40.60.10 Right-To-Use Lease Agreements
A lease is a contract which conveys control of the right to use another entity’s capital asset, as specified in the contract, for a specific period of time in an exchange or exchange-like transaction. A lease liability and intangible right-to-use lease asset must be recorded for leases meeting the state’s capitalization policy. A contract conveys control of the right to use the asset if the lessee has both of the following:
- The right to obtain the present service capacity from use of the asset.
- The right to determine the nature and manner of use of the asset.
Short term leases are items with a maximum possible lease term of less than 12 months. Short term leases are not capitalized. Record these lease payments as a current period expenditure/expense when the state is the lessee or revenue when the state is the lessor.
Rolling month-to-month leases and leases that continue into a holdover period until a new lease contract is signed should be treated as short-term leases.
Leases where the ownership of the underlying asset transfers to the state by the end of the contract and does not contain termination options should be recorded as a financed purchase.
Colleges must record all leases that exceed the state’s capitalization threshold ($500,000 in total lease payments over the lease term) in the Facilities Portfolio Management Tool (FPMT). Colleges may record leases that do not meet the state’s threshold to assist with determining and calculating the college’s threshold and adjusting entries for financial statement purposes. The community and technical college system will not be utilizing FMPT to generate entries nor make vendor payments.
The lease term is the period during which a lessee has a non-cancelable right to use an underlying asset, including any periods covered by:
- The option to extend the lease if it is reasonably certain that option will be exercised.
- The option to terminate the lease if it is reasonably certain that option will not be exercised.
Periods for which both the lessee and the lessor have an option to terminate the lease without permission from the other party (or if both parties have to agree to extend) are cancelable periods and are excluded from the lease term, regardless of whether it is reasonably certain that option will be exercised.
For example, if the lease contains a clause that allows either the lessee or the lessor to cancel with 60 days’ notice, then the maximum term is 60 days and the lease should be accounted for as a short-term lease.
Fiscal funding or cancellation clauses should be ignored. These clauses allow lessees to cancel a lease, typically on an annual basis, if the government does not appropriate funds for the lease payments.
At the commencement of the lease term, the lease liability should be recorded at the present value of payments expected to be made during the lease term including the following:
- Fixed payments
- Variable payments that depend on an index or a rate (such as the Consumer Price Index or a market rate), measured using the index or rate as of the commencement of the lease term
- Variable payments that are fixed in substance
- Amounts that are reasonably certain to be paid under residual value guarantees
- The exercise price of a purchase option if reasonably certain that the option will be exercised
- Payments for termination penalties if it is reasonably certain that option will be exercised
- Any lease incentives receivable from the lessor
- Any other payments that are reasonably certain of being required
Variable payments – such as charges based on hours used, copier “clicks”, maintenance services, or utilities – based on future performance of the lessee or usage of the underlying asset should not be included in the measurement of the lease liability. Variable payments should be posted to:
- 5081115 - Variable Lease Payments – Equipment
- 5081245 - Variable Lease Payments – Land/Buildings
Future lease payments should be discounted using the interest rate the lessor charges the lessee. If the rate is not specifically stated in the contract, then the current interest rate the lessee would be charged at the inception of the lease to borrow the funds necessary to purchase the asset should be used.
Contracts with multiple components should be valued as a single lease contract rather than each asset within the contract. Lease contracts entered into under a master vendor agreement are separate contracts. However, if multiple contracts are negotiated as a package with a single objective, then the contracts should be combined and considered a single contract.
If a lease involves multiple underlying assets with different lease terms, each asset or group of assets with a different lease term should be treated as a separate contract. If a lease involves multiple underlying assets that are in a different major class (i.e., building and land), each asset class should be treated as a separate lease contract.
If a contract does not include prices for individual components or assets, an estimate should be used to allocate the contract price to those components. However, if a reasonable estimate cannot be determined, then the contract should be treated as a single lease contract.
Last Modified: 3/16/23, 4:36 PM