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A lessor is not subject to lease remeasurement guidance similar to the remeasurement guidance for a lessee. A lessor should account for the exercise by a lessee of an option to extend or terminate the lease or to purchase the underlying asset as a lease modification unless the exercise of that option by the lessee is consistent with the assumptions that the lessor made in accounting for the lease at the commencement date of the lease (or the most recent effective date of a modification that is not accounted for as a separate contract).
Question LG 5-9 discusses the accounting by a lessor for reimbursement of capital improvements.
Question LG 5-5
Lessor Corp and Lessee Corp enter into a 5-year operating lease of real estate on January 1, 20X1. The lease permits Lessor Corp to pass on depreciation costs to Lessee Corp for capital improvements made to the building during the lease term. The capital improvements are not an additional performance obligation promised by Lessor Corp to Lessee Corp. On January 1, 20X2, Lessor Corp completes a roof replacement project at a total cost of $100,000. Lessor Corp has determined the useful life of the improvement to be 10 years. On January 1, 20X2 Lessor Corp determines that Lessee Corp will be responsible to pay additional rent of $10,000 per year ($100,000/10 years) during the four- year remaining lease term. When should Lessor Corp recognize revenue from the additional rent it will collect from Lessee Corp?
PwC response
The amount of consideration due to Lessor Corp over the remainder of the lease term is determinable upon completion of the roof replacement. However, since the capital improvement is not a separate component, we believe Lessor Corp should record the additional rent associated with the capital improvement over the remaining lease term consistent with satisfaction of Lessor Corp’s obligation to continue to provide Lessee Corp the usage of the underlying asset over the lease term (i.e., on a straight-line basis over the reminder of the lease term, or $10,000 annually).
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