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MGT401 - Financial Accounting II GDB No.2 Solution and Discussion Spring 2014
Learning Objectives:
Objective of this discussion is to enable students to get in depth knowledge of different types of leasing. Real time scenarios are developed to distinguish the differentiate types of leasing according to nature and types of agreement.
Learning outcomes:
After this valuable discussion students will be able to compare, distinguish and relate two major types of leasing and able to understand nature of agreement that is necessary to declare an agreement as a leasing agreement.
1.
(A) Firdous limited is intended to acquire an asset for one season that is consisted of 6 months. Hefty amount is needed to acquire the asset so, company decided to acquire it on lease. After six month period, leasing agreement will be expired without any possession.
(B) PK Plus limited acquire asset on lease from Damas leasing company. PK plus has an option to purchase the asset at end of lease term, on below its fair price.
© Admiral limited got an asset on lease. According to the expert the economic useful life of asset is not more than 12 years. Whereas, term of lease is for 10 years. Furthermore, company has no intention to purchase the asset at the end of lease term.
(D) Pine Corporation acquired an asset on lease without intention to purchase it at expiry of series of rental payments. Fair value of asset is Rs.100,000 and rental payment is Rs.80,000.
Requirement: From above given scenarios identify types of lease with proper reasoning.
Jade company Ltd. acquired an assets form its associated company BBG. Jade company will use the asset for 6 year and will pay monthly installments to BBG
Requirement: Is this agreement is lease agreement? Discuss.
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A. Operating Lease
An operating lease is basically a rental agreement. The lessee records rent expense for each of the lease payments.
B. Capital Lease
A capital lease is a rental agreement in form, but the substance of the transaction is an asset purchase. With capital leases, the lessee records and asset and related liability rather than rental expense. The lessee also record depreciation on the asset. If a lease agreement meets any one of the following criteria, it is considered to be a capital lease:
The lease term is equal to 75% or more of the life of the asset.
The present value of the minimum lease payments is equal to at least 90% of the cost of the asset.
The lease transfers ownership of the asset to the lessee at the end.
The lease contains a bargain purchase option (the option price is so low we know that the lessee will exercise the option to purchase the asset.
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Leases in the financial statements of lessees
Operating Leases
Lease payments under an operating lease shall be recognised as an expense on a straight-line basis over the
lease term unless another systematic basis is more representative of the time pattern of the user’s benefit.
Finance Leases
At the commencement of the lease term, lessees shall recognise finance leases as assets and liabilities in their
statements of financial position at amounts equal to the fair value of the leased property or, if lower, the
present value of the minimum lease payments, each determined at the inception of the lease. The discount rate
to be used in calculating the present value of the minimum lease payments is the interest rate implicit in the
lease, if this is practicable to determine; if not, the lessee’s incremental borrowing rate shall be used. Any
initial direct costs of the lessee are added to the amount recognised as an asset.
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