9 chp SEWA kieso2nd ed_Power point presentation

21-2
PREVIEW OF CHAPTER
Intermediate Accounting
IFRS 2nd Edition
Kieso, Weygandt, and Warfield
21

21-3
5. Describe the lessor’s accounting for
direct-financing leases.
6. Identify special features of lease
arrangements that cause unique
accounting problems.
7. Describe the effect of residual values,
guaranteed and unguaranteed, on lease
accounting.
sales-type leases.
9. List the disclosure requirements for
leases.
After studying this chapter, you should be able to:
Accounting for Leases
21
LEARNING OBJECTIVES
1. Explain the nature, economic
substance, and advantages of lease
transactions.
2. Describe the accounting criteria and
procedures for capitalizing leases by the
lessee.
3. Contrast the operating and capitalization
methods of recording leases.
4. Explain the advantages and economics
of leasing to lessors and identify the
classifications of leases for the lessor.

21-4
Largest group of leased equipment involves:
 Information technology equipment
 Transportation (trucks, aircraft, rail)
 Construction
 Agriculture
A lease is a contractual agreement between a lessor and a
lessee, that gives the lessee the right to use specific property,
owned by the lessor, for a specified period of time.
THE LEASING ENVIRONMENT
LO 1
Who Are the Players?

21-5
ILLUSTRATION 21-2
What Do Companies
Lease?

21-6
Banks Independents
► Credit Suisse
(CHE)
► Chase (USA)
► Barclays (GBR)
► Deutsche Bank
(DEU)
► CNH Capital
(NLD) (for CNH
Global),
► BMW Financial
Services (DEU)
(for BMW)
► IBM Global
Financing (USA)
(for IBM)
Market Share
44%
30%
26%
Who Are the Players?
Captive
Leasing
Companies
LO 1

21-7
1. 100% financing at fixed rates.
2. Protection against obsolescence.
3. Flexibility.
4. Less costly financing.
5. Tax advantages.
6. Off-balance-sheet
financing.
Advantages of Leasing
LO 1
OFF-BALANCE-SHEET FINANCING

21-8
Capitalize a lease that transfers substantially all of the
benefits and risks of property ownership, provided the
lease is non-cancelable.
Conceptual Nature of a Lease
Leases that do not transfer
substantially all the benefits
and risks of
ownership are operating leases.
LO 1

21-9
accounting.
sales-type leases.
leases.
LEARNING OBJECTIVES
1. Explain the nature, economic substance,
and advantages of lease transactions.
procedures for capitalizing leases by
the lessee.
21

21-10
If the lessee capitalizes a lease, the lessee records an asset
and a liability generally equal to the present value of the rental
payments.
 Records depreciation on the leased asset.
 Treats the lease payments as consisting of interest and
principal.
ACCOUNTING BY THE LESSEE
LO 2
ILLUSTRATION 21-2
Journal Entries for Capitalized Lease

21-11
For a finance lease, the IASB has identified four criteria.
1. Lease transfers ownership of the property to the lessee.
2. Lease contains a bargain-purchase option.
3. Lease term is for major part of the economic life of the
asset.
One or more
must be met
for finance
lease
accounting.
4. Present value of the minimum
lease payments amounts to
substantially all of the fair value
of the leased asset.
LO 2

21-12
Lease Agreement Leases that DO NOT meet any of
the four criteria are accounted for
as operating leases.
LO 2
ILLUSTRATION 21-4
Diagram of Lessee’s Criteria for Lease Classification

21-13
Capitalization Criteria
Transfer of Ownership Test
 If the lease transfers ownership of the asset to the lessee,
it is a finance lease.
Bargain-Purchase Option Test
 At the inception of the lease, the difference between the
option price and the expected fair market value must be
large enough to make exercise of the option reasonably
assured.
LO 2

21-14
Economic Life Test
 Lease term is generally considered to be the fixed, non-
cancelable term of the lease.
 Bargain-renewal option can extend this period.
 At the inception of the lease, the difference between the
renewal rental and the expected fair rental must be
great enough to make exercise of the option to renew
reasonably assured.
LO 2

