Lease Abandonment and Cease-Use Accounting Under ASC 842

Questions this article answers

• What happens to the lease liability when we stop using leased space but the lease continues?
• Is abandoning leased space an impairment trigger under ASC 842?
• How do we amortize the right-of-use asset after deciding to vacate?
• Do we still accrue a cease-use liability under ASC 420 for an abandoned lease?
• What is the difference between abandoning, subleasing and terminating a lease?

Lease abandonment, or cease-use, in accounting under ASC 842 leaves the lease liability untouched: the contract has not changed, so it keeps accreting and unwinding as before. The right-of-use (ROU) asset is where the accounting happens. The lessee tests it for impairment under ASC 360-10 when it commits to leave, then amortizes what is left to its salvage value, usually zero, by the cease-use date. The old ASC 420 cease-use accrual does not apply to leases under ASC 842.

What happens to the lease liability when a lessee stops using the space?

Nothing. The lease liability is the present value of the remaining payments, and vacating does not change a single payment. ASC 842-20-40-1 removes the liability only when the lease is terminated before the end of its term. Moving out is not a termination; the lessor still expects every check.

KPMG's Leases Handbook puts it plainly. After a decision to abandon, "there is no change in how the lessee accounts for the lease liability throughout the remainder of the lease term." The balance at any date equals what it would have been with no abandonment at all.

Is it an abandonment, a sublease, or a termination?

Three exits look alike from the hallway and differ completely on the books.

Situation	Lease liability	Right-of-use asset	Governing paragraph
Termination: the contract ends early, usually with a penalty	Derecognized	Derecognized; profit or loss on the difference. Where a sublease relieves the original lessee of the primary obligation, consideration paid or received on termination that was not already in the lease payments enters that profit or loss	ASC 842-20-40-1; ASC 842-20-40-3
Sublease: the lessee vacates, keeps the head lease and collects rent from a sublessee	Unchanged, except that for an operating head lease followed by a sales-type or direct financing sublease, ASC 842-20-35-14(c) directs the lessee to account for the liability under ASC 842-20-35-1 through 35-2 from sublease commencement	Retained and head-lease accounting continues only if the sublease is an operating lease; if the sublease is sales-type or direct financing, the original right-of-use asset is derecognized. Sublease income below head-lease cost is an impairment indicator	ASC 842-20-35-14(a); ASC 842-20-35-14(b) and (c)
Abandonment: the lessee vacates, cannot or will not sublease, and the contract runs on	Unchanged	Tested for impairment, then amortized to its salvage value, usually zero, by the cease-use date	ASC 842-20-35-9; ASC 360-10-35-47

The sublease line matters. KPMG's Handbook, Question 6.5.50, says an ROU asset "has not been abandoned if the lessee has both the intent and the practical ability to sublease the underlying asset." Sublease rent counts as an economic benefit from the space. A lessee that lacks either the intent or the practical ability to sublease has abandoned the asset.

Idling space for a time is not abandonment either. Leaving a floor empty during a slow year, with a plan to return, does not shorten the asset's life or change the lease cost pattern.

Terminations and partial terminations follow ASC 842 modification accounting instead. The sublessor's side is covered in subleases under ASC 842.

Is abandoning leased space an impairment trigger?

ASC 842-20-35-9 sends the question to ASC 360. It reads: "A lessee shall determine whether a right-of-use asset is impaired and shall recognize any impairment loss in accordance with Section 360-10-35 on impairment or disposal of long-lived assets." The ROU asset is tested the way a building or a machine is tested.

ASC 360-10-35-21 lists the events that require a recoverability test. Two fit an abandonment decision. Item (b) is a significant adverse change in the extent or manner in which the asset is being used. Item (f) is a current expectation that the asset will, more likely than not, be "disposed of significantly before the end of its previously estimated useful life."

The trigger, if there is one, arises at the decision date, the day the lessee commits to the plan, not the day it hands back the keys. The test runs at the asset-group level under ASC 360-10-35-23.

