Under the new lease accounting standards of ASC 842, deferred rent classifications have become obsolete. Different businesses are wondering how such a change will reflect on the lease account balances and impact recognition of deferred taxes. Therefore, it’s important to understand how to account for deferred rent in a lease agreement under the new lease accounting rules of ASC 842.

Deferred Rent 

Deferred rent was well defined under ASC 840 lease accounting standards. It is known as a liability that occurs when actual cash paid is different from the straight-line expense recognized or recorded on the lessee’s financial statements. 

As per ASC 840, the total rent expense should be recognized on a straight-line basis during the lease period even if payments differ or vary. The lessee has the opportunity to either debit or credit the deferred rent account each month and note any difference between the amount paid and the expense recognized in the account. Eventually, the cumulative balance in the deferred rent account will be equal to zero at the end of the lease. 

Deferred Taxes 

According to ASC 740, it‘s a basic principle that deferred taxes are recorded when there are temporary differences between tax returns and financial statements. Furthermore, under ASC 740, deferred tax, or deferred rent liability, is the difference between straight-line rent and the rent deductible. The former is for book purposes, while the latter is for tax purposes. 

According to experts, the ASC 842 transition will lead to the removal of a deferred rent account on the balance sheet. Also, it won’t affect income or tax expenses. Therefore, it’s important to involve your tax team and use lease accounting software for implementing new standards.

Accounting for Deferred Rent

Deferred payment becomes a liability on the balance sheet when rent payments are less than straight-line payment expenses. Thus, accounting for the free rent period and periods thereafter is done differently. 

First, you need to add the total cost of the rent payments incurred in an entire lease period. Suppose the term of the lease is for one year and the rent for the first month is free. Thus, if the rental rate is $1,000, the total rental cost would be $11,000. 

Therefore, for every month of the lease, the average monthly rate is recorded as an expense, regardless of whether the payment was made or not. For the rest of the term, except for the first free month, the average amount is recognized as an expense. In such cases, if the offsetting happens in the rental payment and the payment and expense do not match, the difference is applied to the deferred rent account. 

Deferred Rent Accounting under ASC 842

Under the new lease accounting standards, ASC 842, straight-line rent expense on operating leases is present. But the deferred rent needs to be replaced by Right of Use Assets (ROU) and lease liability accounts. This certainly makes new lease accounting processes complex in nature. But the latest lease accounting software helps in meeting the demands of new lease accounting standards. 

Yardi Corom’s lease accounting software will help you comply with new lease accounting standards like ASC 842 hassle-free. For more details, visit https://www.yardicorom.com/lease-accounting-software/.

Sanziana Bona

Sanziana Bona is a content marketing writer for Yardi Corom, a cloud-based software solution designed for commercial tenants and corporate occupiers and Yardi Kube, an all-in-one coworking management platform. She covers many commercial real estate related topics including FASB/IFRS compliance, lease accounting, coworking and flexile spaces, and more. You can connect with Sanziana via email.

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