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GAAP rules govern accounting for operating leases. All leases 12 months and longer must be recognized on the balance sheet. Leases shorter than 12 months can be recognized as expenses using the straight-line method.

Operating Lease Accounting can be done by considering that the lessor owns the property and the lessee only uses it for a fixed time. The lessee records rental payments as expenses in the books of accounts. In contrast, the lessor records the property as an asset and depreciates it over its useful life.

A lease will be recorded on the balance sheet as a right-of-use (ROU) asset and lease liability. The lease liability is the payment obligation over the term of the lease contract, while the ROU asset represents the control of the asset under the lease contract.

Tax Treatment of Leases In a true lease, the company, or lessee, deducts rental payments as they do not retain ownership of the asset. For tax purposes, most closely aligned with an operating lease. In a non-tax lease, the company, or lessee, owns the asset and deducts depreciation and interest expenses.

Initial journal entries for both operating lease and finance leases will be the same: Credit Lease Liability?Present value of all future lease payment (discount rate used in calculation is your incremental borrowing rate ?IBR?).

From a lease accounting perspective, a capital lease is treated as if the lessee has purchased the asset using debt financing. The asset and the associated lease liability are recorded on the lessee's balance sheet. Each lease payment is allocated between the reduction of the lease liability and interest expense.

Operating leases are shown as an asset on the balance sheet, valued as the present value of the lease payments (not the market value of the asset). The lease liability is shown on the balance sheet (similarly, the present value of the lease payments).