Steps to Identify a Lease

The following flowchart depicts the decision process for evaluating whether a contract is or contains a lease:

A An asset is identified in a contract either:

• Explicitly by serial number, VIN, GPS coordinates, etc 

  or

• Implicitly based on whether a particular asset is required to fulfill a contract from commencement

For portions of an asset not physically distinct, it is not an identified asset unless it represents substantially all of the capacity of the asset. Although ASC 842 does not define "substantially all", entities may utilize a 90% threshold test which aligns to the lease classification test. 

B To convey the right to control the use of an identified asset for a period of time (or amount), the customer must have BOTH of the following: 

1. Right to obtain substantially all of the economic benefits from the use of the identified asset 
1. A customer can obtain economic benefits from use of an asset directly or indirectly in many ways, such as by using, holding, or subleasing the asset. Examples include:
• Primary outputs (e.g., physical receipt of the widgets produced by or at a widget factory).
• By-products (e.g., physical receipt of the steam produced as a by-product of the manufacturing process in the widget factory).
• Cash flows derived from primary outputs and by-products (e.g., cash flows derived from the supplier’s selling, on the customer’s behalf, of widgets produced by or at the widget factory).
2. Parties should first identify all economic benefits resulting from the use of an asset then determine which of those benefits are within the scope of the customer's right to use the asset in the contract.
2. The right to direct the use of the identified asset 
1. A customer has the right to direct the use of an identified asset throughout the period of use if either of the following situations:
• The customer has the right to direct how and for what purpose the asset is used throughout the period of use 
• The relevant decisions about how and for what purpose the asset is used are predetermined and at least one of the following conditions exists:
• The customer has the right to operate the asset (or to direct others to operate the asset in a manner that it determines) throughout the period of use without the supplier having the right to change those operating instructions.
• The customer designed the asset (or specific aspects of the asset) in a way that predetermines how and for what purpose the asset will be used throughout the period of use.
2. A customer does not have the right to use an identified asset if the supplier has the substantive right to substitute the asset throughout the period of use. A supplier’s right to substitute an asset is substantive only if both of the following conditions exist 
• The supplier has the practical ability to substitute alternative assets throughout the period of use 
• The supplier would benefit economically from the exercise of its right to substitute the asset 

Only decisions made during the period of use (and not before) should be considered unless the customer designed the asset in a way that predetermines how and for what purpose the asset will be used.  If right to control the use of an identified asset is only for a portion of the contract term, the contract contains a lease for that portion of the contract.

Accounting Guidance Referenced:

• ASC 842-10-55-1