If the space belongs to a larger group, such as a region's stores, KPMG's Question 6.5.70 asks the lessee to weigh how significant the asset to be abandoned is to the group as a whole before concluding the whole group has to be tested. One ROU asset's indicator does not automatically put the group on test. If its cash flows are largely independent, the ROU asset can be its own group.

The test has two steps under ASC 360-10-35-17. First, compare the carrying amount with the undiscounted cash flows expected from the use and eventual disposition of the asset; if the carrying amount is higher, the asset is not recoverable. Second, measure the loss as the excess of carrying amount over fair value. If the group is recoverable, there is no write-down, even though the space will be abandoned.

Grant Thornton's Applying ASC 360 to right-of-use assets sets out two acceptable approaches to the asset group for an operating lease. Exclude the lease liability from the group, or include it as an operating liability. Pick one and carry it through: both Grant Thornton and KPMG (Question 6.5.35) expect the same choice in the recoverability test and in the fair value measurement. For the test itself, see impairment of leased and right-of-use assets.

How is the right-of-use asset amortized after the abandonment decision?

ASC 360-10-35-47 says a long-lived asset to be abandoned "is disposed of when it ceases to be used." It also requires an entity that commits to abandon an asset early to revise its depreciation estimates "to reflect the use of the asset over its shortened useful life." ASC 360-10-35-48 adds that when the asset ceases to be used, its carrying amount "should equal its salvage value, if any." For an ROU asset, salvage value is almost always zero.

So the useful life now ends at the cease-use date. Whatever carrying amount survives the test is amortized from the decision date to that date and reaches zero on it. After that, the only lease cost left is accretion on the liability.

If an impairment was recognized, ASC 842-20-35-10 and ASC 842-20-25-7 fix the pattern. The single lease cost becomes straight-line amortization of the remaining ROU balance plus accretion of the liability at a constant periodic rate. Straight-line total lease cost is gone. The operating lease behaves like a finance lease for expense purposes, still shown as one line.

If there was no impairment, the standard is less specific. KPMG's Handbook, Question 6.5.70, sets out two acceptable approaches: straight-line amortization from decision date to cease-use date, or a pattern that keeps total lease cost level until the cease-use date. Under both, the asset reaches its salvage value, usually zero, on the cease-use date, and the liability is untouched.

Grant Thornton records a second view in practice for the unimpaired case. Because ASC 842 permits a departure from straight-line operating lease expense only where an impairment charge is recognized, on that view the lessee continues to recognize straight-line lease expense until the asset is abandoned.

Grant Thornton considers either view acceptable. Pick one, document the reasoning, and apply it consistently. The example below uses the impaired case, where the treatment happens to match straight-line amortization to the cease-use date, the first of KPMG's two.

Worked example: vacating an office with three years of rent left after the move

Every input is stated so the arithmetic can be checked. Amounts are rounded to the nearest dollar, and payments are annual in arrears to keep the table short.

• Operating lease of a regional office. The ROU asset is its own asset group, and company policy excludes the operating lease liability from the group.
• Four years remain at the decision date, January 1 of Year 7. Payments are $120,000 per year, paid each December 31.
• Discount rate: 6.0%, the incremental borrowing rate at commencement.
• Lease liability at the decision date: $120,000 × 3.4651 = $415,813, the present value of four payments at 6%.
• ROU asset carrying amount at the decision date: $415,813. With no initial direct costs, prepaid rent or incentives, it equals the liability.
• Plan: keep using the office through December 31 of Year 7, the cease-use date, then vacate. The lease bars subletting.
• Undiscounted cash inflows from the office over its remaining year of use, excluding the lease payments themselves because the lease liability is excluded from the group: $180,000. There is no terminal value; the right is abandoned, not disposed of for proceeds.
• Fair value of the ROU asset at the decision date: $300,000, from the company's valuation of the remaining right to use comparable space after market rents fell. The fair value exceeds the company's own expected cash flows because Step 2 uses market-participant assumptions over the full remaining term rather than the company's plan. KPMG's Handbook, Question 6.5.40, notes an ROU asset will not have a fair value of zero if it would have utility to a market participant, regardless of the lessee's intent.

