirements of ASU 2016-02. However, entities that elect to retrospectively apply ASU 2016-02 to the beginning period of adoption are allowed to apply either of the prospective approaches described below to avoid retrospectively accounting for leasehold improvements associated with common-control leases.

Entities that have adopted ASC 842 before the effective date of ASU 2023-01 have the option of using one of the following adoption methods:

Prospective application to all new leasehold improvements recognized on or after the date on which the entity first applies the amendments in ASU 2023-01.
Prospective application to all new and existing leasehold improvements recognized on or after the date on which the entity first applies the amendments in ASU 2023-01, with any remaining balance of leasehold improvements amortized over their remaining useful life to the common-control group determined as of that date.
Retrospective application to the beginning of the period in which an entity first applied ASC 842; any leasehold improvements that otherwise would not have been amortized or impaired would be recognized through a cumulative-effect adjustment to opening retained earnings at the beginning of the earliest period presented in accordance with ASC 842.

17.3.2 Other FASB Activity

Since its issuance of ASU 2016-02 in February 2016, the FASB has met on numerous occasions to discuss implementation and interpretive issues that have arisen in practice and that various stakeholders have communicated to the Board. The table below summarizes the topics discussed at these meetings (organized by subject matter) and provides links to where each issue, the related guidance, or both are discussed in more detail in this Roadmap. When a topic was discussed at several meetings, only the meeting that reflects the final status of the topic is included. Further, the table below does not include the topics that ultimately resulted in standard setting (e.g., land easements, transition relief, lessor’s separation of lease and nonlease components, narrow-scope improvements for lessors, and common control arrangements), since these are discussed elsewhere in this Roadmap.

