a Page 1 of 9| FAR Handouts No. 27 REAL (eS EXCELLENCE KARIM ©. ABITAGO, CPA LEASES KARIM G. ABITAGO, CPA LECTURE NOTES BASIC CONCEPTS, Under PFRS 16, LEASE is a CONTRACT or part of a contract that conveys the right to use an underlying asset for a period of time in exchange for consideration In a lease contract, the parties are: = LESSEE — The entity that obtains the right to use an underlying asset for a period of time in exchange for ‘consideration. + LESSOR - The provides the right to use an underlying asset for a period of time in exchange for consideration. RIGHT TO CONTROL THE USE OF THE ASSET ‘An entity has the right to control the use of an identified asset ifit has both of the following throughout the period of use + The right to obtain substantially all of the economic benefits from the use ofthe identified asset. The customer can obtain substantially all of the economic benefits from the use of the asset by having EXCLUSIVE USE of the asset throughout the period ‘+The right to direct the use of the identified asset. A customer has the right to direct use of the asset when the customer has the right to DIRECT HOW and FOR WHAT PURPOSE the asset is used throughout the period of use. IDENTIFIED ASSET ‘An identified asset is requirement for a contract of lease to exist. An asset can be identified by being EXPLICITLY specified in a contract or IMPLICITLY specified when made available to the customer. NOTES: * PORTIONS OF ASSETS: A portion of an asset is an identified asset if it is physically distinct. If not physically distinct, the portion is not an identified asset, unless it represents substantially all of the capacity of the asset thereby providing the customer the right to obtain substantially all of the economic benefits from the asset. * SUBSTANTIVE SUBSTITUTION RIGHTS: An asset is not an identified asset if the supplier has the substantive right to substitute it throughout the period of use. LEASE TERM PFRS 16 defines lease term as the NON-CANCELLABLE period of for which the lessee has the right to use the underlying asset together with both * Periods covered by an option to extend the lease if the lessee is reasonably certain to exercise that option © Periods covered by an option to terminate the lease if the lessee is reasonably certain not to exercise that option. ‘ACCOUNTING FOR LEASES — LESSEE Under PFRS 16, a lessee shall account the lease by recognizing a LEASE LIABILITY and RIGHT-OF-USE ASSET at the commencement date ‘Simply stated, the general accounting of leases on the lessee's perspective is FINANCE LEASE, On the other hand, a lessee may elect not to apply the FINANCE LEASE MODEL and make an accounting policy election to apply the operating lease model in two OPTIONAL EXEMPTIONS. 4) SHORT-TERM LEASE This is a lease that has a term of 12 MONTHS OR LESS at the commencement of the lease. NOTE: A lease that contains a purchase option is NOT a short-term lease. The election of short-term lease is made based on the class of underlying asset to which the right of use relates. 2) LOW VALUE LEASE ‘The assessment of value is based on the value of the asset when it is new, regardless of the age of the asset being leased. Typically, low value underiying assets include personal computers, office furniture and telephones. NOTE: Low value asset is a matter of PROFESSIONAL JUDGMENT MEASUREMENT OF LEASE LIABILITY INITIAL MEASUREMENT The lease liabiity is initially measured at the PRESENT VALUE of the LEASE PAYMENTS that are not yet paid as at the ‘commencement date. REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience pete a REAL EXCELLENCE ONLINE CPA REVIEW COMET rane ny, y REAL EXCELLENCE Lease payments include: Fixed payments less any lease incentives receivable ¥ Variable lease payments ¥ Amounts expected to be payable by the lessee under residual value guarantees v Exercise price of a purchase option if the lessee is reasonably certain to exercise that option ¥ Termination penalties ifthe lease term reflects the exercise of a termination option NOTE: Executory costs are EXPENSED IMMEDIATELY when incurred. ‘The lease payments above shall be discounted using the IMPLICIT INTEREST RATE in the lease. /f that rate is not readily determinable, the lessee’s INCREMENTAL BORROWING RATE is used. IMPLICIT INTEREST RATE: Page 2 of 9 | FAR Handouts No. 27 KARIM