Lease Liability

Under current lease accounting rules, when a company leases an asset such as an office, vehicle or machine, it generally recognises both a lease liability and a matching right-of-use asset at the start of the lease.

The lease liability is calculated by discounting the future lease payments, using the interest rate implicit in the lease or, if that cannot be determined, the company's incremental borrowing rate.

For example, a company agrees to pay 100,000 a year for five years to lease an office. Discounted at 5%, those payments are worth about 433,000 today, so it records a lease liability of about 433,000.

Over the lease term, the liability is reduced as payments are made, while interest is added on the remaining balance. This works much like a loan repayment schedule.

Lease liabilities are a form of debt-like obligation. Analysts often include them when assessing a company's total borrowing, especially for businesses that lease many properties, aircraft or vehicles, such as retailers and airlines. Before newer standards, many of these obligations did not appear on balance sheets at all.