International Financial Reporting Standards_guide.pdf

164 Chapter 14 Leases (IAS 17)
Asset 1
The lease term is for a major part of the asset’s life, 80 percent (8 out of 10 years). No further
work is needed with respect to the criteria, because only one criterion (or a combination of
criteria) has to be met to result in the lease being recorded as a finance lease (see IAS 17,
paragraph 10). The amount to record is the present value of the 8 years of $15,000 lease payments,
plus the present value of the $20,000 purchase option. The discount rate to use is 10
percent, which is the lower of the incremental borrowing rate and the lease’s implicit rate.
The present value is $89,354. This amount will be recorded as an asset and as a liability on
the Statement of Financial Position.
Choice b. is correct. The entry required is to record an asset and liability in the amount of
$89,354.
Asset 2
The lease term is less than a major part of the asset’s life, defined as 67 percent (8 out of 12
years). There is no indication of a bargain purchase option, and the property does not go the
lessee at the end of the lease (unless the lessee opts to pay $35,000). The present value of the
lease payments, including the purchase option, is $96,351. The present value of the minimum
lease payments does not approximate the fair market value of $105,000. Asset 2 does not meet
any of the finance lease conditions and is accounted for using the operating lease method.
Choice d. is correct. No entries are required under the operating lease method when the lease
is entered into.
EXAMPLE 14.3
Which of the following assets would have a higher cash flow from operations in the first year
of the lease? (Assume straight-line depreciation, if applicable.)
Asset 1: Lease payment of $15,000 per year for 8 years, $20,000 fair market value purchase
option at the end of Year 8 (guaranteed by the lessee to be the minimum value of the equipment),
estimated economic life is 10 years, fair market value of the leased asset is $105,000,
and the interest rate implied in the lease is 10 percent.
Asset 2: Lease payment of $15,000 per year for 8 years, $35,000 fair market value purchase
option at the end of Year 8 (guaranteed by the lessee to be the minimum value of the equipment),
estimated economic life is 12 years, fair market value of the leased asset is $105,000,
and the interest rate implied in the lease is 10 percent. The company’s incremental borrowing
rate is 11 percent.
Options
a. Asset 1.
b. Asset 2.
c. Both assets would have the same total cash flow from operations.
d. Insufficient information given.