G. ABITAGO, CPA LEASES The rate that causes the present value of the lease payments and the unguaranteed residual value to equal the fair value of the underlying asset and initial direct costs of the lessor. The rate of interest that the lessee would have to pay to borrow funds necessary to obtain a similar asset over a similar term and similar security, INCREMENTAL BORROWING RATE: ‘SUBSEQUENT MEASUREMENT The lease liabilty is subsequently measured similar to an AMORTIZED COST financial liability MEASUREMENT OF RIGHT-TO-USE ASSET INITIAL MEASUREMENT ‘The right-of-use asset is intially measured at COST. The cost comprises the following: ¥ The amount of the intial measurement of the lease liability ¥ Any lease payments made at or before commencement date, less any lease incentives received ¥ Any inital direct costs incurred by the leases ¥ The present value of any decommissioning and restoration costs for which the entity has incurred an obligation SUBSEQUENT MEASUREMENT The right-of-use asset is subsequently measured under COST MODEL, which is COST LESS ANY ACCUMULATED DEPRECIATION AND IMPAIRMENT LOSS. EXEMPTIONS FOR SUBSEQUENT MEASUREMENT + If the asset relates to 2 class of PPE that is measured under the REVALUATION MODEL, the asset may be measured under REVALUATION MODEL. ‘* Ifthe asset meets the definition of an investment property and the entity uses the FAIR VALUE MODEL, the asset is measured under FAIR VALUE MODEL. DEPRECIATION PERS 16 provides that the lessee shall depreciate the right-of-use asset over the USEFUL LIFE OF THE UNDERLYING ASSET under the following conditions: + The lease contract TRANSFERS OWNERSHIP to the lessee by the end of the lease term. * There is a reasonable certainty that the lessee will exercise a PURCHASE OPTION. ‘An any other case, the lessee depreciates the underlying asset over the shorter of the asset's useful fe and the lease term Depreciation starts from the commencement date of the lease. OTHER ACCOUNTING ISSUES 1) SEPARATING THE COMPONENTS OF A CONTRACT ‘An entity accounts for each lease component of a contract separately from the non-lease components of that contract. A lessee allocates the consideration in the contract to each lease component based on the RELATIVE STAND- ALONE PRICE of the lease component and the aggregate stand-alone price of the non-lease components. 2) VARIABLE LEASE PAYMENTS ‘The accounting for variable lease payments depends on the nature of variability ‘Type of Variable Payment Based on index or rate Initia Accounting Tnclude in lease liabilty and right-of use asset based on the level or rate at the ‘commencement date ‘Subsequent Accounting] Adjust lease liability and right-of- use asset when the revised index cr rate changes the lease payments Others (based on sales or usage) Exclude from lease liability and right-of-use asset Recognized as expense when ‘event or condition that triggers payment occurs In-substance fixed payments ‘Treat as fixed lease payments ‘Treat as fixed lease payments | REO CPA REVIEW PHILIPPINES www.reocpareview.ph @ (074) 665.6774 @ 0916 8400661 @ support@reo.comph Effectiveness. Efficiency. Convenience REAL EXCELLENCE ONLINE CPA REVIEW MAY 2021 CPA REVIEW SEASON» REAL Page 3 of 8| FAR Handouts No. 27 EXCELLENCE ern p nerina cen 3) GUARANTEED RESIDUAL VALUE Residual value guarantee is a guarantee made to a lessor by a party unrelated to the lessor that the value of an underlying asset at the end of a lease willbe at least a specified amount As to the lessee, a residual value is guaranteed if itis: ¥ Guaranteed by the lessee or ¥ Guaranteed by a party related to the lessee, ‘When @ lessee accounts for a residual value, this presupposes that the asset will REVERT BACK to the lessor at the end of the lease term. If the asset does not revert back to the lessor, the residual value is not guaranteed because it inures to the benefit of the lessee rather than the lessor. 4) _ LEASE MODIFICATIONS PFRS 16 provides that the lessee shall account for the lease modification as a separate lease under the following ‘conditions: ¥ The modification increases the scope of the lease by adding the right to use an additional underlying asset ¥ The rental for the lease modification increases by an amount commensurate with the increase in scope of equivalent to the current market rental. 