Topic or Issue	Summary of Board Discussion	Meeting Date	Roadmap Reference
Scope, Identifying a Lease, and Components of a Contract
Pipeline laterals	The Board discussed “whether a pipeline lateral is an identified asset under Topic 842, and, if so, how an entity determines whether the customer has the right to control the use of that pipeline lateral throughout the period of use (that is, whether there is a lease of the pipeline lateral).” The Board agreed that, under ASC 842-10-15-16, a pipeline lateral is an identified asset and that the assessment of whether it is a lease must focus on whether the customer has the right to control the use of the identified asset in accordance with ASC 842-10-15-4. While highlighting that the specific facts and circumstances of each arrangement must be considered, the staff discussed two types of pipeline laterals.	May 10, 2017	Sections 3.3.2.1 and 3.4.2.1.2.2
Lease Term, Lease Payments, and Discount Rate
Determining the term of a head lease in a lease/sublease arrangement	Some have suggested that, when a sublease has the same contractual terms as the head lease, it is unclear how an entity determines the lease term of the head lease. For example, some believe that if lessee renewal options are included in a sublease, the head lessee’s lease term (for the head lease) must include the periods covered by those renewal options. The Board, acknowledging that ASC 840 is silent on this issue, does not believe that the guidance in ASC 842-10-30-1(c) should be interpreted as meaning that all renewal options outside the lessee’s control must be included in the term of the head lease.	November 30, 2016	Section 12.2.1
Testing operating leases for impairment	Stakeholders have questioned whether the interest portion of an operating lease payment should be included as a cash outflow in the determination of the undiscounted cash flows used in the asset group recoverability test. The Board generally agreed that lessees should exclude interest payments when calculating the undiscounted cash flows in the assessment of an asset group for impairment under ASC 360. However, some Board members also believe that an entity’s decision to include interest in its impairment analysis could be viewed as an accounting policy election.	November 30, 2016	Section 8.4.4
Lessor Accounting
Accounting for impairment of operating lease receivables	Stakeholders have raised questions about whether lessors that are accounting for the impairment of operating lease receivables should only apply the guidance in ASC 842-30, or whether they are allowed to also apply ASC 450 to record a general allowance on a lease portfolio level. Before adopting ASC 842, lessors would typically apply the guidance in ASC 310, which refers to ASC 450 and requires an entity to accrue a general allowance if certain conditions are met. While the establishment of a general reserve under ASC 842-30 is not specifically prohibited, ASC 842-30-25-12 and 25-13 indicate that a lessor must evaluate the collectibility of operating lease payments at the individual lease level. If the collectibility of an individual lease is determined not to be probable, the lessor must derecognize any receivable previously recorded for this lease and must recognize revenue on an ongoing basis only when cash is received. The lessor will continue to account for revenue on a cash basis and will not establish a receivable until it is once again probable that the operating lease payments for that lease will be collected. The Board observed that there is diversity in practice related to whether an entity records a general reserve in addition to performing the collectibility assessment on a lease-by-lease basis as prescribed by ASC 842-30. The Board also acknowledged that when a general reserve is applied, there is diversity in practice in the income statement treatment of the allowance as either a reduction to revenue or bad-debt expense. In response to stakeholder concerns, the FASB staff cited two methods that an entity can use to account for the impairment of operating lease receivables: Recognize impairment only at the individual lease level. Recognize a general allowance in accordance with ASC 450 in conjunction with applying the guidance within ASC 842-30. The FASB staff agreed that under the second approach, the income statement treatment of the general allowance (i.e., the offsetting entry related to setting up and adjusting the allowance) could be a reduction of revenue or a bad-debt expense. The FASB staff determined that additional standard-setting activity related to this issue is unnecessary at this time.	July 17, 2019	Section 9.3.9.2.1
Transition
Impact of prior asset group impairments of operating lease ROU asset measurement	Some stakeholders have suggested that it is unclear whether an entity would be expected to allocate prior-period asset group impairments to the operating lease ROU asset when transitioning to ASC 842. The Board stated that a lessee should not revisit prior impairment allocation conclusions and should not include any previous impairments in the measurement of an ROU asset upon adopting the guidance.	November 30, 2016	Section 16.3.1.1.2
Whether an entity should apply the guidance in ASC 840 or ASC 842 during transition	The FASB staff highlighted that it had “received several specific transition inquiries.” Therefore, while not answering any specific inquiry, the staff believed that it was important to highlight the Board’s objectives in its transition decisions in the hope that it would resolve future questions that stakeholders may have. Two core objectives of transition were discussed: Leverage existing systems and processes for in-place leases. Limit optionality. In addition, the discussion highlighted the following key outcomes of the Board’s transition provisions: “Leases entered into on or after the effective date of Topic 842 should always be accounted for by applying the guidance in Topic 842.” “Leases that have ended before the date of initial application . . . require no transition accounting.” The Board agreed with the staff’s analysis and did not suggest any additional standard setting at this time.	May 10, 2017	Chapter 16
Lessor transition issue related to the allocation of contract consideration between revenue and lease components	ASC 606 requires entities to assess whether a contract is partially within the scope of ASC 606 and partially within the scope of other ASC topics (e.g., ASC 840). ASC 606 also provides guidance on how to separate the components of a contract that are within the scope of different ASC topics. Separation is based on the guidance in the other ASC topics if such guidance exists; otherwise, separation is based on the guidance in ASC 606 (i.e., it is based on the relative stand-alone selling price). As a result, the adoption of ASC 606 could affect contracts that include both revenue and lease components. The question addressed by the Board was whether the application of ASC 606 to prior periods should have an impact only on the revenue component of a contract or whether a lessor is required to reassess the accounting for the entire contract, including lease components. The accounting for the lease component could change if the transaction price is allocated on the basis of the relative stand-alone selling price and the amount allocated to the lease component is affected by the adoption of ASC 606. The Board decided that an entity is not required to reallocate contract consideration between revenue and lease components when it adopts ASC 606. In other words, application of ASC 606 should only affect the accounting for the revenue components of contracts and not the lease components. The Board indicated that it will reflect this discussion in the meeting minutes rather than requiring future standard setting.	June 21, 2017	Section 16.7

17.3.3 Ongoing FASB Activity

The FASB currently has no items related to ASC 842 on its technical agenda. The Board had directed its staff to identify potential improvements to the lease modification model in response to both comment-letter feedback and discussion at the September 2020 public roundtables (see the next section for more information about the roundtables). However, although the Board will consider such improvements at future meetings, it decided to remove the lease modification project from its technical agenda in June 2022. The Board will most likely consider whether targeted refinements to the lease modification model are warranted as part of its broader postimplementation review of ASC 842.

17.3.3.1 FASB 2020 Public Roundtables

On September 18, 2020, the FASB held two public roundtables to discuss challenges with implementing ASC 842. These roundtables were part of the FASB’s broader ongoing effort to solicit feedback from stakeholders on difficulties with applying or interpreting the leasing guidance. Present at the roundtables were all then-current FASB board members, members of industry groups, preparers (from both public and private companies), users, and representatives from accounting firms (both large firms and private-company auditors). Representatives from the SEC and PCAOB staffs also observed the meeting.

