Lec 13 Flashcards
(19 cards)
Lease
Lease is a contractural agreement that gives a lessee the right to use a property of a lessor (underlying asset) for a certain period of time in return of a series of payments
Why do companies lease
Companies lease
To avoid initial down payments
Protection against obsolescence (risk of residual values usually for the lessor)
Flexible terms
Some tax ads
Accounting by a lessee
Does a contact contain lease?
Yes if it conveys the right to control the use of asset for a period of time in exchange for a payment
Right to control asset = right to obtain economic benefit, right to direct the use of the asset.
You can bundle lease with other terms eg rent (lease) and cleaners (expense)!
Guaranteed residual value
Lessee agress to keep a in good condition so that a contracted rv is left at the end of the lease
Accounting by a lessee: initial measurement of right of use asset
At commencement date lessee recognises a right of use asset and lease liability
EXCEPT for short term (<12 months) and low value assets (<5000) these are OPERATING
Expenses
Example of operating expense
A company enters a 5 year lease for an equipment valued at 3000 (750 a year)
Low value lease <5000
Coming opts not to recognise the lease on the balance sheet > recognise expense
Every year
Rental expense 750
Cash 750
Lease is kept off balance
Accounting by a lessee; Initial measurement of right of use asset
Lease liability = pv(lease payments + € expected penalty for rv guarantees + exercise price of purchase option + € expected penalty for lease termination
Discounted at implicit interest rate or incremental borowing rate
2) + payments at commencement date (eg 1st lease instalment or initial direct costs incurred by lessee
3) -lease incentives given to the lessee
4) + costs incurred by lessee to dismantle the leased asset
Accounting by a lessee answer: lease enters in 10 year lease of property with annual payments of 50k per year payable on jan 1. To obtain this lease, lessee incurs initial direct costs of 20k of which 15k is the payment to the former occupant and 5k is a commission to the real estate against. As an incentive for the lesser enter the lease, lessor reimburses the commission of the real estate agent. The interest rate implicit in the lease is not determinable. Lessee incremental borrowing rate is 5%. At the commencement date lessee makes the first lease payment of 50k.
Note: 1st payment (jan1) is not a liability (already paid from day 1)
Pv lease 9 payments: 50k * 1-1/1+.05^9 all over 0.05 = 355,391
Recognise lease asset and Liability
Right of use asset 405391
Lease liability 355391
Cash 50000
Indirect costs
Right of use asset 20000
Cash 20000
Subtract lease incentive
Cash 5000
Right of use asset 5000
Subsequent measurement of right of use asset (accounting by a lessee)
After recognition right of use asset is measured at cost mode:
Cost - accum dep +/- adjusted for lease liability remeasurements (zand adjusted for any remeasurement of lease liability)
Right of use is subject to impairment
What is the lease liability carrying value aT 2 years?
