GAP 200.070, Real Estate, Plant & Equipment Lease Agreements

I.   General

II.  Finance Lease versus Operating Lease

III. Capital Leasehold Improvements

IV. Responsibilities

V.  General Ledger Accounts

VI.  Accounting Entries

 

I. General

Real estate and equipment lease agreements are classified as either financing leases, where at the end of the lease term Duke will own the leased asset; or operating leases, where Duke will return the asset back to the owner at the end of the lease. Lease standards require lessees to record a liability for certain operating leases equal to the value of the unpaid lease payments, discounted at the rate implicit in the lease (if readily determinable), or otherwise at the lessee’s incremental borrowing rate.

The purpose of this procedure is to define and distinguish between operating and finance leases; and to outline procedures for recording both types of transactions.

 

II. Financial Lease versus Operating Lease

Each lease agreement must be reviewed to determine if it is a true rental agreement, and if so to determine the proper classification.

If, at the inception of a non-cancelable lease agreement, any of the four criteria listed below are met, then the lease should be classified as a finance lease (previously referred to as a capital lease):

1. The lease transfers ownership of the property to the lessee at the end of the lease term.

2. The lease contains a bargain purchase option. A bargain purchase option is defined as a provision allowing the lessee to purchase the leased property for a price that is substantially lower than the expected fair value of the property at the date the option becomes exercisable.

3. The lease term is 75% or more of the estimated economic life of the leased property.

4. The present value of the minimum lease payments at the beginning of the lease term, excluding executory costs, equals or exceeds 90% of the fair value of the leased property.

Consistent with Duke’s purchased asset capitalization threshold, leases that meet one of these criteria will be captured as financing leases in Duke’s lease accounting software if the asset value is greater than $5,000 and lease term is greater than one year.

If the lease does not meet any of the above criteria, and the asset value of the leased asset is greater than $150,000, and the lease term is greater than one year, the lease will be recorded as an operating lease in Duke’s lease accounting software.

Any lease which may be canceled at any time (with no more than nominal advance notification or the payment of no more than a nominal penalty) by either the lessor or lessee is not considered a lease rental agreement.

 

III. Capital Leasehold Improvements

Leasehold improvements should be considered a capital purchase of property when:

1. The costs of such improvements amount to either 20% of the value of the property leased or $100,000, whichever is less, and
2. The lease is non-cancelable by either party for a period of at least five years or has renewal options which permit it to run for at least five years.

Leasehold improvements meeting this definition should be recorded as capital assets.

 

IV. Responsibilities

A. Real Estate Office

The Real Estate Office is responsible for:

• Locating available rental space on behalf of Duke departments
• Engaging third party representatives to negotiate with landlords and collaborating with legal counsel to draft lease agreements
• Obtaining final lease authorization from Duke entity-level leadership
• Managing Duke’s portfolio of real estate leases and controlling related costs

All new real estate leases and sub-leases must be initiated through the Real Estate Office. Departments with changing space requirements should contact their executive leadership and the Real Estate Office to communicate their anticipated need. Once approval from executive leadership is obtained, the Real Estate Office will begin the process of locating suitable space and negotiating a new lease agreement.

B. Procurement Services

Procurement Services is responsible for:

• Negotiating all non-real estate lease agreements
• Coordinating with the appropriate University or Health System Finance office to determine classification as a lease rental (operating lease) or lease purchase agreement (financing lease)
• Issuing the purchase order with the appropriate accounting charge code
• Notifying the appropriate Fiance Office of any changes relating to an executed lease agreement

If a proposed lease is funded by a restricted WBS element and the lease extends beyond the term of the restricted WBS element, the requisition must be accompanied by a written statement from the department chairperson stating that unrestricted funds will be used to absorb the cost of the unexpired portion of the lease if the restricted WBS element is not renewed. The unrestricted cost center must be identified and the individual having budgetary responsibility for the code must concur; the additional expense will be substitutive rather than additive to any budget. All requisitions for leases using restricted WBS element must be authorized by the Post-Award Financial Management office prior to submission to Procurement Services.

