Deferred rent is an accounting concept that arises when the cash rent payments are different from the rent expense recognized on the financial statements. It is a liability that is created when the actual cash paid and the straight-line expense recorded on the lessees financial statements for an operating lease under ASC 840 do not equal one another. Deferred rent can occur in several different situations in real estate leasing, such as when a tenant is given free rent for a certain period of time, or when the rent amount of a lease changes over time. The difference between prepaid rent and deferred rent is that prepaid rent is rent paid upfront, while deferred rent is a liability.
To account for deferred rent, the average monthly rate is charged to expense in every month of the lease, irrespective of the actual monthly payment made. The expense in the first month of the lease is for the average monthly rate, and there is no actual payment in that month if the tenant is given a free month of occupancy. This means that the debit to expense is offset by a credit to the deferred rent account, which is a liability account. In all successive months of the lease, the same average amount is charged to expense, and if an offsetting rent payment is made and the payment does not match the expense, the difference is charged to the deferred rent liability account. The same approach to deferred rent accounting applies when the rent amount changes over time.
