Lease Standard Education Series for Nonprofits – Building Lease Example, No Change in Lease Classification

• October 20, 2022
• Robert Zuengler

In the last installment we covered a copier lease example, and, in this installment, we look at a building lease.  In this example, the building lease is modified to extend the lease term, however, there was no change in lease classification.

Pre-Modification Facts

ABC Nonprofit (Lessee) and XYZ Company (Lessor) entered into a new building lease on January 1, 2022. The terms of the lease and other facts important to the lease accounting are as follows:

• The lease term is January 1, 2022 through December 31, 2027 (6-year lease term).
• The remaining economic life of the new building is 40 years, and the fair value of the new building is $300,000.
• Lease payments are $25,000 per year on December 31st of each year.
• ABC Nonprofit could not determine the implicit rate in the lease, however, its incremental borrowing rate on January 1, 2022 is 5.10%.
• ABC Nonprofit paid no initial direct costs when entering into the lease.
• XYZ Company did not pay a lease incentive to ABC Nonprofit for entering into the lease.
• There was no option to purchase the building, nor was there an option to extend or terminate the lease.
• ABC Nonprofit and XYZ Company agree to modify the lease on January 1, 2025 (3 years into the lease).

Modification Facts

ABC Nonprofit and XYZ Company agree to modify the building lease on January 1, 2025. The modified terms of the lease and other facts important to the lease accounting are as follows:

• The lease term was extended from December 31, 2027 to December 31, 2030 (extending the lease an additional 3 years).
• Lease payments are increased to $30,000 prospectively.
• ABC Nonprofit could not determine the implicit rate in the lease, however, its incremental borrowing rate on January 1, 2025 is 6.16%.
• The remaining economic life of the new building is now 37 years, and the fair value of the new building is now $400,000.
• There were no initial direct costs incurred by ABC Nonprofit, nor were there any lease incentives for the lease modification.

Lease Analysis

Based upon the facts above, the lease is deemed an operating lease relationship before and at the modification date. Below are charts walking through the lease analysis performed:

Initial Lease Analysis

Modification Lease Analysis

Lease Accounting

Based upon the facts above, ABC Nonprofit would recognize a lease liability and ROU asset equal to each other due to no initial direct costs incurred, lease incentives, and because they didn’t make any lease payments on or before January 1, 2022. Based upon the present value calculation performed, the lease liability and ROU asset would equal $126,429.  The initial entry recorded would be as follows:

The tables below represent the lease liability and related journal entry information for each year up to the lease modification date of January 1, 2025. ABC Nonprofit should use the operating lease journal entries presented in our prior copier lease installment.

At the modification date of January 1, 2025, ABC Nonprofit needs to reassess its lease liability and ROU asset to properly reflect the changes in circumstances agreed upon in the modified lease. Additionally, ABC Nonprofit needs to reassess the lease classification based upon the modified terms and remeasure the lease liability using their incremental borrowing rate at the modification date of January 1, 2025.  Based upon the modifications above, the present value calculation indicates that the lease liability and ROU asset should now be $146,755. ABC Nonprofit adjusts their pre-modification balances to the new modified balance as follows:

The tables below represent the lease liability and related journal entry information for each year through the modified lease term. ABC Nonprofit should continue to use the operating lease journal entries presented in presented in our prior copier lease installment.

How CLA Can Help?

The new lease standard is here. Be proactive to understand its impact on your nonprofit. CLA has the lease resources to help assess its impacts beyond general accounting and financial reporting, and walk you through readiness assessment, software selection and analysis, and implementation.

A turnkey lease accounting option can include: 

• Assistance to identify and analyze leases that are subject to the standard
• Delivery of leased asset schedules, journal entries, and comprehensive footnote disclosures
• Updated and revised information at future interim or annual periods based on your needs

Lease Education Series

Stay tuned! In our next post we are taking a dive deeper into this new standard, looking at our third example – a building lease, with a change in lease classification.

In case you missed or would like to recall upon any prior content, below is a running list of the educational series:

Series Introduction

Lease Standard Basics

Discount Rates

Lease Identification and Lease Term

Practical Expedients and Policy Elections

Copier Lease Example

, Accounting, Nonprofit reporting | Comments Off on Lease Standard Education Series for Nonprofits – Building Lease Example, No Change in Lease Classification