In FAS 13 & IAS 17, when operating leases have scheduled changes in rents, such as scheduled increases for planned inflation or rent holidays, the rent expense is recognized on a level basis over the life of the lease. The difference between the rent expense and the rent paid is deferred rent liability (assuming that the rent expense is greater than the rent paid; in the rare circumstance that the rent paid is greater, there is a deferred rent asset). For lessor leases, the situation is reversed, so that the excess of level rent income over rent paid is a deferred rent asset.
When you transition to the new standard (ASC 842, IFRS 16, or GASB 87), the deferred rent liability balance is applied against [subtracted from] the right-of-use asset (See: Calculating initial liability and ROU). The journal entry for setting up the capitalized operating lease (ASC 842) or the new finance lease (IFRS 16 & GASB 87) is in the form:
|Deferred rent liability
|Long term liability
This is the only time the deferred rent liability is recognized under the new standard. It reflects clearing out the liability that has built up from inception of the lease through the last day of the old standard, which is the balance in the deferred rent liability account at the date of transition.
Adjusting Deferred Rent
There are three options to adjust deferred rent in EZLease:
- Uncheck the "Level Operating Rents" box on the Inception tab. If you uncheck the box as a revision (rather than using "replace"), you can set the revision booking date as the end of your prior fiscal year, right before transition, so the change takes effect then. You'll see reversal entries in the month before transition.
- Add an Asset Adjustment to the lease. You'd want to add a positive adjustment, equal to the deferred rent liability balance at the date of transition. That way, the deferred rent is cleared out, but the ROU asset equals the liability at transition.
- Remove the deferred rent at transition by starting the lease as of your implementation date, so that no previous activity is recorded.