ACCOUNTING STANDARD-10

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ACCOUNTING STANDARD-19

LEASES

J.P., KAPUR & UBERAI
SCOPE

• 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.

J.P., KAPUR & UBERAI
OBJECTIVES

• Accounting policies & disclosures for
lessees & lessors

─ Finance Lease

─ Operating Lease

J.P., KAPUR & UBERAI
CLASSIFICATION 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.

J.P., KAPUR & UBERAI
EXAMPLES 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

J.P., KAPUR & UBERAI
INDICATORS 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.

J.P., KAPUR & UBERAI
ILLUSTRATIONS FOR TYPES OF
LEASES

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?
J.P., KAPUR & UBERAI
ILLUSTRATION 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.

J.P., KAPUR & UBERAI
ACCOUNTING FOR FINANCE LEASES
LESSEE’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.

J.P., KAPUR & UBERAI
ACCOUNTING FOR FINANCE
LEASES-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.

J.P., KAPUR & UBERAI
ACCOUNTING FOR OPERATING LEASES
LESSEE’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.

J.P., KAPUR & UBERAI
ACCOUNTING FOR OPERATING LEASES
LESSOR’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.
J.P., KAPUR & UBERAI
SALE AND LEASEBACK TRANSACTIONS
RESULTNG IN FINANCE LEASES- SELLER
–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.

J.P., KAPUR & UBERAI
SALE AND LEASEBACK TRANSACTIONS
RESULTNG 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.

J.P., KAPUR & UBERAI
DISCLOSURES FOR FINANCE LEASES
Lessee Lessor
(a) Leased assets segregated (a) Reconciliation between total gross
investment & present value of MLP
(b) Net carrying amount (b) Total gross investments & present value
(c) Reconciliation between total of MLP under three periodic bands (<1)
minimum lease payments & (>1-5) & (>5 years)
present value (c) Contingent rents
(d) Significant leasing arrangements
(d) Total minimum leae payments &
(e) Unearned finance income
present value uner three periodic
(f) Un-guaranteed residual value accruing
bands (<1) (>1-5) & (.5 years) to lessor
(e) Contingents rents (g) Accumulated provision for
(f) Future minimum sublease uncollectible MLP receivable
payments expected to be (h) Accounting policy of initial direct costs.
received
(g) Significant lease arrangements.

J.P., KAPUR & UBERAI
DISCLOSURES FOR OPERATING
LEASES
Lessee Lessor
(a) Total future MLP under three (a) Total future MLP under three periodic
periodic bands (<1) (>1-5) & (>5 bands (<1) (>1-5) & (>5 years)
years) under non cancellable (b) Contingent rents.
operaing leases. (c) Significant leasing arrangements.
(b) Total future minimum sublease (d) Gross carrying amount accumulated
payments under non cancellable depreciation & impairment for each
sublease. class of assets & depreciation and
impairment losses recognised/reversed
(c) Lease payments in P&L – separaely in P&L.
for MLP & contingent rents (e) Accounting policy of initial direct costs.
(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).

J.P., KAPUR & UBERAI