21-15
Illustration: Carrefour (FRA) leases Lenovo (CHN) PCs
for two years at a rental of €100 per month per computer
and subsequently can lease them for €10 per month per
computer for another two years. The lease clearly offers a
bargain-renewal option; the lease term is considered to be
four years.
LO 2

21-16
Recovery of Investment Test
Minimum Lease Payments:
 Minimum rental payments
 Guaranteed residual value
 Penalty for failure to renew or extend the lease
 Bargain-purchase option
Executory Costs:
 Insurance
 Maintenance
 Taxes
Exclude from PV of
Minimum Lease
Payment Calculation
LO 2

21-17
Recovery of Investment Test
Discount Rate
 Lessee computes the present value of the minimum lease
payments using the implicit interest rate.
 In the event it is impracticable to determine the implicit
rate, the lessee should use its incremental borrowing
rate.
LO 2

21-18
Asset and Liability Recorded at the lower of:
1. present value of the minimum lease payments
(excluding executory costs) or
2. fair market value of the leased asset at the inception
of the lease.
Asset and Liability Accounted for Differently
LO 2

21-19
Depreciation Period
 If lease transfers ownership, depreciate asset over
the economic life of the asset.
 If lease does not transfer ownership, depreciate
over the term of the lease.
LO 2

21-20
Effective-Interest Method
 Used to allocate each lease payment between principal
and interest.
Depreciation Concept
 Depreciation and the discharge of the obligation are
independent accounting processes.
LO 2

21-21
Illustration: CNH Capital (NLD) (a subsidiary of CNH Global) and Ivanhoe Mines
Ltd. (CAN) sign a lease agreement dated January 1, 2015, that calls for CNH to
lease a front-end loader to Ivanhoe beginning January 1, 2015. The terms and
provisions of the lease agreement and other pertinent data are as follows.
• The term of the lease is five years. The lease agreement is non-cancelable,
requiring equal rental payments of $25,981.62 at the beginning of each year
(annuity-due basis).
• The loader has a fair value at the inception of the lease of $100,000, an
estimated economic life of five years, and no residual value.
• Ivanhoe pays all of the executory costs directly to third parties except for the
property taxes of $2,000 per year, which is included as part of its annual
payments to CNH.
• The lease contains no renewal options. The loader reverts to CNH at the
termination of the lease.
• Ivanhoe’s incremental borrowing rate is 11 percent per year.
• Ivanhoe depreciates similar equipment that it owns on a straight-line basis.
• CNH sets the annual rental to earn a rate of return on its investment of 10
percent per year; Ivanhoe knows this fact.
LO 2

21-22
What type of lease is this? Explain.
Capitalization Criteria:
1. Transfer of ownership
2. Bargain purchase option
3. Lease term for major part
of economic life of
leased property
4. Present value of
minimum lease payments
substantially all of FMV of
property
NO
NO
Finance Lease, #3
Lease term = 5 yrs.
Economic life = 5 yrs.
PV = $100,000
FMV = $100,000.
YES
YES
LO 2

21-23
Payment $ 25,981.62
Property taxes (executory cost) - 2,000.00
Minimum lease payment 23,981.62
Present value factor (i=10%,n=5) x 4.16986
PV of minimum lease payments $100.000.00
Computation of Capitalized Lease Payments
*
* Present value of an annuity due of 1 for 5 periods at 10% (Table 6-5)
Ivanhoe uses CNH’s implicit interest rate of 10 percent instead of its
incremental borrowing rate of 11 percent because (1) it is lower and (2) it
knows about it.
LO 2

21-24
Leased Equipment 100,000.00
Lease Liability 100,000.00
Ivanhoe records the finance lease on its books on January 1, 2015,
as:
Property Tax Expense 2,000.00
Cash 25,981.62
Ivanhoe records the first lease payment on January 1, 2015, as
follows.
LO 2