C. Plant Accounting

Plant Accounting is responsible for:

• Coordinating with Facilities Management personnel on appropriate classification of leasehold improvements
• Preparing entries into the Plant Accounting system to record assets acquired through financing (capital) leases or leasehold improvements

 

V. General Ledger Accounts

The Procurement office will assign the correct G/L accounts.

Periodic payments for equipment lease rental agreements should be charged to the appropriate cost object as follows:

Equipment Leases

• G/L account 693400 (Equipment rentals) for short-term leases
• G/L account 693405 (Equipment rental – AMT Leases) for operating leases longer than 12 months with an asset value greater than $150,000
• GL 693406 for financing leases.

Real Estate Leases

• G/L account 697200 (Space Rental) for short-term real estate leases (lease terms 12 months or less)
• G/L account 697200 (Space Rental) for payments for operating expenses included with the lease agreement, i.e. OPEX charges
• G/L account 697205 (Space Rental – AMT Leases) for Real Estate lease payments for leases greater than 12 months
• GL account 68xxxx (Maintenance and Repair expense) for leasehold improvements not considered capitalized assets

 

VI. Accounting Entries

The following describes the types of entries required to record lease transactions:

A. Lease Rental Agreements

1.  Initial Capitalization-

Leases that meet the capitalization thresholds discussed in II above will be recorded at the net present value (NPV) of the property as an Operating Lease Right of Use asset and the related obligation as an Operating Lease Right of Use liability. These should be recorded at the discounted amount of the future lease rental payments, excluding any payments to cover operating expenses and taxes. If the lease does not have an explicit rate, Duke will use the incremental borrowing rate

Operating Lease

G/L Account	Debit	Credit
173001-ROU Asset (Operating)	NPV of Lease Payments
259005-ROU Long Term Liability		Long Term Portion of NPV
259006-ROU Short Term Liability		Short Term Portion of NPV

Finance Lease

G/L Account	Debit	Credit
173000-ROU Asset (Financing)	NPV of Lease Payments
259001-Capital Lease Liability		Long Term Portion of NPV
259002-ST Capital Lease Liability		Short Term Portion of NPV

2.  Monthly Accounting Entries-

The Financial Reporting department will record the monthly amortization and depreciation entries for each lease classification from the Lease accounting software.

Operating Lease

G/L Account	Debit	Credit
180106-Accumulated ROU Amortization (Operting)		NPV of Lease Payments
693504-Equipment Rental FASB	NPV of Lease Payments less interest expense	Long Term Portion of NPV
259005-ROU Long Term Liability		Adjust for change in Long Term Portion of NPV
259006-ROU Short Term Liability		Adjust for change in Short Term Portion of NPV

Finance Lease

G/L Account	Debit	Credit
180107-Accumulated ROU Amortization (Financing)		Straight line amortization of NPV of Lease Payments
692502-Depreciation-FASB	Straight line amortization of NPV of Lease Payments
695003-Interest (Leases)	Imputed interest
259005-ROU Long Term Liability		Adjust for change in Long Term Portion of NPV
259006-ROU Short Term Liability		Adjust for change in Short Term Portion of NPV

B. Leasehold Improvements

Leasehold improvements which should be capitalized require the following types of entries:

• Record the capitalized improvements:
  DEBIT: G/L 17xxxx Capitalized Assets and
  CREDIT: G/L 292800 Net Investment in Plant
• Record the capitalized improvements in the Plant Accounting system under the appropriate 66xxxx G/L account.
• Depreciate all capitalized leasehold improvements to both lease rental property and lease purchase property over the period of the lease.

When a lease associated with capitalized leasehold improvement terminates, if Duke does not receive title to the property, the value of the leasehold improvements should be removed from the Plant Accounting system.