Hospital building and equipment leases

Because healthcare providers typically lease rather than own facilities and major equipment, correctly capitalizing right-of-use assets and lease liabilities materially changes total assets, total liabilities and EBITDA (rent expense is replaced by depreciation and interest), directly affecting leverage covenants, comparability between owned and leased operators, and reported operating performance.

Does the contract convey the right to control a specific, identified premises or piece of equipment for a period, or is it in substance a service arrangement where the supplier can substitute the asset at will? What lease term applies once renewal options that are reasonably certain (e.g. supported by sunk leasehold improvements or lack of alternative sites) are included? Are maintenance or service components embedded in an equipment lease that must be separated from the lease component before measuring the right-of-use asset and liability?

1) At contract inception, confirm the arrangement conveys the right to control an identified asset (specific premises, a specific scanner) for a period in exchange for consideration, distinguishing it from a pure service contract. 2) Determine the lease term including renewal options that are reasonably certain (e.g. supported by sunk leasehold improvement costs or lack of practical alternative sites). 3) Separate any embedded maintenance/service components in equipment leases from the lease component using observable standalone prices, unless the practical expedient to combine is elected for a class of underlying assets. 4) At commencement, recognize a right-of-use asset and a lease liability for all leases unless the short-term (≤12 months) or low-value asset exemptions apply. 5) Depreciate the right-of-use asset (generally straight-line over the lease term) and unwind the liability using the effective interest method. 6) Reassess and remeasure the lease term and liability when a renewal or termination option's likelihood changes, or when lease payments change with an index/rate.

Measure the lease liability at the present value of unpaid lease payments (fixed payments, in-substance fixed payments, variable payments linked to an index/rate, reasonably certain renewal-period payments, and expected residual value guarantees/purchase options), discounted using the rate implicit in the lease if readily determinable, otherwise the lessee's incremental borrowing rate. Measure the right-of-use asset at the initial lease liability plus initial direct costs, prepayments and estimated restoration costs, less lease incentives received. Remeasure both when triggering events occur (rent reviews, reassessed term).

Present right-of-use assets and lease liabilities separately on the face of the statement of financial position or disclose them clearly in the notes; disclose a maturity analysis of lease liabilities; disclose expense for short-term and low-value leases not capitalized; disclose significant judgments on determining the lease term and the discount rate used; disclose the split of lease payments between principal and interest and their cash flow classification.

• Continuing to expense long-term facility leases as rent without capitalizing a right-of-use asset and lease liability
• failing to separate embedded maintenance services in equipment leases from the lease component, overstating the lease liability
• not reassessing the lease term when a renewal becomes reasonably certain due to sunk fit-out costs, understating the liability
• using the wrong discount rate (e.g. the entity'
• s general borrowing rate instead of one reflecting the lease term, currency and security)
• presenting the entire lease payment as an operating cash outflow instead of splitting principal (financing) from interest.