Period 1: interst expense: 355,391 x .05= 17,770
Pv lease payments = 50,000(cash)
Therefore lease liability is 32,230
Dep expense; 405,391/10 = 40539
Right of use asset 40539
For period 2:
Interst expense: 323161*.05 = 16158
Lease payments 50000
Lease liability reduction 33842
Dep expense 40359
Right of use asset 40359
Accounting by a lessee: subsequent measurement and guaranteed RV
Jan 1 lesse enters in a 10 year lease of the property with annual payments of 50k payable on dec 31. The interest rate implicit in the lease is not determinable. Lesser incremental borrowing rate is 5%. The lessee incurs 5000 of initial direct costs, and guarantees residual value of the leased property for 20,000
So lease payments are 10, and 20000 guaranteed elected payments too meaning:
50,000 * 1-1.05^9 / 0.05 + 20,000*1/1.05^10 +0+0
= 398,365
Value of right to use asset = lease liability + initial costs 398365+5000=403365
Dep expense = 403365-20000 /10 years =38337
Jan 1 recognise the right of use asset and lease liability
Right of use asset 403365
Lease liability 398365
Cash 5000
Prepare lease payments using effective interest rate (so at end of 10 years the lease liability carrying amount will be 20000 due to the residual value)
So at period 1: Interest expense 398,365*0.05 =19918 Lease liability 50000-19918 = 30082 Cash 50000 Dep = 403365-20000/10 = 38337 Right of use asset 38337
Period 2: Interest expense = 368283*0.05= 18414 Lease liability = 31586 Cashb50,000 Dep 38337 Right of use asset 38337
Different examples of accounting by a lessee
Example above assumed final residual value >/= to guaranteed rv
What if fv (asset) at lease termination (15k)< guaranteed rv (20k)
Loss on lease 5000
Cash 5000
Or
Bargain purchase option: lease can purchase the leased asset lower than expected fv at termination date > certain that company will exercise > increase lease liability at commencement date
Accounting by a lessee to sum up
Balance sheet
Income statement
Cash flow
Balance sheet -
Right of use at cost - accum dep
Lease liability at amortised costs
Income statement -
Dep of leased asset
Interst expense on leased liability
Cash flow
Interest payments on lease liability (operating or financing)
Accounting by a lessor
Lessors distinguish between operating and finance lease
To be a finance lease must be non danceable and meet at least one of the 5 conditions
Finance lease 5 conditions (must meet one)
Finance lease must meet one of these conditions:
Transfer of ownership test
Purchase option: option to purchase < expected fv asset
Lease term test: useful life > 75% of useful life
Pv test: pv lease payments > fv (asset) >90% of fv
Alternative use test: lessor has no alternatives use of the asset on termination
Finance lease - initial recognition
At the commencement date, lessor recognised a lease receivable (nca) equal time the net investment in the lease:
Gross inv in the lease =
+ lease payment receivable by lessor
+ unhurantwwd rv accruing to lessor
Net investment in the lease = pv (gross inv in the lease)
Accounting by a lessor
Pv lease payments + pv ungueanteed rv = fv underlying asset + Initial direct costs of the lessor
Accounting by lessor example
Lessor enters Into a 10 year lease of equipment with lessee. The equipment is not specialised in nature and is expected to have alternative use after the lease.
Lessor receives annual payments 15000 @ Dex 31
Equipment economic life is 10 years, and carrying amount of 100,000 and fv of 111,000
The lease does not transfer ownership at the end of the lease nor contain an option to purchase under the underlying asset. Ir = 5.9%
It’s finance as pv is 100,000 and fv = 111,000 basically same.
Pv lease payments + 0 = fv asset + 0
15* 1-1.059^10 /.059 = 111,000
Net inc in lease 111,000
Gain on lease inv 11000
Asset held for lease 100,000
Subsequent measurement
Lessor recognises interst income over the lease term using the it implicit in the lease
Lessor reduces net inv in the lease for payments received
Recognised any impairment of the net inv in the lease
Period 1: cash 15,000
Net inv in lease 8467
Interst income 6533
I’m
Accounting by a lessor new example
Lessor enters into a ten year lease of equipment with lessee. The equipment is not specialised in nature and is expected the d to have alternative use to lessor at the end of the 10 year lease term.
Lessor receives annual lease payments of 15000 at end of year
Lessor expects 50000 rv of which 30000 is guaranteed by lessee
Lessor incurs intial direct costs of 5000
Equipment has remaining life of 16 years, a carrying amount of 100,000 and fv of 111,000
Lease agreement does not transfer ownership of the underlying asset to lease at the end of the term or contain an option to purchase underlying Asset
Net inv in lease 116,000
Gain on lease inv 11,000
Asset held for lease 100,000
Cash 5000
Period 1:
Cash 15,000
Interst income 116,000 x 0.09226 (ir) = 10703
Net investment in lease 4297 (15,000 - 10703)
Operating leases
Leased asset remains on the bs of the lessor
Inv in lease is not recognised on lessors bs
Initial profit on lease is not recognised on lessors pl
Lease fixed payments are recognised as income on IS On a straight line basis
Lease variable payment are recognised as they are earned