5) _ PRESENTATION RIGHT-OF-USE ASSET (NON-CURRENT ASSET) This asset is presented either: ¥ Separately from other assets or Together with other assets as if they were owned, with disclosure of the line items that include the right-of- use assets LEASE LIABILITY (CURRENT LIABILITY AND NON-CURRENT LIABILITY) This lability are presented either ¥ Separately from other liabilities Y Together with other liabilities, with disclosure of the line items that include the lease liabilties ACCOUNTING FOR LEASES — LESSOR Lessor accounting under PFRS 16 is substantially the same as the old lease standard, PAS 17. PERS 16 provides that the lessor shall classify leases as either an operating lease or a finance lease, Under PFRS 16, among others, any of the following situations would normally lead to a lease being classified as a finance lease: The lease transfers ownership of the leased asset to the lessee at the end of the lease term. b. The lessee has an option to purchase the asset at a price which is expected to be sufficiently lower than the fair value at the date the option becomes exercisable, © The lease term is for the major part of the economic life of the asset even if title is not transferred. Under US GAAP, "major part" means at least 75% of the economic life of an asset d. The present value of the minimum lease payment amounts to substantially all of the fair value of the leased asset at the inception of the lease. Under US GAAP, "substantially all” means at least 90% of the fair value of the leased asset. PERS 16 also provide that, individually or in combination, the following situations could also lead to a lease being ‘classified as finance lease @ The leased asset is of a specialized nature such that only the lessee can use it without major modification b. Ifthe lessee cancels the lease, the lessor's losses associated with the cancelation are borne by the lessee © Gains or losses from fluctuation in the fair value of the residual fall to the lessee, The lessee has the ability to continue the least for a secondary period at a rent which is substantially lower than market rent. ICEPTI COMMENCEMENT DAT Inception of the lease is the earlier of the date of the lease agreement and the date of commitment by the parties to the Principal provisions of the lease. Accordingly, this is the date: ¥ — When a lease is classified as either an operating lease or a finance lease. When the amounts to be recognized at the commencement of the lease are determined for a finance lease. Commencement of the lease is the date from which the lessee is entitied to exercise its right to use the leased asset. In other words, the commencement of the lease is the date of initial recognition of the assets, iabilties, income or expenses resulting from the lease. ‘On the part of the lessor, a finance lease is either: = Direct financing lease Sales type lease ‘The main difference between the two is the presence or absence of a manufacturer or dealer profit or loss. REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience ‘yaw reocpareview ph REAL EXCELLENCE ONLINE CPA REVIEW © (074) 6656774 @ 09168400661 © support@reo com ph MAY 2024 CPA REVIEW SEASONPage 4 of 9| FAR Handouts No. 27 REAL 4 EXCELLENCE KAM OESITARACEA DIRECT FINANCING LEASE The lessor in a direct finance lease is actually engaged in the financing business. Thus, this type of lease is an arrangement between a financing entity and a lessee, ‘The income of the lessor is INTEREST INCOME only. ‘The following terms are used in a direct finance lease: 4 Gross investment in the lease - the gross investment in the lease is equal to the gross rentals for the entire lease term plus the absolute amount of the residual value, whether guaranteed or unguaranteed. Actually, this is the ‘amount debited to lease receivable ‘ Net investment in the lease - the net investment in the lease is equal to the cost of the asset plus any initial direct ‘cost incurred by the lessor. 4 Unearned interest income - the unearned interest income is the total financial revenue of the lessor which is the difference between the oross investment and net investment in the lease. 