LEASES
SCOPE/EXCLUSIONS
What is a lease? A lease is an agreement whereby the lessor conveys to the lessee in return for a payment or
series of payments the right to use an asset for an agreed period of time.
ASPE 3065 Exclusions
IAS 17 Exclusions
This section does not cover
This Standard shall be applied in accounting for all leases other than:
leasing agreements pertaining (a) leases to explore for/ use minerals, oil, and similar non-regenerative resources
to the rights to explore for or
(b) licensing agreements for such items as motion picture films, video recordings,
to exploit natural resources,
plays, manuscripts, patents and copyrights, etc.
nor does it apply to licensing
This Standard shall not be applied as the basis of measurement for:
agreements for items such as
(a) property held by lessees that is accounted for as investment property;
motion pictures, videotapes,
(b) investment property provided by lessors under operating leases ;
plays, manuscripts, patents
(c) biological assets held by lessees under finance leases ; or
and copyrights, etc.
(d) biological assets provided by lessors under operating leases (see IAS 41).
ACCOUNTING TREATMENT BY A LESSEE
ASPE 3065 Classification: Capital or Operating Lease
1
2
Substantially all of the rewards and risks of ownership have been transferred to the lessee when ONE of the
following 3 tests is met:
Test #3: Is the PV of
Test
#2:
Is
the
Lease
minimum lease
Test #1: Is there a Transfer of
5
Term
≥75%
of
Economic
payments ≥ 90% of
Ownership at end of lease term or
4
No
3
Life of the asset?
asset’s Fair Value?
a Bargain Purchase Option ?
No
Yes
No
Yes
Capital Lease
Operating Lease
Yes
1
Rewards of ownership: expectation of profits and gain from value appreciation.
Risks of ownership: possibilities of losses from idle capacity or obsolescence.
3
Bargain purchase option: allows lessee to purchase leased property for a price sufficiently lower than FV.
4
Economic Life: remaining period during which the property is expected to be economically usable.
5
6
Minimum Lease payments: Minimum rental payments + guaranteed residual value + penalty for not renewing
or extending lease + bargain purchase option.
6
Minimum rental payments: Regular payment to lessor, exc’l executory costs (ie. insurance, maintenance, tax).
Insufficient Criteria (to be considered by lessees and lessors)
The following by themselves are not sufficient evidence of a transfer of risks and rewards:
1. Lessee pays costs incident to ownership (in all leasing agreements, lessee pays for these costs).
2. Lessee has option to purchase asset for lessor’s unrecovered investment (no assurance that lessee will exercise).
3. Leased property is special purpose to the lessee (“special purpose” is relative and hard to define).
2
IAS 17 Classification: Finance or Operating Lease
Substantially all of the benefits and risks of ownership have been transferred to the lessee when ONE of the
following 4 tests is met.
Test #2:
Test #3:
Test #1:
Is the lease term a major
Do PV of minimum lease
Is there a transfer of
portion of the economic life of No payments (excluding executory
No
ownership or a bargain
the lease asset? (no
costs) cover substantially all of
purchase option? (same as
quantitative threshold, ASPE
the FV of the leased asset (no
ASPE)
specifically states 75%)
quantitative threshold, ASPE
specifically states 90%)?
Yes
Yes
Yes
No
Finance lease (called Capital
lease under ASPE)
Yes
Operating Lease
No
Test #4: (additional IFRS test)
Are the leased assets of such a specialized
1 without
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nature that only the lessee can use them
major modifications? (no equivalent test
under ASPE)
IAS 17 provides additional conditions that may lead to classification as a finance lease:
 the lessor’s losses associated with the cancellation are borne by the lessee (if lessee can cancel the lease)
 the lessee can continue the lease for a secondary period at a rent substantially lower than market rent
 gains/losses from FV fluctuation of the residual accrue to the lessee (e.g. a sales rebate approximating
sales proceeds at the end of the lease)
Lease including Land and Building elements
 If land ownership will pass to lessee at end of lease term, classify elements separately on lessee’s books.
 Otherwise, assess each element separately, allocating min. lease payments in proportion to relative FVs.
 If land is immaterial, treat land and building together as a single lease, using building’s economic life.
N.B.: Separate classification for each element NOT required when classification is investment property (IAS 40)
Property interest is a finance lease and the fair value model is used for the asset recognized.
