GASB 87 vs ASC 842: Classification, Expense, and Disclosures

GASB 87 vs. ASC 842 comes down to two things: who has to follow each standard, and how each one treats a lease once it lands on the balance sheet. GASB 87 applies to state and local governments and uses a single model that treats every qualifying lease as a financing arrangement. ASC 842 applies to private-sector entities and nonprofits under U.S. GAAP and splits leases into two categories with different expense patterns. Both put leases on the balance sheet; almost everything after that diverges.

Who Has to Follow Each Standard

GASB 87 is the Governmental Accounting Standards Board’s lease standard. It applies to state and local governments, including cities, counties, public school districts, public universities, and government-owned utilities.1Governmental Accounting Standards Board. Statement No. 87 – Leases

ASC 842 comes from the Financial Accounting Standards Board and applies to every entity that reports under U.S. GAAP outside of government. That covers publicly traded corporations, private companies, and nonprofits such as 501(c)(3) charities and private foundations.

The dividing line is clean. Government entity, GASB. Everyone else on U.S. GAAP, FASB.

Single Model vs. Dual Model Classification

This is the biggest conceptual difference, and it drives most of what follows.

GASB 87 uses a single classification model. Every lease that meets the definition is treated as a financing of the right to use an underlying asset. There is no operating-versus-capital distinction. If a government has a qualifying lease, it recognizes a right-to-use asset and a corresponding liability. That is the only path.2Governmental Accounting Standards Board. Statement No. 87 – Leases

ASC 842 requires a lessee to classify each lease as either a finance lease or an operating lease. Both types go on the balance sheet, but the classification determines how expense hits the income statement. A lease is a finance lease if it meets any one of these criteria:

  • The lease transfers ownership of the asset to the lessee by the end of the term.
  • The lease includes a purchase option the lessee is reasonably certain to exercise.
  • The lease term covers a major part of the asset’s remaining economic life.
  • The present value of lease payments equals or exceeds substantially all of the fair value of the underlying asset.
  • The asset is so specialized that it has no alternative use to the lessor when the lease ends.

Fail all five, and the lease is operating. The determination is made at lease commencement.

How Expense Shows Up on the Income Statement

Balance sheet recognition looks similar under both standards at day one. The expense pattern is where the practical divergence appears.

Under GASB 87

A government lessee measures the liability at the present value of expected lease payments and the right-to-use asset at that same amount plus any payments made at or before commencement. From there, the entity reports two separate expenses each period: amortization of the right-to-use asset over the shorter of the lease term or the asset’s useful life, and interest on the liability.2Governmental Accounting Standards Board. Statement No. 87 – Leases Because interest is calculated on a declining balance, total expense is higher in the early years and tapers off.

Under ASC 842

Finance leases work the same way GASB 87 does: separate interest and amortization, front-loaded total expense.

Operating leases look different. The lessee recognizes a single lease cost on a straight-line basis over the lease term. Interest and amortization still exist under the hood, but they are combined into one level expense line, with the amortization figure adjusted each period so the total stays flat. Most office and equipment leases end up here.

The takeaway for anyone comparing results across the two frameworks: GASB 87’s expense pattern lines up with ASC 842’s finance lease treatment. ASC 842’s operating lease pattern has no equivalent on the government side.

Scope, Short-Term Leases, and Embedded Leases

Both standards define a lease as a contract that conveys control of the right to use an identified asset for a period of time in exchange for consideration. The boundaries around that shared definition differ.

What’s In and What’s Out

GASB 87 applies to contracts involving nonfinancial assets such as buildings, land, vehicles, and equipment.3Governmental Accounting Standards Board. GASB Statement No. 87 – Leases It excludes supply contracts, inventory leases, leases of investment assets, certain regulated leases, and contracts that transfer ownership of the underlying asset.4Governmental Accounting Standards Board. Statement No. 87 – Leases Subscription-based IT arrangements are handled separately under GASB 96, which uses a parallel framework modeled on GASB 87.5Governmental Accounting Standards Board. Statement No. 96 – Subscription-Based Information Technology Arrangements

ASC 842 covers leases of identified property, plant, or equipment. It excludes intangible assets, which fall under ASC 350; leases related to mineral and natural resource exploration; biological assets, including timber; inventory; and assets under construction. Neither standard sets a low-value or dollar-amount capitalization threshold, though entities can apply their own materiality policies.

Short-Term Lease Exemption

Both standards let entities expense short-term leases as payments are made rather than capitalize them. Both use a 12-month threshold. They just count it differently.

Under GASB 87, a short-term lease has a maximum possible term of 12 months or less, including any extension options regardless of how likely they are to be exercised.2Governmental Accounting Standards Board. Statement No. 87 – Leases Under ASC 842, the exemption also uses 12 months, but the lease cannot include a purchase option the lessee is reasonably certain to exercise.

Embedded Leases

Service contracts and other agreements sometimes contain lease components that have to be separated and accounted for under the applicable standard. Under ASC 842, a contract contains a lease if it conveys the right to control the use of an identified asset for a period of time. Two conditions have to be met: the customer has the right to obtain substantially all of the economic benefits from the asset’s use, and the customer has the right to direct how the asset is used. Common places embedded leases hide include managed IT services, transportation contracts that dedicate specific vehicles to one customer, and manufacturing agreements that tie specific equipment to a single buyer’s output.