21-25
ILLUSTRATION 21-6
Lease Amortization
Schedule for Lessee—
Annuity-Due Basis
LO 2

21-26
Ivanhoe records accrued interest on December 31, 2014
Interest Expense 7,601.84
Interest Payable 7,601.84
Prepare the entry to record accrued interest at December 31, 2015.
LO 2
ACCOUNTING BY THE LESSEE ILLUSTRATION 21-6
Lease Amortization
Annuity-Due Basis

21-27
Depreciation Expense 20,000
Accumulated Depreciation—Leased Equipment 20,000
Prepare the required on December 31, 2015, to record depreciation
for the year using the straight-line method ($100,000 ÷ 5 years).
The liabilities section as it relates to lease transactions at
December 31, 2015.
ILLUSTRATION 21-7
Reporting Current and
Non-Current Lease
Liabilities
LO 2

21-28
ILLUSTRATION 21-6
Lease Amortization
Annuity-Due Basis
Property Tax Expense 2,000.00
Interest Payable 7,601.84
Cash 25,981.62
Ivanhoe
records the
lease
payment of
January 1,
2015, as
follows.
LO 2

21-29
Operating Method (Lessee)
The lessee assigns rent to the periods benefiting from the use of
the asset and ignores, in the accounting, any commitments to
make future payments.
Illustration: Assume Ivanhoe accounts for the lease as an
operating lease. Ivanhoe records the payment on January 1,
2015, as follows.
LO 2
Rent Expense 25,981.62
Cash 25,981.62

21-30
accounting.
sales-type leases.
leases.
LEARNING OBJECTIVES
lessee.
3. Contrast the operating and
capitalization methods of recording
leases.
21

21-31
ILLUSTRATION 21-8
Comparison of Charges
to Operations—Capital
vs. Operating Leases
Differences using a finance lease instead of an operating lease.
1. Increase in amount of reported debt (both short-term and long-term).
2. Increase in amount of total assets (specifically long-lived assets).
3. Lower income early in the life of the lease, therefore lower retained earnings.
LO 3

21-32
accounting.
sales-type leases.
leases.
LEARNING OBJECTIVES
lessee.
4. Explain the advantages and
economics of leasing to lessors and
identify the classifications of leases
for the lessor.
21

21-33
1. Interest revenue.
2. Tax incentives.
3. Residual value profits.
Benefits to the Lessor
ACCOUNTING BY THE LESSOR
LO 4

21-34
A lessor determines the amount of the rental, basing it on the rate
of return—the implicit rate—needed to justify leasing the asset.
If a residual value is involved (whether guaranteed or not), the
company would not have to recover as much from the lease
payments.
Economics of Leasing
LO 4

21-35
a. Operating leases.
b. Finance leases
 Direct-financing leases
 Sales-type leases
Classification of Leases by the Lessor
LO 4

21-36
Classification of Leases by the Lessor
ILLUSTRATION 21-10
Diagram of Lessor’s
Criteria for Lease
Classification
LO 4

21-37
accounting.
sales-type leases.
leases.
LEARNING OBJECTIVES
lessee.
21

21-38
In substance the financing of an asset purchase by the lessee.
Lessor records:
 A lease receivable instead of a leased asset.
 Receivable is the present value of the minimum lease
payments plus the present value of the unguaranteed
residual value.
Direct-Financing Method (Lessor)
LO 5

21-39
Illustration: Using the data from the preceding CNH/Ivanhoe example
we illustrate the accounting treatment for a direct-financing lease. We
repeat here the information relevant to CNH in accounting for this
lease transaction.
1. The term of the lease is five years beginning January 1, 2015,
non-cancelable, and requires equal rental payments of $25,981.62
at the beginning of each year. Payments include $2,000 of
executory costs (property taxes).
2. The equipment (front-end loader) has a cost of $100,000 to CNH,
a fair value at the inception of the lease of $100,000, an estimated
economic life of five years, and no residual value.
3. CNH incurred no initial direct costs in negotiating and closing the
lease transaction.
(continued) LO 5

