New Lease Accounting Considerations for Not-For-Profit Entities: No and Below Market Rents

It’s not uncommon for not-for-profit entities to be allowed to use real estate or equipment for no (or, de minimis) payment or for amounts that are below market rents. In these circumstances, it may be challenging to understand how a not-for-profit entity is to apply the new lease accounting guidance in ASC 842.

No payments, or de minimis payments, due

ASC 842 defines a lease as “a contract, or part of a contract, that conveys the right to control the use of identified property, plant, or equipment (an identified asset) for a period of time in exchange for consideration (emphasis added).”

Because the definition of a lease requires the exchange of consideration, the use of an identified asset without payment due or for only de minimis payments would not be a lease and is not accounted for under ASC 842. The not-for-profit entity should account for the use of the asset as a contribution in accordance with ASC 958-605. The entity would need to consider whether the use of the asset is for a specified period in accounting for the contribution.

• If no period is specified, the entity would recognize the fair value as contribution revenue and rent expense on a periodic basis.
• When a period of use is specified, the entity would initially recognize contribution revenue and a contribution receivable for the present value of the future contributed rent’s fair value. Subsequently, the entity would recognize rent expense and amortize the receivable on a periodic basis over the specified period of use.

Payments below market rents

A not-for-profit entity, in other cases, may receive rental rates that are below market rates. For example, a not-for-profit entity may enter into a lease for office space at $1,000 per month that would typically be at a rate of $5,000 per month.

In the original Accounting Standards Update’s (ASU 2016-02) Basis for Conclusions, the FASB noted that it “considered whether a lessee should initially measure the right-of-use asset at fair value because some note that it may provide more relevant information about the economic benefits to be derived from the use of the underlying asset.” However, the FASB concluded that measurement of ROU assets at cost is consistent with other guidance in US GAAP, that it would increase comparability of leased and owned assets, and that it would be less complex and costly for entities to apply than fair value measurement.

In lease contracts involving below market rents, entities must apply the guidance in both ASC 842 in relation to the lease payments made and ASC 958-605 in relation to the portion of the fair value of contributed rents in excess of the rent payments made. Using the example above, the entity would account for the $1,000 payments in accordance with ASC 842, while the excess fair value $4,000 portions would be accounted for as contributions in accordance with ASC 958-605.

Please contact our experts to learn more about lease accounting and market rent standards for the not-for-profit industry.

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