GASB 87 uses a similar control-of-the-right-to-use test. Government entities see embedded leases most often in building maintenance agreements, fleet management contracts, and shared-service arrangements.

Discount Rate Selection

The discount rate used to present-value the lease payments directly affects the size of the reported asset and liability. Both standards start in the same place. They diverge on the fallback.

Under GASB 87, the lessee first uses the interest rate the lessor charges, which may be the rate implicit in the lease. If that rate is not readily determinable, the lessee uses its own estimated incremental borrowing rate.6Governmental Accounting Standards Board. GASB Statement No. 87 – Leases Government entities sometimes have to work through judgment here because they borrow through bond issuances rather than conventional loans.

ASC 842 has the same first step: use the implicit rate if it is readily determinable, otherwise the incremental borrowing rate. The added option: private companies and nonprofits that are not public business entities may elect to use a risk-free discount rate over a period comparable to the lease term, applied as an accounting policy by class of underlying asset. The election simplifies the math because risk-free rates are published and easy to observe. The trade-off is that a lower discount rate produces a larger reported liability and right-of-use asset. Public companies do not have this election.

Lessor Accounting

The lessee side gets most of the attention, but the lessor frameworks diverge just as sharply.

GASB 87 uses a single lessor model that mirrors its lessee approach. A government lessor recognizes a lease receivable at the present value of expected payments and a deferred inflow of resources, and it keeps the underlying asset on its books. Over the lease term, the lessor recognizes interest revenue on the receivable and systematically draws down the deferred inflow as revenue.2Governmental Accounting Standards Board. Statement No. 87 – Leases This treatment applies to every lease that isn’t short-term, ownership-transferring, investment-related, or regulated.

ASC 842 requires lessors to classify each lease into one of three buckets: sales-type, direct financing, or operating. Meeting any of the same five criteria used on the lessee side makes the lease sales-type. If none of those criteria are met but the present value of lease payments plus any guaranteed residual value equals or exceeds substantially all of the asset’s fair value, and collection is probable, the lease is direct financing. Everything else is operating. Each category has its own rules for revenue recognition, asset derecognition, and profit recognition at inception.

Modifications and Remeasurement

Leases rarely play out exactly as written. Both standards require remeasurement when things change; the triggers and mechanics differ.

Under GASB 87, a lessee remeasures the lease liability when there is a significant change in expected payments. Triggers include a change in the lease term (deciding to exercise or not exercise an extension option), a change in the likelihood of exercising a purchase option, a change in a residual value guarantee, or the resolution of a contingency that converts variable payments into fixed payments. A change in an index or rate used for variable payments does not, by itself, trigger remeasurement.2Governmental Accounting Standards Board. Statement No. 87 – Leases

ASC 842 asks a preliminary question: is the modification a separate new contract? It is, if the change grants an additional right of use and lease payments increase in proportion to the standalone price of that additional right. If both conditions aren’t met, the lessee remeasures the existing lease using a revised discount rate, reassesses classification, and adjusts the right-of-use asset. Classification can flip from operating to finance or the other way, which changes the expense pattern going forward.

Disclosures

Both standards want footnotes that let readers evaluate the nature and financial impact of leasing activity. The depth of disclosure differs.

GASB 87 requires lessees to disclose a description of leasing arrangements, the amount of lease assets recognized, and a schedule of future lease payments.2Governmental Accounting Standards Board. Statement No. 87 – Leases Lessors disclose the total inflows of resources recognized from leases along with a description of their arrangements.

ASC 842 goes further. Lessees report the weighted-average remaining lease term and weighted-average discount rate, split between finance and operating leases.7Financial Accounting Standards Board. GAAP Taxonomy Implementation Guide – Leases Under Topic 842 They also disclose lease costs by type, cash paid for lease liabilities broken out between operating and financing activities, right-of-use assets obtained in exchange for lease obligations, and significant assumptions and judgments. The dual classification model roughly doubles the disclosure work because each metric is reported separately for operating and finance leases.

Quick Reference: Key Differences

  • Who applies it: GASB 87 for state and local governments. ASC 842 for private-sector entities and nonprofits on U.S. GAAP.
  • Lessee classification: GASB 87, one model for every lease. ASC 842, finance or operating based on five tests.
  • Lessor classification: GASB 87, one model. ASC 842, three categories (sales-type, direct financing, operating).
  • Lessee expense pattern: GASB 87 is always front-loaded with separate amortization and interest. ASC 842 is straight-line for operating leases and front-loaded for finance leases.
  • Intangibles and IT subscriptions: GASB 87 covers nonfinancial assets; subscription-based IT falls under the separate GASB 96. ASC 842 excludes intangibles, sending them to ASC 350.
  • Discount rate fallback: GASB 87 defaults to the lessee’s incremental borrowing rate. ASC 842 lets non-public-business entities elect a risk-free rate.
  • Modifications: GASB 87 focuses on remeasurement triggers tied to changes in expected payments. ASC 842 first asks whether the modification is a separate new contract, then remeasures if not.
  • Short-term lease exemption: Both use 12 months, but GASB 87 counts every possible extension regardless of likelihood, while ASC 842 disqualifies leases with a purchase option the lessee is reasonably certain to exercise.