The table below summarizes the five topics that were identified by the FASB staff through its outreach efforts and discussed at the roundtables. In addition to these five topics, roundtable participants discussed (1) related-party leases, (2) useful lives of leasehold improvements, and (3) diversity in practice related to multiple acceptable cash flow presentation methods. On the basis of the feedback received during the roundtable discussion, the FASB staff plans to draft proposed action steps for each topic, which may include conducting additional outreach, issuing educational materials or interpretive guidance, proposing standard-setting activity, or taking no further action (i.e., the current guidance in U.S. GAAP would remain unchanged and no additional clarification would be required). The FASB’s public comments, if any, regarding its plans related to each of these topics are noted in the table below.

For more information about the public roundtable discussions, see Deloitte’s September 28, 2020, Heads Up.

FASB Agenda Topics	Areas of Focus
Lessee’s application of rate implicit in the lease	ASC 842-20-30-3 requires lessees to use the rate implicit in the lease as an input in measuring the lease liability if that rate is “readily determinable.” If that rate is not readily determinable, the incremental borrowing rate is used. The FASB staff wanted to understand whether the requirement for lessees to consider the implicit rate should be eliminated from ASC 842. Stakeholders at the roundtable discussion generally agreed that no change to ASC 842 is required for this topic. Most large accounting firms observed that they are not frequently receiving questions on how to apply the phrase “readily determinable,” and preparers generally agreed that they have not struggled with applying this phrase. However, certain stakeholders noted that a lack of questions on this topic does not necessarily mean that preparers would not rather use the rate implicit in the lease. While most participants agreed that they would prefer not to change existing GAAP, some either supported or were not opposed to an option for lessees to determine and use the rate implicit in the lease (such a determination would involve estimating lessor inputs), since such an option would provide financial reporting results that are more faithful to the economics of the underlying transaction. These individuals argued that enhanced financial reporting in these scenarios would outweigh the decrease in comparability that would result from introducing optionality. In addition, stakeholders generally agreed that the rate implicit in the lease can be readily determined when the lessee knows all material inputs in the model (e.g., initial direct costs are immaterial).
Lessee’s application of incremental borrowing rate	ASC 842 gives non-PBEs the option of using a risk-free rate rather than an incremental borrowing rate. Given the time and effort it takes to estimate the incremental borrowing rate, the FASB staff considered whether ASC 842 should also give PBEs the option of using a risk-free rate or some other specified rate. Roundtable participants generally indicated that the current incremental borrowing rate related requirements should not change for public companies and that they would prefer that the FASB not release incremental guidance or examples on this subject. Preparers indicated that, though the cost of creating new processes for determining the incremental borrowing rate was greater than they had initially expected, they did not believe the postimplementation cost would be as significant because of the investment in the processes during adoption. Financial statement users indicated that they use the disclosure of an entity’s incremental borrowing rate in evaluating and comparing different entities. However, most participants were in favor of adjusting the guidance for non-PBEs. Most supported amending ASC 842 to allow non-PBEs to elect to use the risk-free rate on an asset-class basis rather than an entity-wide basis. During the discussion, certain participants acknowledged that giving non-PBEs the option of using the risk-free rate could be arbitrary and may not have any conceptual basis. Most participants therefore supported the Board’s consideration of whether it may be more appropriate for non-PBEs to elect to use a different rate as an accounting policy on an asset-class basis. In response to these considerations, the FASB added to its technical agenda a project on amending ASC 842 to allow non-PBEs to elect the risk-free rate by asset class, which ultimately resulted in the issuance of ASU 2021-09. See Section 17.3.1.9.
Embedded leases	Many entities have adopted capitalization thresholds for identifying and accounting for embedded leases and do not record leases below the established threshold. (See Section 2.2.5.2 for further discussion of considerations related to capitalization policies.) The discussion of embedded leases at the public roundtables focused on whether the FASB should amend ASC 842 to include a specific quantitative or qualitative threshold for entities to use when evaluating such leases. Many roundtable participants were not in favor of amending the guidance in ASC 842 on identifying embedded leases. Some participants acknowledged that implementing a quantitative threshold would increase convergence with IFRS Accounting Standards.17 However, many believed that such an amendment would create an incentive for an entity to structure a contract to preclude arrangements from being within the scope of ASC 842 even if the aggregation of low-dollar-value leases could be material. There was also discussion of the broader definition of a lease and whether certain contracts that currently meet the definition are conceptually appropriate. Specifically, participants discussed whether an underlying asset operated by the lessor could be considered under the lessee’s control and therefore result in the identification of a lease. However, most participants did not support amending the U.S. GAAP definition of a lease. See Section 3.2.2 for further discussion of embedded leases.