21-40
We repeat here the information relevant to CNH in accounting for this
lease transaction.
4. The lease contains no renewal options. The equipment reverts to
CNH at the termination of the lease.
5. CNH sets the annual lease payments to ensure a rate of return of
10 percent (implicit rate) on its investment as shown.
Fair market value of leased equipment 100,000.00
$
Present value of residual value (calculation below) -
Amount to be recovered through lease payment 100,000.00
PV factor of annunity due (i=10%, n=5) 4.16986
Annual payment required 23,981.62
$
LO 5

21-41
The lease meets the criteria for classification as a direct-
financing lease for two reasons:
1. the lease term equals the equipment’s estimated economic
life, and
2. the present value of the minimum lease payments equals the
equipment's fair value.
It is not a sales-type lease because there is no difference
between the fair value ($100,000) of the loader and CNH’s cost
($100,000).
LO 5

21-42
CNH records the lease of the asset and the resulting receivable
on January 1, 2015 (the inception of the lease), as follows.
Lease Receivable 100,000
Equipment 100,000
ILLUSTRATION 21-12
Computation of Lease
Receivable
Companies often report the lease receivable in the statement of
financial position as “Net investment in finance leases.
LO 5

21-43
ILLUSTRATION 21-13
Lease Amortization
Schedule for Lessor—
Annuity-Due Basis
LO 5

21-44
Cash 25,981.62
Lease Receivable 23,981.62
Property Tax Expense/Property Taxes Payable 2,000.00
On January 1, 2015, CNH records receipt of the first year’s lease
payment as follows.
ILLUSTRATION 21-13
Lease Amortization
Annuity-Due Basis
LO 5

21-45
Interest Receivable 7,601.84
Interest Revenue 7,601.84
On December 31, 2015, CNH recognizes the interest revenue earned
during the first year through the following entry.
ILLUSTRATION 21-13
Lease Amortization
Annuity-Due Basis
LO 5

21-46
At December 31, 2015, CNH reports the lease receivable in its
statement of financial position among current assets or non-current
assets, or both. It classifies the portion due within one year or the
operating cycle, whichever is longer, as a current asset, and the rest
with non-current assets.
ILLUSTRATION 21-14
Reporting Lease
Transactions by Lessor
LO 5

21-47
LO 5
Cash 25,981.62
Property Tax Expense/Property Taxes Payable 2,000.00
The following entry records the receipt of the second year's lease
payment on January 1, 2016.
ILLUSTRATION 21-13
Lease Amortization
Annuity-Due Basis

21-48
The following entry records the recognition of interest earned on
December 31, 2016.
ILLUSTRATION 21-13
Lease Amortization
Annuity-Due Basis
LO 5

21-49
 Records each rental receipt as rental revenue.
 Depreciates leased asset in the normal manner.
Operating Method (Lessor)
LO 5

21-50
Assuming that the direct-financing lease illustrated for CNH does not
qualify as a finance lease, CNH accounts for it as an operating lease
and records the cash rental receipt as follows.
Cash 25,981.62
Rental Revenue 25,981.62
Depreciation is recorded as follows: ($100,000 ÷ 5 years = $20,000)
Depreciation Expense 20,000
Accumulated Depreciation 20,000
LO 5

21-51
accounting.
sales-type leases.
leases.
LEARNING OBJECTIVES
lessee.
21

21-52
1. Residual values.
2. Sales-type leases (lessor).
3. Bargain-purchase options.
4. Initial direct costs.
5. Current versus non-current classification.
6. Disclosure.
SPECIAL ACCOUNTING PROBLEMS
LO 6

21-53
guaranteed and unguaranteed, on
lease accounting.
sales-type leases.
leases.
LEARNING OBJECTIVES
lessee.
21

