What are embedded leases?
What is an Embedded Lease?
Embedded leases are lease agreements that are included within a larger contract or arrangement, and they may not be explicitly identified as leases. They typically occur when an entity acquires the right to use a specific asset through a service contract or other arrangement, and this right fulfills the definition of a lease under accounting standards.
For example, a company might sign a service contract for the maintenance of its equipment. If the contract includes the exclusive right to use specific equipment (like a specialized maintenance vehicle or machinery), that part of the agreement could be considered an embedded lease.
Identifying embedded leases is important for financial reporting and compliance with accounting standards, as they need to be reported on financial statements according to lease accounting rules. This ensures transparency and accuracy in the portrayal of a company's financial obligations and assets.