Lessee vs. Lessor: Key Differences in Lease Accounting Explained
Understanding the difference between a lessee and a lessor is essential for accurate lease classification and financial reporting under Lease Accounting, IFRS 16, and GASB 87. While the two roles are opposite sides of the same transaction, their accounting treatments differ significantly from how assets and liabilities are recognized to how income and expenses are measured over time.
What Is a Lessee?
A lessee is the entity that obtains the right to use an asset owned by another party (the lessor) for an agreed period in exchange for consideration, usually rent payments.
Under ASC 842, the lessee recognizes:
- A right-of-use (ROU) asset, representing the economic benefit of using the leased asset.
- A lease liability, representing the obligation to make future lease payments.
Lessee accounting focuses on accurate initial measurement at the commencement date and subsequent recognition based on classification (operating or finance).
Example:
A retailer leasing commercial space from a landlord records an ROU asset for the space and a corresponding liability for the rent payments due over the contract term.
What Is a Lessor?
A lessor owns the underlying asset and grants the right to use it to another party under a contractual lease agreement. In accounting terms, the lessor evaluates whether control of the asset effectively transfers to the lessee.
Under ASC 842, lessors classify leases as: - Operating lease: the lessor retains control of the underlying asset. - Sales-type lease: control transfers to the lessee; selling profit or loss may be recognized. - Direct financing lease: similar to sales-type, but without an initial selling profit or loss.
Classification determines whether the underlying asset remains on the lessor’s balance sheet or is replaced with a net investment in the lease.
Lessee vs. Lessor: A Quick Comparison
| Category | Lessee | Lessor |
|---|---|---|
| Role | Uses the underlying asset | Owns and leases the asset |
| Recognized asset | Right-of-use (ROU) asset | Underlying asset (operating) or net investment (sales-type/direct financing) |
| Recognized liability | Lease liability | Deferred revenue (operating) or components of net investment |
| Primary income/expense | Lease expense or interest plus amortization (finance leases) | Rental income (operating) or interest income (finance), potential selling profit |
| Classification types | Operating or finance lease | Operating, direct financing, or sales-type lease |
| Relevant guidance | ASC 842 Lessee Section (842-20); IFRS 16 Lessee guidance | ASC 842 Lessor Section (842-30); IFRS 16 Lessor guidance |
Accounting Treatment for Lessees
Initial Measurement
At commencement, measure the lease liability at the present value of unpaid lease payments, discounted using the incremental borrowing rate (or the implicit rate if readily determinable). Measure the ROU asset based on the liability, adjusted for prepaid amounts, incentives, and initial direct costs.
Subsequent Measurement
- Operating leases: recognize a single lease cost on a straight-line basis over the lease term; unwind the liability and adjust the ROU asset to achieve straight-line expense recognition.
- Finance leases: recognize interest expense on the lease liability and amortization of the ROU asset separately, similar to loan accounting.
Presentation and Disclosure
Disclose weighted-average remaining lease term and discount rate, a maturity analysis of undiscounted payments, and reconciliations of opening and closing ROU assets and lease liabilities.
Accounting Treatment for Lessors
Classification Assessment
Evaluate transfer of control and risks/rewards using factors such as lease term relative to economic life, present value of lease payments relative to fair value, purchase options, and transfer of title.
Measurement and Recognition
- Operating lease: retain the underlying asset; recognize rental income typically on a straight-line basis; depreciate the asset per policy.
- Sales-type/direct financing lease: derecognize the underlying asset; recognize a lease receivable (net investment) and interest income over the term; recognize any selling profit (sales-type) if applicable.
Disclosure
Present the components of lease income, policies for residual value risk management, and details of lease receivables, residual assets, and unguaranteed residual values.
Common Challenges in Practice
- Embedded leases in service or outsourcing contracts go undetected without contract review controls.
- Lease modifications (renewals, terminations, rent concessions) require remeasurement and reclassification analysis.
- Foreign-currency denominated leases complicate discount rates and translation.
- Data fragmentation across real estate, procurement, and accounting systems drives misclassification and disclosure errors.
These complexities reinforce the need for central, auditable lease data and repeatable controls across entities and jurisdictions.
How Software Supports Accurate Lease Accounting
Lease Accounting automates lease classification and measurement, generates amortization schedules and journal entries, and produces disclosures aligned to ASC 842, IFRS 16, and GASB 87. When paired with Lease Administration, finance and real estate teams share a single source of truth, reduce spreadsheet risk, and accelerate close with audit-ready detail.
Key Takeaways
- Lessees recognize an ROU asset and a lease liability; expense recognition depends on operating versus finance classification.
- Lessors classify leases as operating, direct financing, or sales-type; balance sheet and income recognition follow classification.
- Robust data governance and integrated processes improve compliance, auditability, and portfolio visibility under modern standards.
Brooke Colglazier
Marketing Manager