4 Initial direct cost - in a direct financing lease, the intial direct cost incurred by the lessor is added to the cost of the ‘asset to get the net investment in the lease. This would effectively spread the intial direct cost over the lease term and reduce the amount of interest income. Accordingly, the interest rate implicit in the lease is recomputed so as to include the initial direct cost in the measurement of the lease receivable, RESIDUAL VALUE Unlike for lessees who account for guaranteed residual value only, lessors account for BOT GUARANTEED AND UNGUARANTEED RESIDUAL VALUES, provided the asset REVERTS back to the lessor at the end of the lease term. AAs tothe lessee, a residual value is guarenteed if iis: ¥ Guaranteed by the lessee or ¥ Guaranteed by a party related to the lessee ¥ Guaranteed by a third party unrelated to the lessor that is financially capable of discharging the obligations under the guarantee SALES TYPE LEASE The lessor in a sales type lease is actually a manufacturer or dealer that uses the leases as a means of facilitating the sale of product. The income of the lessor includes INTEREST INCOME and DEALER PROFIT OR LOSS. The following terms are used in a direct finance lease: Gross investment - This is equal to the gross rentals for the entire lease term plus the absolute amount of the residual value, whether guaranteed or unguarantead 4 Recall that this is the same definition of gross investment in a direct financing lease. + Net investment in the lease - This is equal to the present value of the gross rentals plus the present value of the residual value, whether guaranteed or unguaranteed. ‘ _ Uneamed interest income - This is the total financial revenue of the lessor which is the difference between the gross investment and net investment in the lease. Sales — The amount is equal to the net investment in the lease or fait value of the asset, whichever is lower. Cost of sales - This is equal to the cost of the asset sold plus the inital direct cost incurred by the lessor. Gross profit - This is the usual formula of sales minus cost of sales. Initial direct cost - This amount is expensed immediately in a sales type lease as compdhent of cost of sales. CLASSIFICATION OF LAND AND BUILDING LEASE When classifying @ lease on land and building, an entity normally considers the land and building elements separately. Aland lease with a lease term of several decades or longer may be classified es finance lease even if title will not pass to the lessee at the end of the lease term. ‘The minimum lease payments are allocated between the land and building elements in proportion to the relative fair value of the leasehold interests in the land and building elements at the inception of the lease. If the lease payments cannot be allocated reliably between the two elements, the entire lease is classified as a finance lease, unless itis clear that both ‘elements are operating leases. wees OPERATING LEASE ‘An operating lease is a lease that does not transfer substantially all the risks and rewards incidental to ownership of an underlying asset. ‘The accounting for operating leases is STRAIGHT-FORWARD. The lessor recognizes the lease payments as income on a straight-line basis over the lease term, unless other systematic basis is more representative of the patter in which benefit from the use of the underlying asset is diminished. This accounting treatment of the lessor is the same for the accounting treatment of lessees for operating leases. REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience _wanw reocpareview.ph REAL EXCELLENCE ONLINE CPA REVIEW © (074) 6856774 @ 09168400661 © suppot@reo.com.ph_ MAY 2021 CPA REVIEW SEASON. REAL Page 5 of ©| FAR Handouts No. 27 EXCELLENCE KARIM 0. ABITAGO, CPA ‘The following items are under consideration for operating leases: 1) INITIAL DIRECT COSTS Initial direct costs are often incurred by the lessor and include amounts such as commissions, legal fees and internal costs that are incremental and directly attributable to negotiating and arranging a lease. Initial direct costs incurred by lessor in an operating lease shall be added to the cemying amount of the leased asset and recognized as an expense over the lease term on the same basis as the lease income. 