Operating Lease Accounting Treatment
LESSEE
Lease
Payments
IAS 17
Recognized as an expense on a straight-line basis over the
lease term even if payments are not so, unless another
systematic basis is more representative of the benefit
received,
Other
SIC 15: Costs incurred (including costs in connection with a
pre-existing lease) are accounted for in accordance with
the applicable standard. Includes costs effectively
reimbursed through an incentive agreement.
Incentives
SIC 15: Incentives may be provided by a lessor to induce a
lessee to enter into an agreement.
Recognize aggregate benefit as a reduction of rental
expense over the lease term. (Straight-line unless another
systematic basis is more representative.)
In addition to IFRS 7:
 Total future minimum lease payments for noncancellable leases for: <1 year, 1-5 years, and >5 years
 Total future minimum sublease payments expected to be
received for non-cancellable subleases
 Lease/sublease payments expensed in the period
 General description of significant leasing arrangements
(including basis to determine contingent rent payable,
renewal/purchase options, and restrictions)
Disclosures
ASPE 3065
Same as IAS 17.
+ Upon renegotiation and lease term
extension, continue to account as the
original lease until the original lease
term expires. Difference between
payments is related to the term of the
lease extension.
Payments under a residual value
guarantee are included in lease
payments when it is likely the
guarantee will be required.
Lease inducements reduce the lease
expense over the lease term.
 Future minimum lease payments
(aggregate and for each of the five
succeeding years)
 Nature of other commitments
under the leases
 Exception: leases with an initial
term of a year or less do not require
these disclosures
Finance Lease Treatment
LESSEE
Recognition
Amount
Discount Rate
Allocation of Min
Lease Payment
IAS 17
Lower of:
a) Fair value of leased property; and
b) PV of min lease payments
If practical, use implicit rate* and if not
practical use incremental borrowing rate**
Min. lease payments split between the
finance charge and the reduction of the
outstanding liability. The finance charge is at
ASPE 3065
PV of min lease payments excluding
executory costs*** but cannot exceed the
fair value of the leased asset
Lower of:
a) Implicit interest rate; or
b) Incremental borrowing rate
Lease payments shall be allocated to a
reduction of the obligation, interest expense
and any related executory costs. The interest
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Contingent Rent
Direct**** Cost
Depreciation
Amount
Presentation
a constant rate based on the outstanding
liability
Expensed
Costs directly attributable to specific leasing
activities are added to the asset
Same as guidance provided under IAS 16 and
IAS 38
If lessee will not obtain ownership then
depreciate over the shorter of the lease term
and useful life
Statement of Financial Position
 Asset
 Liability
expense is calculated by applying the
discount rate against the outstanding liability
Same as IAS 17
No specific guidance
Same as guidance provided under 3061
Depreciate over lease term unless there is a
term to pass ownership to lessee or a
bargain purchase option exists. If either
exists, amortize over economic life
Present as:
 Asset – separate from assets owned
 Liabilities – separate from other long-term
liabilities
 Lease obligations payable within a year
should be classified as current liability
 Cost
 Accumulated amortization and
amortization method used
 Interest rate
 Maturity date
 Amount outstanding
 If the leases are secured
 Each class of asset, the net carrying
amount, reconciliation between the total of
future minimum lease payments and their
PV.
 Total of future minimum lease payments,
and their present value for each period (<1
yr, 1-5 yrs, and >5 yrs)
 Contingent rents recognized as an expense
 Total of future minimum sublease
payments expected to be received under
non-cancellable subleases
 General description of significant leasing
arrangements (including basis to determine
contingent rent payable, renewal/purchase
options, and restrictions)
* implicit rate= the discount rate at inception date that causes the PV of (a) the min. lease payments and (b) the
unguaranteed residual value to = the sum of (i) the FV of the asset and (ii) any initial direct costs of the lessor.
** incremental rate = rate would have to pay on a similar lease
***executory costs are costs related to the operation of the leased property (ie. insurance, maintenance cost)
****direct costs = costs directly attributable to negotiating and arranging a lease, (except for manufact./dealer)
Disclosures
ACCOUNTING TREATMENT BY A LESSOR
ASPE & IFRS Classification:
Sales-Type, Direct Financing or Operating Lease
From lessor’s point-of-view, use the following to determine if the lease transfers substantially all of the risks and
rewards of ownership to the lessee:
Yes Are the unreimbursable Yes
Does Leased Asset
Yes Is the credit risk
Are any of the
Value = Lessor’s Book
costs to the lessor
Lessee’s capital
associated with the
2
1
Value?
estimable?
lease criteria
lease normal ?
