lease classification criteria

Broad Transactions7

1. 842-10Overall842 Leases

   ASC 842-10 sets the scope and core mechanics common to all leases: how to decide whether a contract is or contains a lease, how to identify and separate lease and nonlease components and allocate consideration, how to classify the lease (finance/sales-type, direct financing, or operating), and how to determine lease term and lease payments. A contract contains a lease if it conveys the right to control the use of an identified item of property, plant, or equipment for a period of time in exchange for consideration — meaning the customer has both the right to obtain substantially all the economic benefits from use and the right to direct the use of that asset (842-10-15-3, 15-4). Classification is made once at the commencement date and is reassessed only on a modification not accounted for as a separate contract (or, for lessees, a change in lease term or purchase option assessment) (842-10-25-1).

2. 842-20Lessee842 Leases

   ASC 842-20 governs how a lessee accounts for leases already classified as finance or operating leases under 842-10. At commencement the lessee recognizes a right-of-use asset and lease liability measured at the present value of unpaid lease payments (842-20-25-1; 30-1); thereafter finance leases produce separate amortization and interest (842-20-25-5), while operating leases produce a single straight-line lease cost (842-20-25-6). It also covers short-term lease policy elections, remeasurement, ROU asset impairment, leasehold improvements, subleases, terminations, and extensive presentation and disclosure requirements.

3. 842-30Lessor842 Leases

   ASC 842-30 governs how lessors account for leases already classified under 842-10 as sales-type, direct financing, or operating leases. For sales-type and direct financing leases the lessor derecognizes the underlying asset and recognizes a net investment in the lease (lease receivable plus unguaranteed residual asset, discounted at the rate implicit in the lease), with selling profit recognized immediately in a sales-type lease but deferred into the net investment in a direct financing lease; interest income then accretes at a constant periodic rate. For operating leases the lessor keeps the asset on its books and recognizes lease payments as income straight-line (or another systematic and rational basis) over the lease term, and a collectibility-not-probable assessment overrides normal recognition in all three models.

4. 842-40Sale and Leaseback Transactions842 Leases

   ASC 842-40 governs sale and leaseback transactions, in which a seller-lessee transfers an asset to a buyer-lessor and leases it back. The threshold question is whether the transfer qualifies as a sale under Topic 606's control-transfer guidance; if it does, the seller-lessee derecognizes the asset, recognizes the sale at the transaction price, and accounts for the leaseback under 842-20, while the buyer-lessor accounts for the purchase under other Topics and the lease under 842-30. If the transfer is not a sale (e.g., the leaseback is a finance/sales-type lease or there is a non-fair-value repurchase option), the transaction is a failed sale accounted for as a financing by both parties.

5. 842-50Leveraged Lease Arrangements842 Leases

   ASC 842-50 preserves the legacy leveraged lease accounting model, but only for leases that existed at the ASC 842 transition date and meet the criteria in 842-10-65-1(z) — no new leveraged leases may be created. A lessor records a single net investment consisting of rentals receivable (net of nonrecourse debt service), investment-tax-credit receivable, estimated residual value, and unearned/deferred income (842-50-25-1; 842-50-30-1), and recognizes income only in years when the net investment (less related deferred taxes) is positive, using the rate of return that distributes total net income to those years (842-50-35-2). Important assumptions, including residual value and the projected timing of income tax cash flows, must be reviewed at least annually, with any change triggering recalculation from lease inception and immediate gain or loss recognition (842-50-35-6 through 35-8).

6. 842-974Real Estate—Real Estate Investment Trusts842 Leases

   This narrow subtopic tells a real estate investment trust (REIT) how much it may capitalize when a related service corporation performs leasing services for it. The service corporation is never treated as an independent third party, no matter how the REIT accounts for its investment in it (equity method, consolidation, etc.). Capitalized amounts are capped at the initial direct costs the REIT could have capitalized under 842-10-30-9 through 30-10 had it incurred the leasing costs directly.

7. 842-980Regulated Operations842 Leases

   This Subtopic addresses how rate-regulated entities account for leases when the regulator's rate-making treatment differs from Topic 842. Lease classification for financial reporting follows Topic 842 regardless of how the regulator treats the lease, but the timing of expense (or income) recognition is modified to conform to the rate treatment, with timing differences capitalized or accrued as regulatory assets or liabilities. Sale-and-leaseback timing differences are handled either as part of a phase-in plan under Subtopic 980-340 or by conforming recognition to the Regulated Operations Topic.