2) DEPRECIATION The leased asset remains the asset of the lessor under an operating lease. Therefore, the lessor continues to depreciate it 3) LEASE BONUS ‘Any lease bonus received by the lessor from the lessee is recognized as unearned rent income to be amortized over the lease term, Allease bonus paid by the lessee to the lessor in addition to the periodic rental is treated as prepaid rent expense by the lessee to be amortized over the lease term, 4) SECURITY DEPOSITS ‘Any security deposit refundable upon the lease expiration shall be accounted for as liability by the lessor. Any security deposit refundable upon the lease expiration is accounted for as an asset by the lessee. ‘SALE AND LEASEBACK TRANSACTIONS A sale and leaseback transaction is an arrangement whereby one party sells a property to another party and then immediately leases the property back from its new owner. This transaction results to @ scenario wherein the seller becomes a seller-lessee and the purchaser, a purchaser lessor To account for these transactions, both the seller-lessee and buyer-lessor determine whether the transfer qualifies as a sale based on the requirements for satisfying a performance obligation in PFRS 16. TRANSFER QUALIFIES AS A SALE Ifthe transfer qualifies as a sale under PFRS 15: + The seller-lessee shall © Measure the right-of-use asset arising from the leaseback at the proportion of the previous carrying amount of the asset that relates to the right of use retained by the seller-lessee and © Recognize only the amount of any gain or loss that relates to the rights transferred to the buyer-lessor + The buyer-lessor shall account for the purchase of the asset applying applicable standards and for the lease applying the lessor accounting under PFRS 16. The following adjustments shall be made to measure the sale proceeds at fair value if the sales price is not equal to the fair value of the asset or if the lease payments are not at market rates: ‘* Any below-market terms shall be accounted for as a prepayment of lease payments. ‘+ Any above-market terms shall be accounted for as additional financing provided by the buyer-lessor to the seller- lessee. The adjustment is measured based on the more readily determinable of + The difference between the fair value of the consideration for the sale and the fair value of the asset. * The difference between the present value of the contractual payments for the lease and the present value of payments for the lease at market rates, TRANSFER OF THE ASSET IS NOT A SALE IF the transfer does not qualify as a sale, the parties shall account for it as a financing transaction. Accordingly, + The seller-lessee continues to recognize the asset and accounts for the amounts received as a financial liabilty under PFRS 9 ‘+The buyer-iessor does not recognize the transferred asset and accounts for the amounts paid as a financial asset under PERS 9. REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience wwaw.reocpareview.ph REAL EXCELLENCE ONLINE CPA REVIEW © (074) 6656774 @ 0916 8400851 @ support@reo.com.ph MAY 2021 CPA REVIEW SEASONPage 6 of 9 | FAR Handouits No.27 DISCUSSION EXERCISES ‘STRAIGHT PROBLEMS FINANCE LEASE - LESSEE 1 On January 1, 2020, TBH CORP. entered into a 4-year lease agreement with another ‘entity for machine. Lease Parr oh the so08 Payable annually starting on January 1, 2020, TSH knows that tno ator expects a 10% UsefUl Me oF fees guHl Nas @ 12% incremental borrowing rate. The machine Is expected fe weve oe estimated PION 00 ca eats 2nd residual value of P50,000. The lease agreement contre Purchase option at £100,000 exercisable atthe end ofthe lease term. itis reasonably certain ae ny inception of the lease that TBH wil Fount option in the future. TBH uses the straight-line method of depreciation REQUIREMENTS: (1) What isthe intial measurement of right-of use asset and finance lease liability on January 1, 20207 (2) What are the carrying amounts of right-of use asset and finance lease liability on December'31, 20207 {2 provide the journal enty afenthe lease-term when the purchase option & ereceecs, (@) Provide the Journal entry after the lease-term when the purchase option is not erected 2. OTW CORP. leased factory equipment on January 1, 2020 with the following information: Fixed annual payment at the end of each year 500,000 Lease term 4 years Usetullfe of equipment 5 years implcitrate 10%. QTW guaranteed a 100,000 residual value on December 31, 2023 to the lessor REQUIREMENTS: (1) Whatis the intial measurement of right-of use asset and finance lease liability on January 1, 20207 (2) What are the