Is a Right-of-Use Asset a Current or Non-Current Asset?

Modern lease accounting standards require lessees to recognize a Right-of-Use (ROU) asset on their balance sheets for nearly all leases. This provides greater transparency into a company’s leasing obligations, which were often previously off-balance sheet. A frequent question involves how these ROU assets are categorized: as current or non-current assets.

Understanding Right-of-Use Assets

A Right-of-Use (ROU) asset represents a lessee’s contractual right to use an identified asset, such as property or equipment, for a specified period. This asset is created when a company enters a lease agreement, granting control over the underlying asset without necessarily owning it. It is distinct from the underlying asset itself, reflecting only the economic benefits derived from its use.

The recognition of an ROU asset on the balance sheet is always accompanied by a corresponding lease liability. This liability represents the lessee’s obligation to make lease payments over the lease term. Both the ROU asset and the lease liability are initially measured based on the present value of future lease payments.

Principles of Asset Classification

Assets are categorized on a company’s balance sheet into current and non-current. This classification provides insight into a company’s liquidity and long-term investment structure. Current assets are those expected to be converted into cash, consumed, or sold within one year or one operating cycle, whichever is longer.

Common examples of current assets include cash and cash equivalents, accounts receivable, and inventory. Non-current assets are those not meeting the criteria for current assets, typically held for use over one year. These assets are generally acquired for long-term operational purposes rather than for immediate sale. Property, plant, equipment, and intangible assets like patents are examples of non-current assets.

Classifying Right-of-Use Assets on the Balance Sheet

The classification of a Right-of-Use asset as current or non-current on the balance sheet generally aligns with its related lease liability. Accounting standards dictate that ROU assets and lease liabilities are subject to the same considerations as other nonfinancial assets and financial liabilities when determining their current or non-current status. For most leases, a significant portion of the ROU asset is typically classified as non-current, reflecting the long-term nature of the right to use an asset.

The current portion of an ROU asset represents the amount expected to be amortized or expensed within the next 12 months or the operating cycle, if longer. The remaining balance, consumed over periods beyond one year, is classified as non-current. This amortization process systematically reduces the ROU asset over its useful life or the lease term, reflecting the consumption of the right to use the asset.

The amortization schedule of the ROU asset directly influences how its current and non-current portions are determined. As the ROU asset is amortized, its carrying value decreases, and the portion attributable to the upcoming year shifts to current. For operating leases, the ROU asset is reduced by a varying amortization amount each period. Conversely, for finance leases, the ROU asset is typically amortized on a straight-line basis over the lease term or the asset’s useful life, whichever is shorter.

Specific Lease Accounting Considerations

Certain lease agreements and accounting elections influence whether a Right-of-Use asset is recognized on the balance sheet at all, thereby affecting any classification question. Short-term leases, defined as those with a lease term of 12 months or less that do not contain a purchase option the lessee is reasonably certain to exercise, often qualify for an accounting policy election. Under this election, lessees may choose not to recognize an ROU asset and a corresponding lease liability on the balance sheet for these specific agreements. Instead, lease payments for short-term leases are typically recognized as an expense on a straight-line basis over the lease term in the income statement.

In addition to short-term lease exemptions, accounting standards provide practical expedients that simplify the application of lease accounting. One expedient allows entities to combine lease and non-lease components of a contract, potentially affecting the initial measurement and subsequent accounting of the ROU asset and lease liability. Another expedient permits entities to use hindsight in determining the lease term, useful when assessing renewal or termination options. These expedients provide relief from complex calculations but can impact financial statements, including ROU asset presentation.