How do municipalities account for lease modifications?
A lease amendment is a modification unless the lessee loses some or all of the right to use the lease’s underlying asset. If that happens, it is called a partial or full lease termination.
If a separate lease contract is created when modifying the lease, the lessor and lessee must treat them as two separate lease contracts. That means they will begin accounting for the new lease as of the effective date separately while continuing to account for the original unmodified lease as usual.
If a separate contract is not created when modifying the lease, the lessee must re-measure their lease liability and adjust the value of the leased asset. Meanwhile, the lessor must mirror that by re-measuring their lease receivable and deferred inflow of resources. To do this, the present value of the remaining payments/receipts are remeasured with the new agreement details as of the date of modification. The difference between the remaining lease liability/receivable and the new present value will be the amount that needs to be adjusted. The lease asset and deferred inflow of resources will be booked for the same amount and used to balance the entry.
Examples of lease modifications include:
- Changing lease payments
- Changing lease term or renewal
- Changing residual value guarantees
- Adding lessee rights to the underlying asset
If the modification adds more underlying assets that were not within the original lease, and the payment increase is reasonable based on the new lease terms and their best professional judgment of available information, a separate contract is required.
Otherwise, a separate lease contract is not needed to accommodate the lease modification.
What’s important here?
A lease amendment is a modification provided that the lessee does not lose any rights to use the leased asset. Modifications may or may not result in a separate contract being required.
