Leases

Question 1

How does a lessor treat an operating lease?

Answer 1

1. Depreciate asset
2. Amortize direct lease costs S/L over lease term
3. Recognize executory costs (taxes, insurance, maintenance) as incurred
4. Defer lease bonus and amortize
5. Defer rent received in advance
6. Security deposits
   Nonrefundable - unearned revenue
   Refundable - liability
7. Recognize uneven rental payments uniformly over lease term
8. Recognize termination costs at FV at date agreement terminated

Question 2

How does a lessee treat an operating lease?

Answer 2

1. Recognize lease rent expense uniformly
2. Capitalize lease bonus and amortize
3. Report leasehold improvements with PPE and amortize over shorter of useful life or lease term
4. Treat refundable security deposits as receivables
5. Recognize early termination costs immediately at FV

• Recognize rent expense starting when have possession of asset *

Question 3

What is included in minimum lease payments for lessee?

Answer 3

1. Base rent (minus contingent rents and executory costs)
2. Bargain Purchase Option
3. Penalties
4. Guaranteed Residual Value if guaranteed by lessee

Question 4

What is included in minimum lease payments for lessor?

Answer 4

Same as lessee, plus

1. Guaranteed residual value (if guaranteed by lessee or third party)
2. Unguaranteed residual value

Question 5

What does lessee record at lease at?

Answer 5

The lower of:

1. FMV
2. PV of minimum lease payments

Question 6

What rate does the lessee use?

Answer 6

Incremental borrowing rate, unless lessee knows implicit rate and it is lower than incremental borrowing rate

Question 7

What rate does the lessor use?

Answer 7

Implicit rate

Question 8

How are sale-leasebacks treated?

Answer 8

1. If PV of rental payments >=90% of FV it is capital lease
   Defer all gain, offset against depreciation expense
2. If PV of rental payments >10% but <90% of FV, could be either one
   Defer gain up to PV of leaseback payments, recognize rest immediately
3. If PV of rental payments <=10% of FV it is operating lease
   Recognize all gain

Question 9

How is a Sales Type Lease treated?

Answer 9

Recognize normal profit, excess is interest revenue

Normal sales price is initial receivable amount

Question 10

How is a Direct Financing Lease treated?

Answer 10

No profit, only interest revenue

Cost of asset is initial receivable amount

Question 11

How does a Lessee calculate depreciation?

Answer 11

1. If TT or BPO, use useful life and subtract salvage value
2. If no TT or BPO, use shorter of useful life or lease term
   Ignore salvage value