Case 1: Leila Company began an operating lease arrangement with Debco Industries,

which was slated to begin on January 1, at monthly lease payments of $10,000.

However, Debco�s negligence prevented Leila from moving in on time�since it failed
to clean up the place adequately enough to earn a Certificate of Occupancy from the
township. Thus, on January 1, Leila spent $5,000 for leasehold improvements, which
enabled her to obtain the needed Certificate of Occupancy on April 1. In any event,
Leila paid Debco all the required $30,000 lease payments and has decided not to
pursue legal action for the �un-ready� building. However, can Leila defer the
$30,000 January-March lease payments over the remaining 33 months of the lease
contract?
Solution:
First step in solving this case is to identify the actual problems. The main
problem that is identified from the case is �Whether a lessee can defer particular
portions of any payment related to operating lease for those conditions which are
beyond its control?� In other words, the operating lease periods must begin only
when payments are being made or whenever the lessee is taking the asset�s operating
control.
In order to solve this case, terms like operating lease, capitalization of
interest, other costs and leasehold improvement must be clearly understood.
ASC 840-20-25-2 deals with certain operating lease agreements which specify about
the rent schedule increases over the period of lease term may be for instance, for
inducing the rent holiday for lessee, to make a reflection of anticipated effects
of inflation and so on. In other words, it mentions that the lessees must consider
the inducement of rent holidays to be a part of the operating lease. ASC 840-20-25-
3 clearly mentions that �Physical period� for which the rental property is
available for the use to the lessee is considered to be a better indicator for the
amortization of rental contract rather than any of the payment periods.
According to ASC 840-30-25-3 lessees must be in a position to account for the
increase in schedule rate over the period of time, that the lessee will be in a
position to take possession or have any control over the property.
Next is the FASB ASC 835-20-15-2 is considering the time that is needed for getting
the property to get ready for the intended use as the primary criteria in order to
ascertain the period of capitalization. Similarly, FASB ASC 835-20-15-5 can also be
referred to as this provides for information related to the assets whose interest
can be capitalized in elaborate.
From the above analysis it is clear that Leila must amortize the amount of $30,000
over the remaining 33 months of the lease contract.
Reference to the sections