Search within this section
Select a section below and enter your search term, or to search all click Leases
Favorited Content
8.11 Leasehold improvements
Publication date: 31 Oct 2023
us PwC Leases guide 8.11
In accordance with ASC 842-20-35-12, leasehold improvements are amortized over the shorter of the useful life of those leasehold improvements or the remaining lease term. However, if the lease transfers ownership of the underlying asset to the lessee or the lessee is reasonably certain to exercise an option to purchase the underlying asset, the lessee should amortize a leasehold improvement to the end of its useful life.
Leasehold improvements shall be amortized over the shorter of the useful life of those leasehold improvements and the remaining lease term, unless the lease transfers ownership of the underlying asset to the lessee or the lessee is reasonably certain to exercise an option to purchase the underlying asset, in which case the lessee shall amortize the leasehold improvements to the end of their useful life.
There is an exception for leasehold improvements related to common control leases, further discussed in LG 8.11.1.
8.11.1 Leasehold improvements related to common control leases
In March 2023, the FASB issued ASU 2023-01, Leases Topic (842): Common Control Arrangements, which requires a lessee in a common control lease to amortize related leasehold improvements over their useful lives to the common control group regardless of the lease term.
Common control leases often have short lease terms (e.g., one year) even when the commonly controlled lessee makes significant leasehold improvements with a useful life significantly longer than the lease term. The ASU was issued to address concerns by stakeholders that fully amortizing leasehold improvements over a period shorter than the useful life of the improvements may result in financial reporting that does not faithfully represent the economics or the common control nature of those improvements. One reason is because the lessee may continue to use the leased asset after the initial lease term by either extending the existing lease or entering into a new lease. Unlike transactions involving entities that are not under common control, the decision on that continued use is often controlled by a single party in the control group. Further, if the lessee ceases to use the leased asset, the leasehold improvement will often benefit another party within the control group.
While the ASU does not define “common control,” we believe it would be assessed in a similar manner to how it is discussed in BCG 7.1.1.
The guidance in ASU 2023-01 applies regardless of the lease term used for accounting purposes and for as long as the lessee controls the use of the underlying leased asset through a lease. (See LG 3.2 for details on how to determine the lease term for a common control lease.) However, if the common control lessor leases the right-of-use asset from a lessor that is not part of the same common control group and subleases the right-of-use asset to the common control lessee, the amortization period would be limited to the lease term associated with the head lease of the underlying asset. Example LG 8-3 illustrates this concept.
EXAMPLE LG 8-3
Amortizing leasehold improvements in a common control lease
Amortizing leasehold improvements in a common control lease
Lessee Co. leases a building from a lessor within the same common control group and uses a lease term of two years for accounting purposes. It installs leasehold improvements with a useful life of five years to the common control group. Over what period should the leasehold improvements be amortized?
Analysis
Lessee Co. should amortize the leasehold improvements over five years; it would not be limited to the two-year lease term (as leasehold improvements in leases not with a common control entity would be).
If Lessee Co. ceases to control the use of the underlying leased asset before the end of the leasehold improvements’ useful life to the common control group (i.e., before year five), it must account for the improvements as being transferred to the lessor. In this case, Lessee Co. would derecognize the remaining carrying amount of the leasehold improvements with a corresponding adjustment to equity (or net assets for not-for-profit entities).
8.11.1.1 Impairment of leasehold improvements in common control leases
Common control leasehold improvements are subject to the long-lived asset impairment guidance in ASC 360-10-40-4, considering the useful life to the common control group. See PPE 5.2 for impairment guidance.
8.11.1.2 Changes to common control group
If after the commencement date, the lessee and lessor become part of the same common control group or are no longer within the same common control group, any change in the required amortization period for the leasehold improvements should be accounted for prospectively as a change in accounting estimate in accordance with ASC 250-10-45-17.
8.11.1.3 Transition and effective date of ASU 2023-01
ASU 2023-01 is effective for all entities in fiscal years beginning after December 15, 2023, including interim periods within those fiscal years. Early adoption is permitted for both interim and annual financial statements that have not yet been made available for issuance. If an entity adopts the new guidance in an interim period, it should adopt as of the beginning of the fiscal year that includes that interim period.
Entities adopting the new guidance concurrently with ASC 842 may follow the same transition requirements used to apply ASC 842 or may use either of the prospective approaches described below. All other entities are required to apply the new guidance using one of the following methods:
- Prospectively to all new leasehold improvements recognized on or after the date that the entity first applies ASU 2023-01
- Prospectively to all new and existing leasehold improvements recognized on or after the date that the entity first applies ASU 2023-01, with any remaining unamortized balance of existing leasehold improvements amortized over their remaining useful lives to the common control group determined at that date
- Retrospectively to the beginning of the period in which the entity first applied ASC 842 for leasehold improvements that exist at the date of adoption of ASU 2023-01, with any leasehold improvements that otherwise would not have been amortized or impaired recognized through a cumulative-effect adjustment to the opening balance of retained earnings at the beginning of the earliest period presented
8.11.1.4 Disclosure
When the useful life of the leasehold improvements to the common control group exceeds the related lease term, a lessee is required to disclose the following information:
- The unamortized balance of the leasehold improvements at the balance sheet date
- The remaining useful life of the leasehold improvements to the common control group
- The remaining lease term
PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details. This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors.
Link copied
