accounting standard-19 leases j.p., kapur & uberai

ACCOUNTING STANDARD-19ACCOUNTING STANDARD-19

LEASES

J.P., KAPUR & UBERAI

SCOPESCOPE

• Applies to leases commencing on and from 1st April 2001.

• Excludes

─ Lease agreements to explore for or use natural resources (oil, gas, timber, metals & other mineral rights)

─ Licensing agreements for such items as motion picture films, video recordings, plays, manuscripts, patents & copyrights.

─ Lease agreements to use lands.


OBJECTIVESOBJECTIVES

• Accounting policies & disclosures for

lessees & lessors

─ Finance Lease

─ Operating Lease


CLASSIFICATION OF LEASESCLASSIFICATION OF LEASES

• A finance lease is a lease that transfers substantially all

the risks and rewards incident to ownership of an asset. Title may or may not eventually be transferred.

• An operating lease is a lease other than a finance lease

• Classification depends on substance of the transaction rather than the form of the contract

• Basic criteria providing guidance in determining whether these risks and rewards have been transferred.


EXAMPLES OF FINANCE LEASESEXAMPLES OF FINANCE LEASES

Ownership transferred by end of lease term.Lease contains bargain purchase option.Lease term for major part of asset’s economic life.Present value of minimum lease payments amounts to at least substantial all of asset’s fair value.Leased asset of specialised nature that only lessee can use without major modifications being made


INDICATORS FOR FINANCE LEASESINDICATORS FOR FINANCE LEASES

Lessor’s losses associated with cancellation (if lessee can cancel lease) borne by lessee.

Gains or losses from fluctuation in fair value of residual fall on lessee.

Lessee can continue lease for a secondary period at a rent substantially lower than market rent.


ILLUSTRATIONS FOR TYPES OF ILLUSTRATIONS FOR TYPES OF

LEASESLEASES

ABC Ltd. uses 3 identical pieces of machinery in its factory. These were all acquired for use on same date by:

Machine 1 rented from Amir Corporation at a cost of Rs. 10,000 per month payable in advance and terminable by either party.

Machine 2 rented from Sunny Corporation at a cost of 8 half-yearly payments in advance of Rs. 60,000.

Machine 3 rented from Ajay Corporation at a cost of 6 half-yearly payments in advance of Rs. 48,000.

Cash price of this type of machine is Rs. 320,000 and its estimated life is 4 years. Are above machines rented by operating or finance leases?


ILLUSTRATION OF FINANCE LEASEILLUSTRATION OF FINANCE LEASE

A company operates in an industry requiring it to use assets which are specifically tailored to their needs. Some of these assets will need to be replaced soon, and they are planning to do this through a leasing arrangement with a third party.

Assets will be constructed to their specifications and will be leased for a period of 4 years. Under draft contract, minimum lease payments will equal 88% of assets’ fair value at inception of lease. Their expected useful life is 7 years, although similar assets they currently own are being depreciated over 5 years. There is no transfer of title and no bargain purchase option in the lease.


ACCOUNTING FOR FINANCE LEASES ACCOUNTING FOR FINANCE LEASES LESSEE’S BOOKSLESSEE’S BOOKS

At inception of a finance lease, lessee should recognise lease as an asset and a liability on the basis of fair value or present value of minimum lease payments .

• Liability for a leased asset should be presented separately in balance sheet as a current liability or a long-term liability as case may be.

• Lease payments should be apportioned between finance charge and reduction of outstanding liability on a basis which produces a constant periodic rate of interest on remaining balance of liability for each period.

• A finance lease gives rise to depreciation expense for asset (on the basis of lessee’s depreciation policy for owned assets) as well as a finance expense for each accounting period.

• If there is no reasonable certainty that lessee will obtain ownership by end of lease term, asset should be fully depreciated over lease term or its useful life whichever is shorter.


ACCOUNTING FOR FINANCE ACCOUNTING FOR FINANCE LEASES-LESSOR`S BOOKSLEASES-LESSOR`S BOOKS

Lessor should recognise assets given under a finance lease in its balance sheet as a receivable at an amount equal to net investment in the lease.

