Chapter 2 — Financial Statement Accounting and Disclosure Topics

2.14 Leases

The next sections discuss comment letter trends and other observations related to the application of ASC 842, including (1) the accounting for arrangements under ASC 842 and (2) the determination of the discount rate used to measure the lease liability and right-of-use (ROU) assets recorded in accordance with ASC 842.

2.14.1 Application of ASC 842

In addition to introducing a more principles-based accounting model, ASC 842 contains many quantitative and qualitative disclosure requirements, which significantly increase the amount of information disclosed about leasing activities and related transactions. In the current year, the SEC staff issued more comments on the application of ASC 842 than it did in prior years, including comments to registrants in emerging industries such as cryptocurrency. However, consistent themes have emerged. For example, registrants have received comments on (1) how ASC 842 applies or does not apply in certain arrangements and (2) the discount rate used to calculate the amount of the lease liability and corresponding ROU asset. Other topics addressed in SEC staff comments on ASC 842 include, but are not limited to:

The identification of a lease and lease components and the lease commencement date.
The nature of expenses treated as initial direct costs.
The determination of lease classification.
The lessor’s reassessment of collectibility from the lessee.
Accounting for leasehold improvements, including amortization.
Impairment considerations related to ROU assets.
Accounting for a lease modification versus a lease termination.
The application of the sale-and-leaseback accounting requirements in ASC 842-40.
Presenting (1) operating lease ROU assets separately from finance lease ROU assets on the balance sheet and (2) lease revenue separately from revenue recorded under ASC 606.

2.14.1.1 Accounting for Arrangements Under ASC 842

Examples of SEC Comments

Please provide us your analysis supporting your revenue recognition policy for your data center hosting activities. In your response, where appropriate, reference for us the authoritative literature you relied upon to support your accounting: . . .
- Tell us your consideration of whether the agreement represents a lease under ASC 842.
Please . . . provide us with an analysis detailing whether your hosting agreements include a lease by you to the hosting agreement counterparty of the rack space you use for the mining machines covered by the agreement. In your response, please tell us how you applied the guidance in ASC Topic 842-10-15-4 through 15-8 as well as ASC Topic 842-10-15-17 through 15-26.
You indicate . . . that your [power purchase agreement (PPA)] arrangements are not accounted for as leases under ASC 842 since you have substantive substitution rights. Please tell us in further detail how you determined your PPAs met the conditions of ASC 842-10-15-10. In particular, given the nature of the assets, clarify how you benefit economically from the exercise of substitution rights. Additionally, describe to us the substitution provisions in your PPA contracts as well as your sale/leaseback contracts.
We note your disclosure . . . that you are expecting to capitalize approximately $[X] million in total undiscounted lease payments related to . . . operating lease agreements that are in various stages of construction by the landlord. In order to better understand the Company’s accounting, please confirm whether the $[X] million is related to the amount expected to comprise the ROU asset at lease commencement. Furthermore, please tell us how the Company considered the guidance in ASC 842-40-55-3 through ASC 842-40-55-5 and the examples in ASC 842-40-55-40 through ASC 842-40-55-44 in accounting for such leases. In providing your answer please clarify whether the Company is incurring any costs prior to lease commencement and how the Company is accounting for such costs.
Your disclosure indicates that “the simultaneous termination of [Lease 1] and execution of [Lease 2] represents a single transaction accounted for as a modification of [Lease 1].” Given that you vacated a building and moved to a new location, please tell us how you determined this to be a modification rather than a termination of [Lease 1] with a new lease entered into as a separate contract for [Lease 2]. Please refer to paragraphs 8 and 9 of ASC 842-10-25.

The SEC staff has asked registrants to explain how they determined whether certain arrangements should be accounted for under ASC 842 and, if so, how the guidance was applied to those arrangements. The staff has also asked registrants to explain whether any modification to a leasing arrangement has been determined to be a modification or termination of the original lease. As required by ASC 842-20-50-1, a lessee should ensure that it has appropriately disclosed qualitative information about its leases, including significant judgments used in the application of ASC 842. The information that a lessee discloses about the nature of its leases should be consistent with the disclosure objective of ASC 842 and generally is qualitative (e.g., the extent to which terms or conditions exist and a description of those terms or conditions). Registrants should ensure that their disclosures sufficiently describe how arrangements are accounted for in accordance with ASC 842, particularly when individual transactions are significant. Further, as noted in ASC 842-20-50-2, a lessee should consider the appropriate level of disclosure aggregation or disaggregation so that it avoids “including a large amount of insignificant detail or . . . aggregating items that have different characteristics.”

2.14.1.2 Discount Rate

Examples of SEC Comments

Please disclose, in your annual and interim period filings, the weighted-average remaining lease term and weighted-average discount rate for all periods presented in accordance with ASC 842-20-50-4(g).
You disclose that your leases do not provide an implicit rate and you use an estimated incremental borrowing rate based on the information available at the lease commencement date in determining the present value of lease payments. Please revise in future disclosures to clarify whether the rates implicit in your leases are not readily determinable and if that is the basis for using your incremental borrowing rate as the discount rate for your leases. Refer to “Rate Implicit in the Lease” defined in ASC 842-20-20. In addition, please provide the disclosures outlined in ASC 842-20-50 in future filings.
We note your disclosure that most of your leases do not provide an implicit rate, so you use your incremental borrowing rate. Tell us how your determination of the discount rate for your leases complies with the guidance in ASC 842-20-30-3. That is, even though your operating leases do not provide an implicit rate, explain whether the rates implicit in any of your leases are readily determinable from information provided in the lease.
We note from your disclosure . . . that the weighted-average discount rate used for finance leases is [X]% and the weighted-average discount rate used for operating leases is [Y]%. Please provide us with additional details regarding how you determined or calculated the weighted-average discount rates for each class of your leases.

The SEC staff has asked registrants to explain and revise their disclosure about the determination of the discount rate used to measure the lease liability and ROU assets recorded in accordance with ASC 842. Specifically, ASC 842-20-50-3(c)(3) states that the information a lessee is required to disclose about significant assumptions and judgments it made in applying the requirements of ASC 842 may include the “determination of the discount rate for the lease (as described in paragraphs 842-20-30-2 through 30-4).”

It is important for a lessee to consider disclosing information about the significant assumptions and judgments it used to determine its discount rate(s). For example, a lessee may need to disclose information regarding its determination of the incremental borrowing rate, such as collateral assumptions, the term used, and the economic environment in which the lease is denominated. To the extent that a portfolio approach is used to determine discount rates, a lessee should consider disclosing information about the composition of the portfolios.

In addition, since ASC 842-20-50-4(g)(4) requires lessees to disclose the weighted-average discount rate for both operating and finance leases, a lessee should consider whether the discount rate it used for some of its leases is significantly different from the discount rate it used for other leases and is therefore affecting the weighted-average calculation disclosed. In these situations, a lessee may want to consider providing additional disclosure of the discount rates that are affecting the lessee’s disclosed weighted-average rate. Further, a lessee with multiple asset classes of leases should consider providing additional disclosures on how the weighted-average discount rate was determined for each asset class, including any significant assumptions or judgments used in that calculation.

Other Deloitte Resources

Roadmap, Leases