Accounting for Leases

Question 1

Identify and define types of leases from the lessor’s perspective under IFRS and U.S. GAAP.

Answer 1

Capital (Finance) Leases

• Sales-type*: Gives rise to manufacturer’s or dealer’s profit or loss. Fair value differs from cost or carrying value.
• Direct-financing*: Fair value is the same as cost or carrying value at the beginning of lease term.

Operating

All other leases are simple rental agreements in which the lessor debits cash/rent receivable and credits rental income.

Question 2

Identify and define two types of leases from the lessee’s perspective under IFRS.

Answer 2

Capital (U.S. GAAP) - Finance (IFRS)

Transfers substantially all of the benefits and risks inherent in ownership of property to the lessee. In substance, an installment purchase. The lessee accounts for the lease as an acquisition of an asset and related liability.

Operating (IFRS and U.S. GAAP)

All other leases are simple rental agreements in which the lessee debits rent expense and credits cash/rent payable.

Question 3

In an operating lease, give the treatment of a lease bonus, from both the lessor’s and lessee’s perspective.

Answer 3

Lessor

Lease bonus is deferred dand amortized as income over the life of the lease.

Lessee

Lease bonus is capitalized and amortized as an expense over the life of the lease.

Question 4

Name the criteria for determining if a lease is a capital lease for the lessee under U.S. GAAP.

OWNS

Answer 4

To be classified as a capital lease under U.S. GAAP, the transaction must meet one or more of the following criteria:

• Ownership transferred
• Written bargain purchase option
• (Ninety) Present value of minimum lease payments is equal to or greater than 90% of FMV of asset
• (seventy-five) Lease term equals or exceeds 75% of estimated useful life

Last two items are qualifying criteria as long as asset is not in last 25% of original estimated life.

Question 5

Name the criteria for determining if a lease is a finance lease for the lessee and the lessor under IFRS.

Answer 5

The lessee and lessor classify a lease as a finance lease if the lessor transfers substantially all the risks and rewards of ownership to the lessee.

Question 6

How does the lesses record the capital lease?

Answer 6

At lower of FV or present value of minimum lease payments, using the lower of lessee’s incremental borrowing rate or the rate implicit in the lease, if known by lessee.

Note: Minimum lease payments incluce payments, bargain purchase option, and guaranteed residual value. They do not include executory costs or an optional purchase.

Under IFRS, initial direct costs are recognized as part of the finance lease asset.

Question 7

Name the criteria for determining if a lease is a capital lease for the lessor under U.S. GAAP.

LUC

Answer 7

To be classified as a capital lease, the transaction must meet all three of the following criteria:

• Lessee “owns” the leased property.
• Uncertainties do not exist regarding any nonreimbursable costs to be incurred by the lessor.
• Collectibility of the lease payments is reasonably predictable.

Question 8

What is the difference between sales-type and direct-financing leases (lessor finance leases)?

Answer 8

Sales-type

Gives rise to manufacturer’s or dealer’s profit or loss. Fair value differs from cost or carrying value.

Direct-financing

Fair value is the same as cost or carrying value at the beginning of lease term.

In profit from my sales (-type) lease, not from my (direct-) financing lease.

Question 9

What period of benefit does the lessee use to depreciate the leased asset under a capital lease?

Answer 9

The estimated economic life of the asset is used if the lessee takes ownership or there is a bargain purchase option.

Otherwise, the lease term is used.

Question 10

Identify the three classifications used with respect to the seller-lessee’s rights retained in a sale-leaseback under U.S. GAAP.

Answer 10

Substantially all rights retained

• PV of rent payments is equal to or greater than 90% of the fair value of the property.
• Gain deferred and amortized.

Rights retained are less than substantially all but greater than minor

• PV of rent payments is less than 90%, but greater than 10% of the fair value of the property.
• Gain deferred up to the present value of lease payments (operating lease) or capitalized asset (capital lease). The excess is recognized immediately.

Minor portion of rights retained

• PV of rent payments is 10% or less of the fair value of the property.
• Entire gain recognized.

In all cases, losses (NBV > FV) are recognized immediately.

Question 11

Outline the accounting by the seller-lessee in a sale-leaseback transaction under IFRS.

Answer 11

If sale-leaseback results in a finance lease, defer profit and amortize over the lease term.

If sale-leaseback results in an operating lease, profit or loss is recognized based on the relationship between the leased asset’s carrying amount, fair value, and selling price.

Question 12

What are the lesse’s major footnote disclosures for capital leases under U.S. GAAP?

Answer 12

1. Gross amount of assets capitalized by major property categories.
2. Future minimum lease payments in the aggregate and for each of the next five years.
3. Amount of imputed interest to reduce net minimum lease payments to present value.