carrying amounts of right-of use asset and finance leace liabilty on December 31, 20207 (8) Determine the current and non-current portion ofthe carrying ammount cra lease liability on December 31, (4) Assuming the fair value ofthe underiying asset on December 31, 2023 is 80,000, what is the gain or loss on finance on 20237 (2) Assuming the residual value is unguaranteed; repeat the requirements in (1) and (2). (6) Assuming that the residual value is unguaranieed and OT, ‘actually purchased the equipment on December $1, 2021 for P1,200,000, what would be the journal entry? % On January 1, 2020, BRE INC. leased an industrial machine with the following information: ‘Annual fixed payment atthe end of each year 1,000,000 Initial direct costs 250,000 Lease incentive received 480,000 Residual value guaranteed 300,000 Lease term 5 years Useful life of the machine 6 years Implicit interest rate 8% REQUIREMENTS (} Whats the intial measurement of rightof use asset and finance lease liability on January 1, 20207 ‘The CPIs are as follows January 1, 2020 125 January 1, 2022 150 REQUIREMENTS: (What is the intial measurement of ightof use asset and finance lease liability on January 1, 202% it , 20207 (2) What are the carrying amounts of right-of use arace and finance lease liability on December'31 20207 ‘Annual rental payable at the end of each year a : oe) Useful life of the building 20 years Implicit rate of interest “re rhe lease contained an option forthe lessee to extent the lease fora further 6 years. At the commencement date, the exercise of the z ne incentive to do so, o"S!0" option is NOT reasonably certain becsuse tee entity believes there is no economi¢ After 3 Years, on January 1, 2023, the lessee decided to extent the lease for , 2023, a further New annual rental payable atthe end of each yeor ae *Paoo.o00 iveness. Efficiency. Convenience _ REAL EXCELLENCE ONLINE CPA REVIEW. 0916 840 0661 @ ‘Subport@re0.com ph MAY 2021 CPA REVIEW SEASON sPage 7 of 9| FAR Handouts No. 27 REAL KARIM G. ABITAGO, CPA EXCELLENCE LEASES New implicit rate 12% REQUIREMENTS: (1) Prepare an amortization table for 2020, 2021 and 2022. (2) Remeasure the lease liability on January 1, 2023. (3) Prepare a new amortization table for 2023 to 2029, 6. OnJanuary 1, 2020, an entity entered into a lease agreement with the following information: Floor space 3,000 square meters ‘Annual rental payable at the end of each year 100,000 Implicit rate in the lease 10% Lease term 8 years On January 1, 2022 the entity and the lessor agreed to amend the original terms of the lease with the following information ‘Additional floor space 4,500 square meters Increase in rental payable at the end of each year 200,000 Implicit rate in the lease 8% The increase in the rental for the additional 4,500 square meters is equivalent to the current market rent. REQUIREMENT: Prepare the journal entries for 2020 and in 2023 pertaining to the lease modification. FINANCE LEASE - LESSOR 7. TYLCORP. is in the business of leasing new hi-tech equipment. As lessor, TYL expects a 12% return on the net investment. All leases are classified as direct financing lease. At the end of the lease term, the equipment will revert to TYL CORP. On January 1, 2020, an equipment is leased to another entity with the following information. ost of equipment to TYL CORP. 5,000,000 Residual value - unguaranteed ‘600,000 ‘Annual rental payable in advance 00,000 Initial direct cost 250,000 Useful life and lease term 8 years Implicit interest rate 12% REQUIREMENTS: (1) Whatis the gross investment in the lease? (2) Whats the net investment in the lease? 3) What is the total interest income over the lease term? (4) Whats the interest income for the current year? 8 GG CORP is a dealer in machinery. On January 1, 2020, a machinery is leased to another entity with the following provisions: ‘Annual rental payable at the end of each year 800,000 Lease term 5 years Useful life of machinery 5 years Cost of machinery 2,000,000 Initial direct cost 100,000 Estimated residual value 200,000 Implicit interest rate 10% ‘Atthe end of the lease term on December 31, 2024, the machinery will revert to GG CORP. REQUIREMENTS (1). Whats the gross investment in the lease? (2) Whatis the net investment in the lease? (3) What's the gross proft on sale? (4) Whatis the interest income for the