COVID-19 and Lease accounting: Understanding your lease obligations and costs

The COVID-19 pandemic has impacted every company in some way. With “social distancing” and all the emergency regulations that are in place, many offices and nonessential businesses are shut down entirely — or at the very least, their brick and mortar locations are closed while employees work from home.

One of the business effects of COVID-19 that does not get a lot of attention is its impact on leases and the related financial obligations. Whatever leases a company holds — not just for office, warehouse, manufacturing, or retail spaces, but also for equipment, vehicles, and other assets — the pandemic-related shutdowns complicate lease obligations and the associated lease accounting and administration.

What should you look for in your leases to understand your obligations and manage costs?

1. Review Your Leases to Know What You Owe, and When

Although many companies are not using their leased assets while business is “on hold”, they may still be required to pay rent through the end of their lease terms, as well as any other costs spelled out in their lease agreements.

That is why now more than ever, it is critical to understand exactly what is in each of your leases and make sure you don’t miss payments and important events during closures or cutbacks due to COVID-19. Otherwise, you could be subject to late fees or nonpayment penalties — or worse, face eviction and still have to pay the rent.

What to Look for in Leases

The table below shows some examples of categories, events, and obligations to look for and review in your leases — given there may be changes to how and if your business is using leased assets.

Timing/Dates (often including notice procedures and deadlines)	Physical Space	Financial	Legal
Delivery & Possession Payment/Default Build Out Time Vacate Date Lease Term Options Audit Rights	Alteration/Remodel Cleaning – Demised Premises & Common Areas Common Area Access Co-tenancy Holdover Restoration Sublet	Free Rent/Other Concessions Default OpEx & Sundries Tenant Improvement Allowance Late Fees Security Deposits Turnover Rent	Force Majeure Casualty Notice & Cure Provisions Break Clause Landlord Right to Enter/Recapture Surrender/Restoration Right to Go Dark/Abandonment Business Interruption Insurance Limitation of Damages/Exclusions Material Adverse Effect (“MAE”) Provisions

 

Every lease will have different language, obligations, and consequences for the lessee/tenant and for the lessor/lease holder — and few, if any, probably anticipated anything quite like COVID-19.

2. Evaluate Your Lease Financials and Options Under COVID-19

With the timetable to get “back to normal” still to be determined and so much that remains unsure, it is also important to conserve business spending wherever possible.

For instance, now is a good time to print out a general ledger to date and review all of the recorded transactions to get an overview of your current expenses. You might even find some unnecessary or optional recurring charges you can cancel or put on hold.

In addition, by understanding your leases and being clear about your rights and obligations, you may be able to find areas where your company can avoid overpaying or incurring additional fees during this time.

Where You Might Save

For example, part of your monthly rent may go toward front-desk/lobby security or other services you are no longer receiving because the building is closed. If so, you may be able to negotiate with the lease holder for a lower monthly payment.

Or, your building may be reopening with some restrictions and now requires more intensive cleaning and sanitation in all public areas. Are you obligated to pay that additional cost under the term of your current lease? You’ll want to check before you agree to pay anything extra.

Does your lease include any language around rent abatements or what happens if the space cannot be used due to circumstances beyond anyone’s control (Force Majeure)? Ideally, your leases are clear and thorough — though, of course, even the best lease cannot include every “what if” scenario.

When an area of cost concern is not covered in a lease, having a good relationship with the lease holder will improve your chances of being able to negotiate a term that will satisfy both parties.

Reflecting Changes in Your Lease Accounting

If you cannot get out of a lease and must abandon an asset, you will need to write down its value over a short period of time while still retaining the liability and making the payments. If the landlord will let you out of the lease, you will need to account for any termination fee you pay, as well as write down the asset and the liability in your lease accounting.

In these and other circumstances,you can account for changes in lease payments, such as the remeasurement requirements for abandoned or terminated leases.

Next Up: How These Changes Will Affect Your Lease Accounting

In this series of blogs, we will talk about the impact of COVID-19 on lease obligations and your lease accounting practices moving forward.

In the meantime, if you have a lease accounting system already in place — or better yet, a lease management solution that combines lease accounting and administration functions in one system — you have tools that will make it easier to identify your current lease obligations and understand their financial implications.