No
met?
Yes
No
No
Sales-Type Lease
Direct Finance (ASPE:
Operating Lease
(ASPE: lessor is
manufacturer/dealor)
lessor is primarily a
financer)
IFRS does not explicitly state sales-type/direct finance lease but the application is similar to ASPE.
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1
When considering collection risk associated with the lease, compare it to that of similar receivables
If costs to lessor are not estimable, the lessor may retain substantial risks associated with the leased asset
2
N.B. A Lease can be a capital lease to the lessee but an operating lease to the lessor and if the lease is an operating
lease to the lessee it will always be an operating lease to the lessor
Accounting Treatment: Operating Leases
LESSOR
Asset
Lease Income
Expenses
Initial Direct
Costs
Depreciation
Dealer Lessor
IAS 17
Recorded according to nature of the asset
Recognized in income on a straight-line basis over
lease term (even if the payments are not), unless
another systematic basis is more representative of
benefit pattern.
Added to cost of assets (IAS 17.52)
Initial direct costs added to carrying amount of leased
asset. Recognized as an expense over the lease term
on the same basis as the income.
ASPE 3065
No specific guidance
Same as IAS 17.
No specific guidance
Initial direct costs (associated with a
specific lease) are deferred and
amortized over the lease term in
proportion to the recognition of income.
No specific guidance
No specific guidance
In accordance with IAS 16 & 38
No recognition of selling profit because an operating
lease is not the equivalent of a sale
Incentives
SIC 15:
Treated the same as initial direct costs.
Recognize aggregate cost of incentives as a reduction
of rental income over the lease term. (Straight-line
unless another systematic basis is more representative
of pattern that the benefit is diminished.)
Disclosures
In addition to IFRS 7:
 Cost of PP&E held for leasing purposes
 Total future minimum lease payments for non Amount of accumulated amortization
cancellable leases for each period (<1 yr, 1-5 yrs, and
of those properties
>5 yrs)
 Carrying amount of impaired
 Total contingent rents recognized as income during
operating lease receivables
the period
 Amount of any related allowance for
 General description of leasing arrangements
impairment
Card Question #1:
Company A enters into a 2-year lease with Company B. The first year’s monthly payments are $2,000 each
and the second year’s monthly payments are $1,000 each (total $36,000). What is the journal entry under IAS 17
for the first month for Company A (lessee)? What are the entries for Company B (lessor)?
Participation by a Third Party (ASPE 3065.57-.60)




A lessor can assign lease payments due under an operating lease to a third party.
The transaction is accounted for as a secured loan by both parties when:
o A guarantee exists that ensures the third party’s investment will be recovered.
o The third party looks to the seller rather than the property/lease to recover its investment.
o The seller retains substantial risks of ownership.
When the property is sold, the seller records proceeds of sale as a loan.
o The interest rate to be used is that which would otherwise be negotiated for a loan under similar
terms and conditions.
Until the loan is paid, the seller records lease payments as revenue (even if paid directly to third party) and
records as interest expense an appropriate portion of each rental payment with the remainder reducing the
amount of the loan.
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Capital/Finance Lease Accounting Treatment: IAS 17
Income
types
Initial direct
costs
Residual
Value
Presentation
Disclosures
Manufacturer or Dealer
Finance income shall be based on a pattern reflecting a
constant rate of return
Profit or loss is in accordance with the policy followed by the
entity for outright sales. If artificially low rates of interest are
quoted, then use the market rate of interest.
Profit or loss (at commencement, same as for outright sale) =
 PV min lease payments computed at a market rate
 Less: Cost or carrying value of the leased property
o Less: Unguaranteed residual value
Initial direct costs are included in the initial measurement
of the finance lease receivable and reduce the amount of
income recognised over the lease term.
