Leases

Question 1

How is a Capital Lease recorded?

Answer 1

Capitalize at cost: Asset & Liability Recorded at Present Value of Future Lease Payments

Question 2

What footnote disclosures are required for a Capital Lease?

Answer 2

Future minimum rental commitments

By year - for 5 years

All remaining years as a group

Question 3

What are the requirements for a Capital Lease for a lessor?

Answer 3

Same as for lessee (Title- BPO or Substance)- PLUS:

Collectability of lease payments is predictable

No uncertainties about the lessor reimbursing the lessee for costs incurred

Question 4

What are the characteristics of an Operating Lease for a lessee?

Answer 4

Risk of ownership does NOT pass

No asset or liability is recorded on the financial statements

Leasehold improvements - capitalized and depreciated over the lesser of lease life or leasehold improvement’s life.

Question 5

What are the characteristics of an Operating Lease for a LESSOR?

Answer 5

Rent revenue recorded

Leased property remains an asset and depreciated by lessor

If payments fluctuate over the term of the lease- rent revenue recognized on a straight line basis

Question 6

What are the characteristics of a Direct Financing Lease?

Answer 6

Interest Revenue (or expense for lessor) decreases with passage of time

Principal amount increases with each payment

Carrying amount of Lease decreases

Question 7

How is a sale-leaseback recorded?

Answer 7

Any profit on the sale is deferred and amortized

Exception: If PV of lease payments is 10% or less of the asset’s FMV- the gain is recognized

If PV of lease payments is greater than 10% of FMV and the lease is operating- all of the gain is recognized except the amount of the PV of the lease payments

Question 8

What are the characteristics of lease payments under an annuity due situation?

Answer 8

Payments begin at the start of the lease period

Think: Rent/Mortgage payments are Due at the first of the month

Question 9

What are the characteristics of lease payments under an ordinary annuity situation?

Answer 9

Payments begin after the end of the first year

Think: An annuity that pays you at the end of each year

Question 10

What are the characteristics of a Capital Lease for a lessee?

Answer 10

Risk of ownership passes to lessee by:
Title,
Bargain Purchase Option (BPO),
Substance - Lease is more than 75% of asset’s useful life or PV of minimum lease payments are more than 90% of fair value

Question 11

When Rights & Risks of ownership transfer from lessor to lessee?

Answer 11

Lessee = Capital Lease NOT Operating Lease

Lessor = Additional Criteria (Sales Type or Direct Financing Lease NOT Operating Lease

Question 12

Characteristics of Transfer of Rights & Risks of Ownership? In Lessee Side.

Answer 12

• *At Least 1 of 4 criteria**
  1) Actual Transfer
  
  • title transfers to lessee by end of term
  • lease contains bargain purchase option (BPO)
    2) Transfer in Substance
  • lease term >or = 75% of useful life
  • P.V. of min lease payment > or= 90% of FMV
    3) Cal P.V (lessee uses lower of)
  • Incremental borrowing rate
  • Rate implicit in lease (if known)

Question 13

What is the J/E for Capital Leases as Lessee?

Answer 13

Step #1: Payment at Inception
(Debit) Lease obligation
(Credit) Cash

Step #2: Subsequent payments
(Debit)Interest expense
(Debit)Lease Obligation
(Credit) Cash

Step #3: Interest amount
Balance in lease obligation X Interest Rate Pge 119