FAR - 12 LEASES Flashcards
What are the four criterias to be considered a Capital Lease?
- Title Transfer
- BPO - bargain purchase option
- 75% of lease term is equal or more of the estimated economic life of the property at inception
- PV of the minimum lease payments is equal to 90% or more of the FMV of the property at inception
What are the four elements of Minimum Lease Payments?
- Base rent
- BPO
- Penalties
- Residual Value
NOTE: Minimum lease payments exclude Executory Costs (taxes, insurance, maint)
To PV the minimum lease payments, which rates are used?
- Incremental Borrowing Rate - discount rate the lessee would pay in the lending market to purchase the leased asset
-
Implicit Rate if only:
a. ) Lessee knows the lessor’s implicit rate AND
b. ) Implicit rate is lower than the incremental borrowing rate
NOTE: LESSOR always uses INCREMENTAL BORROWING RATE
Capital Lease Journal Entries
Capital Lease Amount = PV of Minimum Lease Payments
DAY 1 - RECORDING THE LEASE
DR: Leased Asset
CR: Leased Liability
FIRST PAYMENT (DAY 1)
DR: Leased Liabilitiy (1st Payment = no interest)
CR: Cash
SECOND PAYMENT (ONE YR LATER)
DR: Leased Liability
DR: Interest Expense
CR: Cash
NOTE: If the first payment is made on day 1, it is all principal.
How to depreciate a capital leased asset? Two Ways
Criteria 1 or 2 (TT/BPO)
- Depriciate over useful life
Depr = Asset - Salvage / Useful Life
Criteria 3 or 4 (75/90)
- Depriciate over the lower of useful life or lease term
Depr = Asset / Useful Life or Lease Term
NOTE: Salvage value is ignored.
Sales Type Lease
A lease where the seller is a manufacturer or dealer of the asset.
Includes both:
- Profit/Loss
- Interest Revenue
Jornal Entry:
DR: Gross Investment in Lease (Minimum lease pmts + residual value)
CR: Sales Revenue (PV of min lease pmts + PV of residual value)
CR: Unearned Interest Revenue (PLUG, amortized using effective int method)
DR: COGS (cost of asset less direct costs)
CR: Inventory
DR: Cash
CR: Gross Investment in Lease
DR: Unearned interest Rev
CR: Interest Income
NOTE: Gross Investment in Lease & Unearned Interest Revenue must equal the PV of the receivable.
NOTE:
- Profit = Total of PV of Lease Payments - CV of asset
- Lessor always usues the implicit rate.
Direct Finance Lease
A lease where equipment is acquired without purchasing it. Only interest income arises & no dealers profit.
Journal Entry:
DR: Lease Payment Receivables
CR: Equipment
CR: Unearned Interest Revenu
Lessor’s Non-Operating Lease
Sales Type Lease - With profit or gain
Direct Financing Lease
Six Criterias:
- Title Transfer
- BPO
- 75% Test
- 90% Test
- Collectibility
- No Significant Uncertainties
Operating Lease
Lessor
vs.
Lessee
Lessor
- Depreciates asset
- Rent received in advanced is considred unearned or deferred revenue
-
Security Deposits
- Nonrefundable - unearned revenue until earned
- Refundable - Liability until returned
Lessee
- Lease rent expense is recognized Uniformaly
- Lease bonus is considered an asset & amortized S/L over lease term
- Leasehouse hold improvements part of PPe
- Depreciated - Shorter of legal/useful life
- Refundable security deposits is a receivable
Leases Involving Real Estate
For LESSEE:
- Land ONLY
- If there’s NO TT or BPO, its an operating lease
- If there’s a TT
- Either sales type or direct financing
- If there’s a BPO
- Either operating or direct financing
- Land & Building
- If there’s a TT or BPO, Lessee will capitalize both land & building separately
- if there’s NO TT or BPO, determine if land is significant.
- If FMV of land is less than 25% of the total FMV of land & building, land is ignored & treated as a builing lease only.
- If FMV of land is greater than 25% of the total FMV of land & building, capitalize separately
Sale-leaseback
- If PV of rental pmt is greater than 90% of FMV of property, seller-lessee retains substantially all the rights
- Defer all gain & offset against Depr EXP
- If PV of rental is >10%, but <90% of FMV, either Operating or Capital leaseback
- If PV of rental is <10%, considered as Operating Leaseback
- Recognize all gain immediately