Reviewed regularly. If reduction in value:
 Change accounting using new estimate
 The reduction in net investment is charged to income
Shown as receivable equal to the net investment
In addition to IFRS 7:
 Reconciliation between gross investment and the PV of
receivables
 Total contingent rents recognized as income during the period
 General description of leasing arrangements
 Gross investment and the PV of min lease payments for each
period (<1 yr, 1-5 yrs, and >5 yrs)
Other
Finance income shall be based on
a pattern reflecting a constant rate
of return
Included in the initial
measurement of finance lease
receivable through the implicit
interest rate. Reduces the amount
of finance income recognized over
the lease
Same as manufacturer or dealer
Same as manufacturer or dealer
Same as manufacturer or dealer
Capital/Finance Lease Accounting Treatment: ASPE
Lessor Role
Income Types
Initial and
Direct Financing
Financial intermediate between manufacturer or dealer
and a lessee
Finance income is recognized using the implicit rate after
recognizing an equal amount of finance income to offset
initial direct costs incurred in the period
Finance Income =
 Total min lease payments net of any executory costs and
related profit included therein;
o Plus: Any unguaranteed residual value
 Less: cost or carrying value, if different, of leased
property
Net of the balances:
Sales-Type
Manufacturer or dealer effectively
selling a product to lessee
Profit or loss is recognized at time
of transaction.
Profit or Loss =
 PV of minimum lease payment
net of executory costs and
related profit therein; computed
at the interest rate implicit in
the lease
 Less: cost or carrying value, if
different, of leased property
Finance Income =
 Total min lease payments net of
any executory costs and related
profit included therein;
o Plus: Any unguaranteed
residual value
Less: The aggregate present values
Same as Direct Financing
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Continuing
Investment
with Income Tax
Factors:
Above (w/o Tax)
Initial Direct
Costs
Residual Value
Presentation
Disclosures
a) minimum lease payments receivable less any executory
costs and related profit therein;
b) the unguaranteed residual value of the lease property
accruing to the lessor;
c) unearned finance income, after deducting initial direct
costs, remaining to be allocated to income over the
lease term;
d) the investment tax credit remaining to be allocated to
income over the lease term; and
e) future income taxes as a result of the lease, when
predictable with reasonable assurance
Same as a)-c) from above
Expensed as incurred and portion of unearned income is
recognized
Reviewed annually, and an upward adjustment is not made.
If decline:
 change accounting using new estimate
 reduction in net investment charged to income
Net investment is shown separate from other assets. Net
investment includes:
a) min. lease payments receivable less executory costs and
related profit included therein;
b) Plus: any unguaranteed residual value of the leased
property;
c) Less: unearned finance income remaining
Investment tax credit is either:
a) Deducted in computing the net investment; or
b) Shown as deferred credit
Net investment shall be segregated between current and
long-term portions in a classified balance sheet
 Net investment and implicit interest rate
Same as Direct Financing
Expensed at inception of lease
Same as Direct Financing
Same as Direct Financing
Same as Direct Financing
SALE AND LEASEBACK TRANSACTIONS
IFRS Treatment:
A sale and leaseback transaction involves the sale of an asset and the leasing back of the same asset. The lease
payment and the sale price are usually interdependent because they are negotiated as a package.
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Disclosures: Provisions of the agreement or terms of the sale and leaseback transactions
ASPE Treatment:
When there is interdependence between the sales and lease terms and inability to separate the sales and lease, it
is a sale-leaseback transaction.
Exception: When the leaseback is only a portion of the asset sold or only for a portion of the useful life (i.e. one
floor of a tower, or lease is three years of a ten year useful life), it may be possible to separate the accounting
aspects of the sale and the lease.
Disclosure: No significant guidance provided
LEASE CLASSIFICATION CHANGES
 Lease classification made at inception of the lease
 Changes in estimates (economic life/residual value of leased asset) do not result in a new classification
 Changes in provisions, renewal/extension considered a new lease and may result in new classification
ASPE: Additional guidance
Point-of-view
Classification Change
Lessee
Capital to Operating
Lessor
Sales-type/Direct
financing to Operating
Treatment
 Asset and related obligation removed from books
 Net adjustment goes to NI for the period
 Net investment removed from books; lease asset recorded at
Lower of: Original Cost, Present FV or Present carrying amount
 Net adjustment goes to NI for the period
IMPAIRMENT OF LEASE RECEIVABLES
IAS 17:
In accordance with IAS 36.