21-54
Meaning of Residual Value - Estimated fair value of the
leased asset at the end of the lease term.
Guaranteed versus Unguaranteed – A guaranteed residual
value is when the lessee agrees to make up any deficiency
below a stated amount that the lessor realizes in residual value
at the end of the lease term.
Residual Values
LO 7

21-55
Lease Payments - Lessor may adjust lease payments
because of the increased certainty of recovery of a guaranteed
residual value.
Lessee Accounting for Residual Value - The minimum
lease payment includes a guaranteed residual value but
excludes an unguaranteed residual value.
Residual Values
LO 7

21-56
Illustration: Assume the same data as in the CNH/Ivanhoe illustrations except
that CNH estimates a residual value of $5,000 at the end of the five-year lease
term. In addition, CNH assumes a 10 percent return on investment (ROI), whether
the residual value is guaranteed or unguaranteed. The terms and provisions of the
lease agreement and other pertinent data are as follows.
• The term of the lease is five years. The lease agreement is non-cancelable,
requiring equal rental payments of $25,981.62 at the beginning of each year
(annuity-due basis).
• The loader has a fair value at the inception of the lease of $100,000, an
estimated economic life of five years.
• Ivanhoe pays all of the executory costs directly to third parties except for the
property taxes of $2,000 per year, which is included as part of its annual
payments to CNH.
• The lease contains no renewal options. The loader reverts to CNH at the
termination of the lease.
• Ivanhoe’s incremental borrowing rate is 11 percent per year.
• Ivanhoe depreciates similar equipment that it owns on a straight-line basis.
• CNH sets the annual rental to earn a rate of return on its investment of 10
percent per year; Ivanhoe knows this fact.
Lease Payments
LO 7

21-57
CNH assumes a 10 percent return on investment (ROI), whether
the residual value is guaranteed or unguaranteed. CNH would
compute the amount of the lease payments as follows.
Lease Payments
ILLUSTRATION 21-15
Lessor’s Computation of
Lease Payments
LO 7

21-58
Guaranteed Residual Value (Lessee Accounting)
An additional lease payment that the lessee will pay in property or
cash, or both, at the end of the lease term.
Lease Accounting for Residual Value
ILLUSTRATION 21-16
Computation of Lessee’s Capitalized
Amount—Guaranteed Residual Value
LO 7

21-59
Guaranteed Residual Value (Lessee)
ILLUSTRATION 21-17
Lease Amortization Schedule for
Lessee—Guaranteed Residual Value
LO 7

21-60
At the end of the lease term, before the lessee transfers the asset
to CNH, the lease asset and liability accounts have the following
balances.
Assume that Ivanhoe depreciated the leased asset down to its
residual value of $5,000 but that the fair market value of the
residual value at December 31, 2019, was $3,000. Ivanhoe would
make the following journal entry.
ILLUSTRATION 21-18
Account Balances on Lessee’s Books at End
of Lease Term—Guaranteed Residual Value
LO 7

21-61
Loss on Disposal of Equipment 2,000.00
Interest Expense (or Interest Payable) 454.76
Accumulated Depreciation—Leased Equipment 95,000.00
Leased Equipment 100,000.00
Cash 2,000.00
ILLUSTRATION 21-18
LO 7

21-62
Assume the same facts as those above except that the $5,000
residual value is unguaranteed instead of guaranteed. CNH will
recover the same amount through lease rentals—that is,
$96,895.40. Ivanhoe would capitalize the amount as follows:
Unguaranteed Residual Value (Lessee Accounting)
Lease Accounting for Residual Value
ILLUSTRATION 21-19
Computation of Lessee’s Capitalized
Amount—Unguaranteed Residual Value LO 7

21-63
Unguaranteed Residual Value (Lessee)
ILLUSTRATION 21-20
Lease Amortization Schedule for Lessee
—Unguaranteed Residual Value
LO 7