Lease modifications	ASC 842 requires an entity to reassess whether a contract is or contains a lease in the event of a lease modification. The standard defines “lease modification,” in part, as a “change to the terms and conditions of a contract that results in a change in the scope of or the consideration for a lease.” If the modified contract is or contains a lease, the entity analyzes whether the modification should be accounted for as a separate contract or a continuation of the existing contract. See Section 8.6 for more information about evaluating lease modifications. When the modification is not accounted for as a separate contract, a lessee is required to reassess lease classification, remeasure its lease liability (which includes updating the discount rate as of the effective date of the modification), and reallocate consideration in the contract by using updated stand-alone prices as of the effective date of the modification. Similarly, if a modification is not accounted for as a separate contract for a lessor, a lessee will also need to reassess lease classification and reallocate consideration in the contract. The complexity involved in applying the modification framework led the FASB staff to address this discussion topic at public roundtables. In summary, all stakeholders agreed that they would support the Board’s moving forward with exploring how to reduce the cost and complexity for preparers in applying the modification framework. However, the discussion did not focus on how the framework should change to accomplish that objective. Representatives of the large firms discussed and generally supported a simplified model for “minor” modifications. Preparers were also receptive to this idea but questioned how a simplified model could be employed within their systems and processes and whether “minor” should be a quantitative or event-based threshold. The FASB added a project to its technical agenda to consider whether targeted improvements to the lease modification guidance in ASC 842 are warranted. However, the Board subsequently removed this project from its agenda in June 2022.
Lessee allocation of fixed and variable payments	ASC 842 requires a lessee to identify the separate lease and nonlease components of a contract and allocate the total consideration provided in that contract to each of those components on the basis of their respective stand-alone prices.18 When a lease contract has lease and nonlease components along with variable and fixed payments, the application of the guidance can be difficult and, some have argued, can result in accounting that potentially does not reflect the economics of lease transactions. However, ASC 842 already provides lessees with a practical expedient related to combining lease and nonlease components and accounting for the entire contract as a lease, which eliminates the operational burden of allocating payments between lease and nonlease components. On the basis of stakeholder feedback, the FASB staff questioned whether ASC 842 should be amended to require the allocation of fixed and variable payments solely to a lease or nonlease component if certain conditions are met. Preparers that participated in the roundtable and have already adopted ASC 842 were not in favor of U.S. GAAP changes in this area. They noted that most had adopted the practical expedient to combine lease and nonlease components for asset classes for which the lease components were expected to be greater than their capitalization thresholds. These preparers expressed concern that changes to existing guidance would be difficult and costly to implement retrospectively and that prospective adoption would cause comparability concerns for a significant period given the length of many lease contracts. Public-company preparers indicated that if the amended guidance continued to allow for the combination of lease and nonlease components, they would continue to make that election and would not change their current accounting methods. Private-company preparers expressed their belief that one of the reasons entities have elected to combine lease and nonlease components is that the allocation guidance is very difficult to understand and implement. They argued that if the allocation guidance for lessees were aligned with the allocation objective in ASC 606, more entities would be able to separate lease and nonlease components and financial reporting would improve as a result. Large firms generally seemed to believe that a change to align the allocation guidance for lessees with ASC 606 was conceptually supportable but that such a change may not be necessary because they expected most entities to adopt the practical expedient to combine lease and nonlease components.

17.3.4 FASB’s Response to the COVID-19 Pandemic

On April 8, 2020, the FASB met to discuss its ongoing efforts to monitor and respond to the impact of COVID-19 on the preparation of financial statements under U.S. GAAP, including the related accounting and financial reporting implications. Specifically, the Board discussed proposals to delay the effective dates of certain recently issued standards, including ASC 842, for certain entities. The Board later finalized this proposed deferral for certain entities on June 3, 2020, by issuing ASU 2020-05. (See Chapter 16 for more information.) Further, the FASB discussed and provided feedback on technical inquiries received from stakeholders regarding certain accounting topics affected by COVID-19, including staff guidance on how to account for rent concessions provided as a result of the pandemic.

