In our last blog, we explained how to account for leases where the tenant must take additional property (or expand) in the future. Today’s blog addresses accounting for leases which include a termination at will option. It was inspired by the following question we received:
We have a lease with a landlord with escalated lease payments. However, the lease also comes with a termination right, which states “Tenant shall have the one-time right to terminate the lease at certain date”. Since there is no termination penalty and we have not installed any leasehold improvements, we assume we will terminate the lease at will. Since between the commencement date and termination date, there is no rent escalation, no straight-line schedule was prepared. Now the deadline to submit the termination notice has passed and we decided not to terminate. Does that mean we should start to prepare the straight-line schedule? Since the commencement date has been long passed, I am guessing we would have to true up the straight-line receivable to what it should be as of today assuming there is no termination right at all. Could you shed some light on this situation? Please let me know if I didn’t make it clear for you to understand. Thanks a whole bunch!
This is an excellent question, and as is always the case with excellent questions, there are significant accounting implications here. To address this, we will discuss the underlying accounting first, then, as we always do with our blogs, we will follow up with a comprehensive example.
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