21-64
At the end of the lease term, before Ivanhoe transfers the asset to
CNH, the lease asset and liability accounts have the following
balances.
Unguaranteed Residual Value (Lessee)
ILLUSTRATION 21-21
Account Balances on Lessee’s Books
at End of Lease Term—
Unguaranteed Residual Value
LO 7

21-65
Lessee Entries Involving Residual Values
ILLUSTRATION 21-22
Comparative Entries for Guaranteed and Unguaranteed Residual Values, Lessee Company LO 7

21-66
LO 7
Illustration: Assume a direct-financing lease with a residual value
(either guaranteed or unguaranteed) of $5,000. CNH determines the
payments as follows.
Lessor Accounting for Residual Value
The lessor works on the assumption that it will realize the residual
value at the end of the lease term whether guaranteed or
unguaranteed.
ILLUSTRATION 21-23

21-67
ILLUSTRATION 21-24
Lease Amortization Schedule, for Lessor—
Guaranteed or Unguaranteed Residual Value
LO 7

21-68 LO 7
Illustration 21-24
CNH would
make the
following
entry for this
direct-
financing
lease on
1/1/15.
Equipment 100,000.00

21-69
Illustration 21-24
CNH would
make the
following
entry for this
direct-
financing
lease on
1/1/15.
Cash 25,237.09
Property Tax Expense/Property Taxes Payable
2,000.00 LO 7

21-70
Illustration 21-24
CNH would
make the
following
entry for this
direct-
financing
lease on
12/31/15.
LO 7

21-71
accounting.
sales-type leases.
leases.
LEARNING OBJECTIVES
lessee.
21

21-72
 Primary difference between a direct-financing lease and
a sales-type lease is the manufacturer’s or dealer’s
gross profit (or loss).
 Lessor records the sale price of the asset, the cost of
goods sold and related inventory reduction, and the
lease receivable.
 There is a difference in accounting for guaranteed and
unguaranteed residual values.
Sales-Type Leases (Lessor)
LO 8

21-73
ILLUSTRATION 21-26
Direct-Financing versus Sales-Type Leases
LO 8

21-74
LEASE RECEIVABLE (also referred to as NET INVESTMENT). The
present value of the minimum lease payments plus the present value of
any unguaranteed residual value. The lease receivable therefore includes
the present value of the residual value, whether guaranteed or not.
SALES PRICE OF THE ASSET. The present value of the minimum lease
payments.
COST OF GOODS SOLD. The cost of the asset to the lessor, less the
present value of any unguaranteed residual value.
LO 8

21-75
Illustration: To illustrate a sales-type lease with a guaranteed
residual value and with an unguaranteed residual value, assume
the same facts as in the preceding direct-financing lease
situation. The estimated residual value is $5,000 (the present
value of which is $3,104.60), and the leased equipment has an
$85,000 cost to the dealer, CNH. Assume that the fair market
value of the residual value is $3,000 at the end of the lease term.
LO 8

21-76
Computation of Lease Amounts by CNH
Financial—Sales-Type Lease ILLUSTRATION 21-27
LO 8

21-77
Comparative
Entries
Illustration 21-28

21-78
 Lessee must increase the present value of the minimum
lease payments by the present value of the option.
 Only difference between the accounting treatment for a
bargain-purchase option and a guaranteed residual value
of identical amounts is in the computation of the
annual depreciation.
Bargain Purchase Option (Lessee)
LO 8

21-79
Accounting for initial direct costs:
 Operating leases, the lessor should defer initial direct
costs.
 Sales-type leases, the lessor expenses the initial direct
costs.
 Direct-financing lease, the lessor adds initial direct
costs to the net investment.
Initial Direct Costs (Lessor)
LO 8

21-80
Both the annuity-due and the ordinary-annuity situations report
the reduction of principal for the next period as a current
liability/current asset.
Current versus Noncurrent
LO 8

21-81
The current portion of the lease liability/receivable as of December
31, 2015, would be
Current versus Noncurrent
$18,017.70.
ILLUSTRATION 21-29
Lease Amortization
Schedule—Ordinary-
Annuity Basis
LO 8