On April 10, 2020, the FASB issued a staff Q&A (the “Staff Q&A”) to provide guidance on its remarks at the April 8 Board meeting about accounting for rent concessions resulting from the COVID-19 pandemic. Specifically, the Staff Q&A affirms the discussion at the April 8 meeting by allowing entities to forgo performing the lease-by-lease legal analysis to determine whether contractual provisions in an existing lease agreement provide enforceable rights and obligations related to lease concessions as long as the concessions are related to COVID-19 and the changes to the lease do not result in a substantial increase in the rights of the lessor or the obligations of the lessee. In addition, the Staff Q&A affirms that entities may make an election to account for eligible concessions, regardless of their form, either by (1) applying the modification framework for these concessions in accordance with ASC 840 or ASC 842 as applicable or (2) accounting for the concessions as if they were made under the enforceable rights included in the original agreement and are thus outside of the modification framework.

See Deloitte’s March 25, 2020 (updated January 11, 2021), Financial Reporting Alert for more information on applying the FASB’s relief related to qualifying concessions as well as interpretive responses to frequently asked questions.

Footnotes

See Section 17.3.2 for additional FASB activity related to the accounting for impairment of operating lease receivables.

ASU 2019-10 delayed the effective date of the leasing standard (ASU 2016-02) for all nonpublic companies. ASU 2020-05 further delayed the effective date for all nonpublic companies, as well as for certain public NFPs. (See further discussion in Section 16.1.) The effective date for nonpublic companies is annual periods beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022. The effective date for public NFPs that qualify for the deferral under ASC 842-10-65-1(a) is annual periods beginning after December 15, 2019, and interim periods therein. The effective date for all other public companies remained unchanged. The delayed effective date also applies to all ASUs associated with ASU 2016-02.

See footnote 3.

ASC 326 includes both legacy impairment guidance moved from other Codification sections and credit losses guidance introduced by ASU 2016-13. Some of the guidance moved from other Codification sections was also amended by ASU 2016-13.

The purpose of the TRG is not to issue guidance but instead to seek and provide feedback on potential issues related to implementation of the credit loss standard.

Quoted material is from the TRG’s June 11, 2018, meeting handout.

See footnote 3.

For PBEs and entities within the scope of ASC 842-10-65-1(a), ASU 2021-05 is effective for fiscal years beginning after December 15, 2021, and interim periods within those fiscal years. For all other entities within the scope of ASC 842-10-65-1(b), the ASU is effective for fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022.

ASC 842 does not address what is meant by the phrase “class of underlying asset.” Before ASU 2021-09, entities were allowed to make other accounting policy elections by class of underlying asset, so entities may already have policies in place for how to define asset class. See Section 4.3.3.1 for information about applying this concept.

ASC 842-20-50-10, which is added by ASU 2021-09, states: “A lessee that makes the accounting policy election in paragraph 842-20-30-3 to use a risk-free rate as the discount rate shall disclose its election and the class or classes of underlying assets to which the election has been applied.”

The cumulative-effect adjustment to the lease liability and corresponding ROU asset should be calculated by using the remaining lease term and the discount rate as of the date of the adoption of ASU 2021-09. This calculation applies to all leases existing as of the ASU’s adoption date.

As clarified by ASU 2021-09, the risk-free rate can only be applied for lessee leases when the rate implicit in the lease is not readily determinable.

This represents a change from the proposed ASU, which stated that leasehold improvements associated with common-control leases should be amortized over the economic life of the leasehold improvements rather than their useful life. The FASB made the change primarily because (1) the amortization period should be limited to the period in which the common-control group can direct the use of the underlying asset, (2) amortizing the leasehold improvements over the useful life to the common-control group would be consistent with the period used by a lessee when applying the impairment guidance in ASC 360, and (3) it could be challenging for a lessee to determine the economic life of a leasehold improvement since it may be required to consider factors outside the common-control group in such circumstances.

Under IFRS 16, an entity may exclude leases for which the underlying asset is of low value from its ROU assets and lease liabilities. See paragraphs B3–B8 of IFRS 16 for information on assessing whether an asset is of low value. Also see Appendix B for a summary of the differences between ASC 842 and IFRS 16.

See Sections 4.1 and 4.2 for additional guidance on identifying the separate lease and nonlease components, respectively. See Section 4.4 for guidance on determining and allocating consideration in the contract to the identified lease components.