Step 1: the recoverability test and the write-down

Carrying amount of $415,813 exceeds undiscounted cash flows of $180,000, so the asset is not recoverable. The loss is carrying amount less fair value: $415,813 − $300,000 = $115,813. The entry on January 1, Year 7 debits impairment loss and credits the ROU asset for $115,813. The ROU asset is now $300,000.

Step 2: shorten the life and run the liability on unchanged

The $300,000 amortizes straight-line over the twelve months to the cease-use date, $25,000 a month. The liability accretes at 6% and drops by each $120,000 payment. Nothing about it changed.

Year	Opening liability	Accretion at 6%	Payment	Closing liability	ROU amortization	Closing ROU asset	Single lease cost
7	$415,813	$24,949	$120,000	$320,762	$300,000	$0	$324,949
8	$320,762	$19,246	$120,000	$220,008	$0	$0	$19,246
9	$220,008	$13,200	$120,000	$113,208	$0	$0	$13,200
10	$113,208	$6,792	$120,000	$0	$0	$0	$6,792

Two checks prove the table. Each closing liability equals the present value of the payments still owed: $320,762 is three payments at 6%, $220,008 is two, $113,208 is one. And total cost over the four years, $115,813 of impairment plus $364,187 of lease cost, equals the $480,000 of cash paid. Abandonment changes the timing of the expense, not the amount.

Before the decision, the company expected $120,000 of straight-line lease cost in each of the four years. After it, Year 7 carries $440,762 including the impairment, and Years 8 through 10 carry only accretion. The cost of space you will not use lands when you decide to leave it.

What do the month-end entries look like after the cease-use date?

From January of Year 8 the ROU asset is zero and stays there. The monthly close for this lease reduces to two entries.

• Accretion: debit operating lease cost, credit operating lease liability, for the month's share of the year's accretion on the effective-interest schedule. Year 8's total is $19,246.
• Payment: debit operating lease liability, credit cash, $120,000 each December 31.

During Year 7, before the cease-use date, a third entry runs each month: debit operating lease cost, credit ROU asset, $25,000. The impairment loss is booked once, at the decision date, and shown apart from lease cost. KPMG's Handbook, paragraph 6.5.10, presents an ROU asset impairment the same way as any other long-lived asset impairment.

Keep the ROU asset on the balance sheet at zero rather than removing it. The lease still exists, and ASC 842-20-40-1 removes the asset only on termination.

The footnote is the normal lease footnote plus the impairment. The maturity analysis under ASC 842-20-50-6 still includes the abandoned lease's payments, because they are still owed. For the routine of the close, see the lease accounting process flow under ASC 842.

Why does the old ASC 420 cease-use accrual no longer apply?

Under ASC 840, an operating lease sat off the balance sheet. When a lessee ceased using space, it accrued a liability under ASC 420 at the cease-use date for the remaining payments, net of expected sublease income. That was the only way to get the cost of unused space onto the books.

ASC 842 put the liability on the balance sheet at commencement, so there is nothing left to accrue for the lease itself. KPMG's Handbook states the scope point directly, citing ASC 420-10-15-3(b). "Costs to terminate a lease are outside the scope of Topic 420 (exit or disposal cost obligations) after the adoption of Topic 842."

Costs that continue without benefit, such as property tax or common area maintenance, are not accrued at the cease-use date either. That is KPMG's view where the lessee has elected not to separate lease and non-lease components.

Where the lessee has not elected that expedient, the opposite applies. KPMG's Question 6.5.100 and Example 6.5.60 accrue the fixed and estimated variable payments allocable to the non-lease component at the cease-use date under ASC 420. The allocation uses the same basis on which the consideration in the contract was allocated. Deloitte's 2018 Heads Up on transition questions describes the same shift.

Under ASC 842 "the cease-use determination is no longer relevant; rather, an entity must determine whether the leased asset is abandoned in accordance with ASC 360."