current year? OPERATING LEASES 9. GGWP CORP. is engaged in leasing heavy equipment. On December 1, 2020, the entity bought @ second hand heavy equipment for P750,000. in December 31, 2020, the entity incurred P160,000 for a major overhaul to put the equipment in good running condition. The equipment has an estimated useful life of 5 years and the entity is using the straight-line method of depreciation. On April 1, 2021, GGWP leased the equipment to TYL CORP. for 3 years up to March 31, 2024. GGWP incurred insurance and property tax expense totaling P120,000 for 2021. Additionally, TYL paid P300,000 to GGWP as a jease bonus to obtain the three-year lease. GGWP paid P90,000 commission associated with negotiating the lease The annual lease payments are shown in the following schedule: ‘March 31, 2022 600,000 March 31, 2023 900,000 March 31, 2024 4,200,000 REQUIREMENTS: (i) Prepare the journal entries on the books of the lessor and lessee for the year 2020, 2021 and 2022 (2) What is to be reported as net rental income by GGWP for the year 2021? REO CPA REVIEW PHILIPPINES: Effectiveness. Efficiency. Convenience www .reoopareview.ph REAL EXCELLENCE ONLINE CPA REVIEW © (074) 6656774 @ 09168400061 @ suppon@reo.comh MAY 2021 CPA REVIEW SEASONp Page 8 of 9| FAR Handouts No. 27 REAL EXCELLENCE Rare: ABI AGO Cex SALE AND LEASEBACK 10. On January 1, 2020, SUS CORP. sells a building to PICION CORP. and simultaneously leases it back. Additional information follows: Fair value of the building 500.000 Carrying amount of building 400,000 Remaining useful lf of building 10 years Lease term S years Annual rent payable at the end of each year 50,000 Implicit interest rate equal to market rate 12% The transfer qualifies as a sale REQUIREMENT: Prepare the journal entries to account the sale and leaseback transaction on both books of the seller-lessee and buyer-lessor under the following assumptions: (@) The sale price is P500,000 (c) The sale price is P450,000 (b) The sale price is P550,000 (@) Assuming the transfer does not qualify as sale 11. On January 1, 2020, CB sold a building with remaining life of 25 years and immediately leased it back for 3 years. Sales price at fair value 5,000,000 Carrying amount 6,000,000 ‘Annual rental payable at the end of each year 250,000 Implicit interest rate 8% REQUIREMENT: Prepare the journal entries to account the sale and leaseback transaction on both books of the seller-lessee and buyer-lessor MULTIPLE CHOICE (THEORIES! 1, Which of the following is not one of the eriteria when determining whether a contract is or contains a lease? A. Identified asset B. Identified fabilty C. Right to obtain substantially all ofthe economic benefits from use of an identified asset throughout the period of use. D. Right to direct the use of the identiied asset throughout the periad of use 2. _Inrelation to PRS 16, which of the following statements is false? ‘A. Aportion of an asset being leased is an identified asset ifit is physically distinct B. An underlying asset is not considered an identified asset for the purpose of applying the accounting ‘equirements of PFRS 16 ifthe supplier's substitution rights is not substantive. C. The current view on accounting for leases by lessees is that all leases are “on-balance sheet’ items, with very minimal exceptions. D. Lease term includes periods covered by an option to extend the lease if the lessee is reasonably certain to exercise that option, 3. According to PFRS 16, lease payments exclude which of the following? (1) Purchase option that is unreasonably certain to exercise, (2) Fixed amount of rentals (3) Amounts expected to be payable by the lessee under residual value guarantees (4) Cost for services and taxes paid by the lessee A tand3 © 2and4 B 2and3 D. tand4 4, _Inrelation to PFRS 16, determine the correct statement. Short-term lease is defined as twelve-month or less lease with a purchase option. In relation to low-value lease, the value of an underlying asset is based on the value of the asset when new regardless of the age of the asset Atight of use asset is measured initially and subsequently at cost ‘The discount rate used by the lessee in accounting for leases is interest rate implicit in the lease or lessee's remental borrowing rate whichever is higher. 