Another important factor that we must take into account is the concept of “material substitution rights”. Once an asset has been identified (explicitly or implicitly), we must determine whether the supplier has a substantial right to replace the asset throughout its useful life. A supplier is said to have a substantial right of replacement if both of the following conditions are met: In short, as long as we follow a structured approach and follow the definition of a lease as defined by the FASB, we can effectively identify when a contract is or contains a lease. Although there is a lot to analyze, we can keep it structured if we look at each issue individually: note that the supplier`s requirement that the customer is not allowed to transport explosives in the truck is a property right and does not affect the customer`s control element. In this scenario, the contract is a lease. So, in practice, in order to determine whether a contract is or contains a lease, we must first determine whether there is an identifiable asset and then determine whether both components of control have been met. The existence of a substantive replacement right raises the question of whether there is an identified asset and therefore a “lease”. The next question should be: “Does the contract confer the right to control the use of the identified asset?” Based on the definition of a lease, we know that the transfer of “control” plays a role, but this begs the question: “How is control defined?” According to the standard: If the answers are “Yes, No, Yes, Yes”, we have a rental agreement. The key is really to dive into these treaties. With this organized method, what may seem overwhelming now will soon be a little more accessible. To determine whether a contract confers the right to control the use of an identified asset over a period of time, a company must assess whether the customer has the following throughout the period of use: Let`s take a look at an example to summarize the whole thing. In this scenario, a customer enters into a contract for the use of a truck for a period of five years.
The truck is expressly specified in the contract and the supplier does not have the right to replace the truck. The customer decides where the truck will be driven, what load will be transported and when the truck will be used. However, the supplier points out certain restrictions in the contract, in particular the fact that the customer cannot transport explosives in the truck. Now let`s see if the contract is or contains a lease. So what does it take to determine whether an agreement is (or contains) a lease? Let`s start with the technical definition of a lease as defined in the standard: 4.6 Baseball Suites – Lease Evaluation The New York Yankees offer their customers multi-year luxury suite licenses, including 3-, 5- and 10-year licenses. Customers who sign these license agreements have the right to use a specific suite in the stadium (e.B. suite no. 25) for the data specified in the license agreement. Alternatively, customers with a more limited interest or budget can sign up for a partial season (a 20- or 41-game plan) where the customer can specify the games they want to see in the sequel. While the customer appreciates the suite, a third-party dealer (similar to Presto`s role) provides the suite`s customers with top-notch food and beverage service. Evaluate – Is a suite license a lease? Suppose a customer signs a 20-game license for certain games that take place during a single Major League Baseball season.
It`s a simple question, but what does it really take to get to the right answer? Since the FASB released the 2016-02 Accounting Standards Update, Leases or “Topic 842,” practitioners across a wide range of industries have gone to great lengths to find the best way to get the right answer for accounting purposes. Proper analysis is important because once a lease has been identified, it must be recorded on the balance sheet and the lease must then be accounted for in accordance with the 842 Theme guidelines. Mischarging an agreement as a service contract instead of a lease or failing to identify a lease element in an agreement could result in a material misrepresentation in a company`s balance sheet. While many of the changes to lease accounting caused by the new lease standard require further analysis and review, the process begins by determining whether a contract is (or contains) a “lease” under CSA 842. This may seem like a simple task, but in reality, it requires a thorough analysis and a clear definition of a lease. .