ASPE 3065: Similar to ASPE 3856
If there is an indication that the lease receivables are impaired, the carrying amount is reduced (directly or by
the use of an allowance account) to the highest of:
(a) PV of future cash flows (discounted using current market rate of interest),
(b) Amount realizable by selling the lease at the beginning of the period,
(c) Amount realizable by exercising the rights to the property net of costs
The impairment can be reversed in the future if conditions change up to the original carrying value. The reversal
is recognized in net income in the period it occurs.
IFRIC 4: DETERMINING WHETHER AN ARRANGEMENT CONTAINS A LEASE
When to use IFRIC 4?
When an entity enters into an arrangement of transaction(s) not in the legal form of a lease but it conveys a right
to use an asset for a series of payments. (Excludes: public-to-private service concession arrangements)
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Topic A: whether the arrangement meets the definition of a lease in accordance to IAS 17
Is fulfillment of the arrangement dependent on use of specific asset(s)?
No
Yes
No Does it convey right to use asset? One of:
Not Lease
 Right to operate in desired manner and control more than insignificant amount of output
 Right to control physical asset and controls more than insignificant amount of output
Yes
Lease
 Other parties cannot take more than an insignificant amount of output during term and
price paid by purchaser per unit is not fixed or equal to market price
Topic B: when assessment or reassessment of arrangement should be made to
determine if it is a lease
Assessment date should be the same as IAS 17. A reassessment after the inception of the arrangement is made
only if any one of the following conditions is met (using facts as of date of assessment):
 There is a change in the contractual terms, unless the change only renews or extends the arrangement.
 A renewal option is exercised or an extension is agreed on if previously not in lease term.
 There is a change in the determination of whether fulfillment is dependent on a specified asset.
 There is a substantial change to the asset
Topic C: how payments for the lease should be separated from other elements.
Payments for the lease and other elements of the arrangement are to be separated on the basis of their relative
fair values. The minimum lease payments for lease can be calculated by:
Is it practical to separate payments for lease and other elements?
Yes
Estimate lease payments
with leases with
comparable assets,
OR
Estimate other elements
with comparable
arrangements and deduct
from total
No
If finance Lease: recognize an asset and a liability at an amount equal to the
fair value of the underlying asset. The liability is to be reduced as payments
are made and an imputed finance charge on the liability recognized using the
purchaser's incremental borrowing rate of interest.
If operating Lease: treat all payments under the arrangement as lease
payments but
-disclose those payments separately from minimum lease payments of other
arrangements that do not include payments for non-lease elements, and
-state that the disclosed payments also include payments for non-lease
elements in the arrangement.
SIC 27: EVALUATING THE SUBSTANCE OF TRANSACTIONS INVOLVING THE LEGAL
FORM OF A LEASE
When to use:
When an entity entered into a transaction or an arrangement with unrelated party/parties (an Investor) that
involves the legal form of a lease, SIC 27 will provide guidance on:
(a) how to determine whether a series of transactions is linked and should be accounted for as one transaction;
(b) whether the arrangement meets the definition of a lease under IAS 17; and, if not,
(i) whether a separate investment account and lease payment obligations that might exist represent assets
and liabilities of the entity
(ii) how the entity should account for other obligations resulting from the arrangement; and
(iii) how the entity should account for a fee it might receive from an Investor.
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When to treat series of transactions as one transaction:
Treated as one transaction when: A series of transactions that involve the legal form of a lease is linked and the
overall economic effect cannot be understood without reference to the series of transactions as a whole.
If one transaction: Accounting needs to reflect the substance of the arrangement and all aspects needs to be
evaluated, with weight given to those aspects that have an economic effect.
Indicators that individually demonstrate that an arrangement may not involve a lease under IAS 17 include:
(a) entity retains all the risks and rewards incident to ownership of an underlying asset and same rights as before;
(b) the primary reason is to achieve a particular tax result, and not for the right to use an asset; and
(c) an option is included on terms that make its exercise almost certain.
Indicators that collectively (more than one) demonstrate that a separate investment account and lease payment
obligations do not meet the definitions of an asset and a liability and shall not be recognized by the Entity
include:
(a) entity not able to control the investment account for own objectives and not obligated to pay lease payments;
(b) the entity has only a remote risk of reimbursing the entire amount of any fee received;
(c) other than the initial cash flows at inception of the arrangement, the only cash flows expected under the
arrangement are the lease payments that are satisfied solely from funds withdrawn from the separate
investment account established with the initial cash flows.