21-82
accounting.
sales-type leases.
leases.
LEARNING OBJECTIVES
lessee.
21

21-83
For lessees:
 A general description of material leasing arrangements.
 A reconciliation between the total of future minimum lease
payments at the end of the reporting period and their present
value.
 The total of future minimum lease payments at the end of the
reporting period, and their present value for periods (1) not later
than one year, (2) later than one year and not later than five
years, and (3) later than five years.
Disclosing Lease Data
LO 9

21-84
For lessors:
 A general description of material leasing arrangements.
 A reconciliation between the gross investment in the lease at the
end of the reporting period, and the present value of minimum
lease payments receivable at the end of the reporting period.
 Unearned finance income.
 The gross investment in the lease and the present value of
minimum lease payments receivable at the end of the reporting
period for periods (1) not later than one year, (2) later than one
year and not later than five years, and (3) later than five years.
Disclosing Lease Data
LO 9

21-85
To avoid leased asset capitalization, companies design, write,
and interpret lease agreements to prevent satisfying any of the
four finance lease criteria.
The real challenge lies in disqualifying the lease as a finance
lease to the lessee, while having the same lease qualify as a
finance (sales or financing) lease to the lessor.
Unlike lessees, lessors try to avoid having lease arrangements
classified as operating leases.
Unresolved Lease Accounting Problems
LO 9

21-86
LEASE ACCOUNTING
Leasing is a global business. Lessors and lessees enter into arrangements
with one another without regard to national boundaries. Although U.S. GAAP
and IFRS for leasing are similar, both the FASB and the IASB have decided
that the existing accounting does not provide the most useful, transparent, and
complete information about leasing transactions that should be provided in the
financial statements.
GLOBAL ACCOUNTING INSIGHTS

21-87
Relevant Facts
Following are the key similarities and differences between U.S. GAAP and
IFRS related to accounting for leases.
Similarities
• Both U.S. GAAP and IFRS share the same objective of recording leases by
lessees and lessors according to their economic substance, that is,
according to the definitions of assets and liabilities.
• Much of the terminology for lease accounting in U.S. GAAP and IFRS is the
same.
• Under U.S. GAAP and IFRS, lessees and lessors use the same general
lease capitalization criteria to determine if the risks and rewards of
ownership have been transferred in the lease.

21-88
Relevant Facts
Differences
• One difference in lease terminology is that finance leases are referred to as
capital leases in U.S. GAAP.
• U.S. GAAP for leases uses bright-line criteria to determine if a lease
arrangement transfers the risks and rewards of ownership; IFRS is more
general in its provisions.
• U.S. GAAP has additional lessor criteria: payments are collectible, and
there are no additional costs associated with a lease.
• U.S. GAAP requires use of the incremental rate unless the implicit rate is
known by the lessee and the implicit rate is lower than the incremental rate.
IFRS requires that lessees use the implicit rate to record a lease unless it is
impractical to determine the lessor’s implicit rate.

21-89
Relevant Facts
Differences
• Under U.S. GAAP, extensive disclosure of future non-cancelable lease
payments is required for each of the next five years and the years
thereafter. IFRS does not require it although some companies provide a
year-by-year breakout of payments due in years 1 through 5.
• The FASB standard for leases (SFAS No. 13) has been the subject of more
than 30 interpretations since its issuance. The IFRS leasing standard is IAS
17, first issued in 1982. This standard is the subject of only three
interpretations. One reason for this small number of interpretations is that
IFRS does not specifically address a number of leasing transactions that
are covered by U.S. GAAP. Examples include lease agreements for natural
resources, sale-leasebacks, real estate leases, and leveraged leases.

21-90
On the Horizon
Lease accounting is one of the areas identified in the IASB/FASB
Memorandum of Understanding. The Boards have issued proposed rules
based on “right of use,” which requires that all leases, regardless of their
terms, be accounted for in a manner similar to how finance leases are treated
today. That is, the notion of an operating lease will be eliminated, which will
address the concerns under current rules in which no asset or liability is
recorded for many operating leases. A final standard is expected in 2015. You
can follow the lease project at the IASB website (http://www.iasb.org).

