Accrued Rent

[geekgirldany]

Situation I have not come across before.

Client is in the tech industry and part of the deal is that a certain amount of rent on the building he is in is "deferred" for so many years at which time he will start paying that deferral back to this tech company/landlord.

So say the rent is $900 and $200 is deferred each month so he is paying $700 a month. He is a cash basis business, so is the rent expense $700?

What about the liability and asset.

[ATSMAN]

If the taxpayer is a cash and not accrual basis then he gets to deduct the actual cash rent paid in that particular year!

[geekgirldany]

Well that is what I thought, but how is the rent that is deferred accounted for on the books? He owes this amount eventually it needs to be shown some way on the books.

My thinking is that it should be put to a liability account and and a asset account. When he pays on the liability he owes, he just writes a check and pays that amount... then a journal entry will be put in to deduct that same amount as a rent expense and set off a rent asset account?

[ATSMAN]

If I was doing the books I would put the deferred amount in a "Rent Asset Account" and when it is actually paid move it to the "Rent Expense Account" and deduct it.

[Corduroy Frog]

Book-to-tax Differential

Danyelle, if your client is on the cash basis, and you start messing with a "prepaid" or "deferred" rent for book purposes, then this is going to create a "book-to-tax" differential.

If your client is on a Sch C, then a cash basis is going to be required in virtually all cases. If there is a partnership, corporation, S corp, etc. then there is an option to select an accrual basis. But on returns of that type, a balance sheet is required (Sch L) which reports on the chosen method for book purposes regardless of what basis is used on taxes. Thus any reporting on accrual basis will require adjustments in Sch M-1 showing all differences.

Before I drag the client through the mud on this stuff, I would make sure that he understands the extra amount of accounting and tax preparation that is going to be involved.

[geekgirldany]

Thanks Ron. I am actually doing his bookkeeping, he is having someone else do the tax return preparation. It is a verily complicated setup, can not get into the details due to privacy reasons, but he has an accountant that specializes in tech businesses. I just want to make sure I have it setup properly. I have never ran across this before. I knew him being on cash basis it is what he actually paid for the rent in the year that is deductible, but took me a few to work out the accounting end for the liability and asset.

[Corduroy Frog]

How to do it

Well that is what I thought, but how is the rent that is deferred accounted for on the books? He owes this amount eventually it needs to be shown some way on the books.

My thinking is that it should be put to a liability account and and a asset account. When he pays on the liability he owes, he just writes a check and pays that amount... then a journal entry will be put in to deduct that same amount as a rent expense and set off a rent asset account?

Let's use your example of $700 now, but an extra $200 to be deferred.

If the bookkeeping is on cash basis, there is NO recognition of a liability. Period. End of subject.

If bookkeeping is on accrual basis, you have to give some thought to what is going to happen at the end of this cycle.
For example, if the rent is $900 and he pays $700 for TWO YEARS, and then pays $1000 until the deferral is exhausted,
then the bookkeeping would look like this.

For first two years:
Dr. Rent Expense $900
Cr. Deferred Rent $200 (deferred rent is a liability on the balance sheet)
Cr. Cash $700

After first two years, until the deferral is zeroed out:
Dr. Rent Expense $900
Dr. Deferred Rent $100
Cr. Cash $1000

The story gets somewhat complicated if there is an increase in the amount of rent, but the methodology doesn't change.