What will the auditor ask for on an abandoned lease?

Expect requests for the following, and have them in the file before fieldwork.

• Evidence of the decision date. Board minutes, a signed real estate plan or an approved budget showing when the company committed to leave.
• The sublease analysis. Why the space is abandoned rather than held for sublease: the lease clause that bars it, or market evidence that no sublessee is realistic.
• The asset-group memo. Which assets were tested together, whether the operating lease liability was included, and the undiscounted cash flow forecast.
• The fair value support. How the ROU asset's fair value was estimated, with the market rent and discount rate assumptions.
• The revised amortization schedule. Showing the ROU asset reaching zero on the cease-use date and the liability unchanged.
• Consistency. The same treatment for every abandoned location, and no ASC 420 accrual for lease costs.

The most common findings are an accrual that should not exist and an ROU asset still amortizing past the cease-use date. Both belong on the list of common ASC 842 lease accounting mistakes. For the wider framework, the ASC 842 lease accounting guide covers measurement from commencement onward.

Frequently asked questions

Does the lease liability change when a lessee abandons leased space?

No. Abandonment changes nothing about the contract, so the lease liability keeps accreting at the original discount rate and unwinds as payments are made. For the lease itself, only the right-of-use asset is affected: it is tested for impairment under ASC 360-10 and then amortized to its salvage value, usually zero, by the cease-use date.

Is a lease abandonment the same as a cease-use liability under ASC 420?

No. Under ASC 840, a lessee that ceased using space accrued the remaining lease payments at the cease-use date under ASC 420. After adopting ASC 842, costs to terminate a lease sit outside ASC 420. The lease liability is already on the balance sheet, and the loss, if any, comes through the right-of-use asset.

Is space we plan to sublease treated as abandoned?

No. ASC 842 treats sublease income as an economic benefit from the underlying asset, so a lessee with the intent and practical ability to sublease has not abandoned the right-of-use asset. It keeps the asset, keeps testing it for impairment, and accounts for the sublease separately.

Sources and further reading

ASC paragraphs relied on:

• ASC 842-20-35-9 and 842-20-35-10: impairment of the ROU asset and its measurement after impairment.
• ASC 842-20-25-7: the single lease cost after impairment.
• ASC 842-20-35-14: a sublease where the original lessee keeps the head lease.
• ASC 842-20-40-1: derecognition on termination.
• ASC 842-20-50-6: the maturity analysis.
• ASC 360-10-35-17, 360-10-35-21, 360-10-35-47 and 360-10-35-48: recoverability, impairment indicators and assets to be abandoned.
• ASC 420-10-15-3(b): scope of exit and disposal cost obligations.

Firm publications drawn on:

• KPMG, Handbook: Leases, section 6.5.2, Questions 6.5.50, 6.5.55, 6.5.70 and 6.5.100, and Example 6.5.30.
• Grant Thornton, Applying ASC 360 to right-of-use assets (March 2020), sections 1.1, 1.7 and 3.
• Deloitte, Roadmap: Leases, section 8.4, on impairment and abandonment of the ROU asset.
• Deloitte, Heads Up: At "Lease" There Are Answers to Transition Questions (October 17, 2018), Q&A 7.
• ASC 842-20-40-3 — consideration paid or received on a termination that relieves the original lessee; ASC 360-10-35-23 — the asset group; ASC 842-20-35-1 through 35-2 — subsequent measurement of the liability, which ASC 842-20-35-14(c) points to for an operating head lease with a sales-type or direct financing sublease.
• KPMG Handbook: Leases, Questions 6.5.33, 6.5.35 and 6.5.40 (Step 2 market-participant assumptions, consistency of the asset-group choice, and why an ROU asset's fair value is rarely zero), paragraph 6.5.10 (presentation of the impairment) and Example 6.5.60 (the non-lease component accrual under ASC 420).
• PwC, Leases guide, section 4.6 Impairment: lessee.
• PwC, Property, plant, equipment and other assets guide, section 6.3 Disposals other than by sale.

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