Indicators that individually demonstrate that recognition of the entire fee as income when received, if received
at the beginning of the arrangement, is inappropriate include:
(a) obligations either to perform or to refrain from certain significant activities are conditions of earning the fee,
and therefore execution of a legally binding arrangement is not the most significant act;
(b) limitations are put on the use of the asset that have the practical effect of restricting the use of the asset;
(c) the possibility of reimbursing any amount the fee and paying some additional amount is not remote.
The fee is to be presented in the statement of comprehensive income based on its economic substance and
nature.
Disclosure:
An entity shall disclose the following in each period that an arrangement exists:
(a) a description of the arrangement including:
(i) the underlying asset and any restrictions on its use;
(ii) the life and other significant terms of the arrangement;
(iii) the transactions that are linked together, including any options; and
(b) the accounting treatment applied to any fee received, the amount recognized as income in the period, and the
line item of the statement of comprehensive income in which it is included.
Each arrangement needs to be disclosed separately or in aggregate for each class of arrangement
EXPOSURE DRAFT: LEASES
Existing models require classification into finance or operating lease, leading to lack of comparability due to clear
distinction between the two. In the future, guidance is moving towards all leases being classified as capital/finance.
Main Proposal:
 Lessee: recognize asset representing rights to use leased term and liability to make payments.
 Lessor: recognize its right to receive lease payments and would either i) recognize a lease liability while
continuing to recognize the underlying asset or ii) derecognize the rights in the underlying asset.
 Assets and liabilities are recognized as the longest possible lease term that is more likely than unlikely,
using an expected outcome technique to reflect the lease payments, and updated when there are
changes in facts that make it significantly different from prior period.
 Changes for Lessees: If they currently account for it as operating leases (recognize under the current
period), they will be required to recognize the assets and liabilities under proposal.
 Changes for Lessor: accounting is very different - will be either derecognized or recognize asset and
liability for underlying asset
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Card Question #2 & 3:
ABC Corp leased a truck with an economic life of 7 years on January 1, 2010 from Truck Corp. The yearly rental is
$5,582.62 due at the start of the year, for 3 years. There is no purchase option. The truck has been designed
specifically for the use of the lessee. The incremental borrowing rate of the lessee is 10%, and the implicit rate of
the lessor is 12%.
Card Question #2:
How should the lease be classified by ABC Corp (lessee) under IFRS?
Test 1:
Test 2:
Test 3:
Test 4:
What is the entry to record the lease by ABC Corp (lessee) on Jan 1, 2010?
Card Question #3:
In addition to the facts in Card Question #2, assume that the credit risk of the lease is normal, unreimbursable
costs to the lessor are $1,345 and the truck is sitting on the lessor’s books at $15,000.
How should Truck Corp. (lessor) classify the lease under ASPE?
Test 1:
Test 2:
Test 3:
Test 4:
What are the entries to record the lease on Truck Corp.’s (lessor) books?
Supplementary Illustration:
Using the same information as above, how would the lessee account for the lease until the second payment?
(Other than initial entry)
Payment *paid on Jan 1
Interest Expense
Difference
Obligation
1-Jan-10
$ 20,000.00
1-Jan-10 $5,582.62
$
$ 5,582.62
$ 14,417.38
31-Dec-10 $5,582.62
$
1,730.08
$ 3,852.54
$ 10,564.84
31-Dec-11 $5,582.62
$
1,267.78
$ 4,314.84
$ 6,250.00
31-Dec-12 $ 7,000.00
$
750.00
$ 6,250.00
$
0.00
January 1, 2010
Lease Obligation under Capital Lease
5582.62
Cash
5582.62
December 31, 2010
Interest Expense
1730.08
Lease Obligation under Capital Lease
3852.54
Lease Payable
5582.62
Depreciation Expense
4333*
Acc'd Depreciation
4333*
January 1, 2011
Lease Payable
5582.62
Cash
5582.62
* ($20,000- 7000) ÷ 3 year lease term = $3333
Question based on facts from Illustration 4.5 Chapter 12 of Kieso et al. (2003) Intermediate Accounting II.
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