21-91
LO 10 Understand
and apply lease
accounting
concepts to
various lease
arrangements.
ILLUSTRATION 21A-1
Illustrative Lease
Situations, Lessors
APPENDIX 21A EXAMPLES OF LEASE ARRANGEMENTS

21-92
ILLUSTRATION 21A-2
Comparative Entries for
Operating Lease
LO 10

21-94
ILLUSTRATION 21A-3
Finance Lease—Bargain-
Purchase Option
LO 10

21-95
LO 10

21-96
ILLUSTRATION 21A-4
Finance Lease
LO 10

21-97
LO 10

21-98
ILLUSTRATION 21A-5
Operating Lease
LO 10

21-99 LO 11 Describe the lessee’s accounting for sale-leaseback transactions.
The term sale-leaseback describes a transaction in which
the owner of the property (seller-lessee) sells the property to
another and simultaneously leases it back from the new
owner.
Advantages:
1. Financing
2. Taxes
APPENDIX 21B SALE-LEASEBACKS

21-100
DETERMINING ASSET USE
To the extent the seller-lessee continues to use the asset
after the sale, the sale-leaseback is really a form of financing.
 Lessor should not recognize a gain or loss on the
transaction.
If the seller-lessee gives up the right to the use of the asset,
the transaction is in substance a sale.
 Gain or loss recognition is appropriate.
LO 11
APPENDIX 21A SALE-LEASEBACKS

21-101
If the lease meets one of the four criteria for treatment as a
finance lease, the seller-lessee should
 Account for the transaction as a sale and the lease as a
finance lease.
 Defer any profit or loss it experiences from the sale of the
assets that are leased back under a finance lease.
 Amortize profit over the lease term .
Lessee
LO 11

21-102
If none of the finance lease criteria are satisfied, the seller-
lessee accounts for the transaction as a sale and the lease
as an operating lease.
 Lessee defers such profit or loss and amortizes it in
proportion to the rental payments over the period when it
expects to use the assets.
Lessee
LO 11

21-103
If the lease meets one of the lease capitalization criteria, the
purchaser-lessor records the transaction as a purchase and a
direct-financing lease.
If the lease does not meet the criteria, the purchaser-lessor
records the transaction as a purchase and an operating lease.
Lessor
LO 11

21-104
Japan Airlines (JAL) on January 1, 2015, sells a used Boeing 757 having a
carrying amount on its books of $75,500,000 to CitiCapital for $80,000,000. JAL
immediately leases the aircraft back under the following conditions:
1. The term of the lease is 15 years, non-cancelable, and requires equal rental
payments of $10,487,443 at the beginning of each year.
2. The aircraft has a fair value of $80,000,000 on January 1, 2015, and an
estimated economic life of 15 years.
3. JAL pays all executory costs.
4. JAL depreciates similar aircraft that it owns on a straight-line basis over 15
years.
5. The annual payments assure the lessor a 12 percent return.
6. JAL’s incremental borrowing rate is 12 percent.
SALE-LEASEBACK EXAMPLE
LO 11

21-105
This lease is a finance lease to JAL because the lease term is
equal to the estimated life of the aircraft and because the
present value of the lease payments is equal to the fair value of
the aircraft to CitiCapital.
CitiCapital should classify this lease as a direct financing lease.
SALE-LEASEBACK EXAMPLE
LO 11

21-106
LO 11

21-107
LO 11

21-108
Copyright © 2015 John Wiley & Sons, Inc. All rights reserved.
Reproduction or translation of this work beyond that permitted in
Section 117 of the 1976 United States Copyright Act without the
express written permission of the copyright owner is unlawful.
Request for further information should be addressed to the
Permissions Department, John Wiley & Sons, Inc. The purchaser
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