(MLP+ unguranteed residual value-unearned finance income). Recognition of finance income should reflect a constant periodic

rate of return on net investment of lessor outstanding in respect of finance lease.

Manufacturer or dealer lessor should recognise transaction of sale in profit and loss in accordance with policy followed by enterprise for outright sales. In case of artificially low rate of interest, compute sale price based on commercial rates of intrestinitial direct costs to be expensed.


ACCOUNTING FOR OPERATING LEASES ACCOUNTING FOR OPERATING LEASES LESSEE’S BOOKSLESSEE’S BOOKS

Lease payments (excluding costs for services such as insurance & maintenance) under operating lease should be recognised as an expense in profit and loss on a straight line basis over lease term unless another systematic basis is more representative of time pattern of user’s benefit.


ACCOUNTING FOR OPERATING LEASES ACCOUNTING FOR OPERATING LEASES LESSOR’S BOOKSLESSOR’S BOOKS

• Lease income from operating leases should be

recognised in profit and loss on a straight line basis over lease term unless another systematic basis more representative of time pattern in which benefit derived from use of leased asset diminished.

• Leased asset to be disclosed under fixed assets.

• Depreciation of leased assets should be on a basis consistent with normal depreciation policy of lessor for similar assets.


SALE AND LEASEBACK TRANSACTIONS SALE AND LEASEBACK TRANSACTIONS RESULTNG IN FINANCE LEASES- SELLER RESULTNG IN FINANCE LEASES- SELLER –LESSEE’S BOOKS–LESSEE’S BOOKS

• Excess or deficiency of sale proceeds over carrying amount should be deferred or amortised over lease term, in proportion to depreciation of leased asset.


SALE AND LEASEBACK TRANSACTIONS SALE AND LEASEBACK TRANSACTIONS RESULTNG IN OPERATING LEASESRESULTNG IN OPERATING LEASES

• If transaction established at fair value, any profit or loss should be

recognised immediately.• If sale price is below fair value, any profit or loss should be

recognised immediately except that if loss is compensated by future lease payments at below market price, it should be deferred and amortized in proportion to lease payments over the period for which asset is expected to be used.

• If sale price is above fair value, the excess over fair value should be deferred and amortized over the period for which the asset is expected to be used.

• If fair value at time of a sale and leaseback is less than carrying amount of asset, a loss equal to amount of difference between carrying amount and fair value should be recognised immediately.


DISCLOSURES FOR FINANCE LEASES

Lessee(a) Leased assets segregated(b) Net carrying amount(c) Reconciliation between total

minimum lease payments & present value

(d) Total minimum leae payments & present value uner three periodic bands (<1) (>1-5) & (.5 years)

(e) Contingents rents(f) Future minimum sublease

payments expected to be received

(g) Significant lease arrangements.

Lessor(a) Reconciliation between total gross

investment & present value of MLP(b) Total gross investments & present value

of MLP under three periodic bands (<1) (>1-5) & (>5 years)

(c) Contingent rents(d) Significant leasing arrangements(e) Unearned finance income(f) Un-guaranteed residual value accruing

to lessor(g) Accumulated provision for

uncollectible MLP receivable(h) Accounting policy of initial direct costs.


DISCLOSURES FOR OPERATING LEASES

Lessee(a) Total future MLP under three

periodic bands (<1) (>1-5) & (>5 years) under non cancellable operaing leases.

(b) Total future minimum sublease payments under non cancellable sublease.

(c) Lease payments in P&L – separaely for MLP & contingent rents

(d) Sublease payments in P&L.(e) Significant leasing arrangements

(contingent rents determination, renewal or purchase & escalation terms and restrictions – dividend additional debt and sub-leasing).

Lessor(a) Total future MLP under three periodic

bands (<1) (>1-5) & (>5 years)(b) Contingent rents.(c) Significant leasing arrangements.(d) Gross carrying amount accumulated

depreciation & impairment for each class of assets & depreciation and impairment losses recognised/reversed in P&L.

(e) Accounting policy of initial direct costs.


accounting standard-19 leases j.p., kapur & uberai

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