99 @> 5. $1: _ Initial direct costs incurred by a lessee are expensed immediately, $2: _ Initial direct costs are included to both the carrying amount of liability and asset. S3:_The right of use asset is generally reported within the non-current asset section as a seperate line item, A True, false, false C. False, false, true B. False, true, true D. True, false, true 6. The lessee's liabilty for a finance lease would be periodically reduced by ‘A Lease payment plus the depreciation of the asset. B. Lease payment less the depreciation of the asset. C. Lease payment less the portion allocable to interest. REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience ywaww.re0cpareview.ph REAL EXCELLENCE ONLINE CPA REVIEW © (074) 665.6774 @ 09168400861 © support@reo com ph MAY 2021 CPA REVIEW SEASON.Page 9 of 9| FAR Handouts No. 27 REAL KARIM G. ABITAGO, CPA EXCELLENCE LEASES D. Lease payment 7. The lessor should report the leased asset under an operating lease and income thereffom as which of the following? ‘A. The asset should be kept off the ‘statement of financial position and the lease income should go to reserves. B. The asset should be kept off the statement of financial position and the lease income should go to the income statement. ©. The asset should be reported in the statement of financial position according to its nature and the lease income should go to reserves. D. The asset should be reported in the statement of financial position according to its nature and the lease income should go to the income statement. 8. Lease bonus under the operating lease ‘A. is amortized to income using the effective interest method. 5. is initially treated as uneamed rent by a lessor. ©. _istreated as an outright gain by a lessor. D. is recognized in proft or loss over the remaining lease term using a very complex formula 8. Which condition would require lease capitalization? ‘A. ~The lease does not transfer tle to the lessee. 8. There is an uncertain purchase option. ©. The present value of the lease payments is significantly more than the fair value of the asset. D. The lease term is below the useful life of asset. 10. Net investmentin the lease is equal to the A. Gross investment in the lease plus unearned finance income B, The present value of lease payments less the present value of any unguaranteed residual value C. The present value of the lease payments D. The present value of lease payments plus the present value of any unguaranteed residual value 11. Where there is a lease of land and building and the ttle to the land is not transferred, generally the lease is treated asif ‘A The land is finance lease and the building is a finance lease. B. The land is an operating lease and the building is a finance lease. ©. The land is a finance lease and the budding is an operating lease. D. The land is an operating lease and the building is an operating lease. 12. Initial direct cost incurred by a lessor in a sales type lease shall be ‘A. Charged to cost of sales in the first period of the lease term. B. Deferred and allocated over the lease term on a straight line basis. ©. Charged to unearned interest income in the first period of the lease term D. _ Deferred and allocated over the lease term in proportion to the recognition of rent revenue 13. Which of the following statements characterizes a sales type lease? ‘A, The lessor recognizes only interest revenue over the life of the asset B. The lessor recognizes only interest revenue over the lease term ©. The lessor recognizes a dealer's profit at lease inception and interest revenue over the lease term. D. The lessor recognizes a dealer's profit at lease inception and interest revenue over the life of the asset. 14, Ina sale and leaseback transaction, which ofthe following statements is incorrect? St: Ifthe transfer qualifies as a sale under PFRS 16, the sellerlessee shall measure the right-of-use asset arising from the leaseback at the proportion of the previous carrying amount of the asset that relates to the Tight of use retained by the seller-lessee and recognize only the amount of any gain or loss that relates to the rights transferred to the buyer-lessor 2: _ Ifthe transfer does not qualify 2s a sale, the parties shall account for it 2s a financing transaction, A’ Stonly ©. Both statements B. S2only D. None from the statements — END OF HANDOUTS — REO GPA REVIEW PHILIPPINES Effectiveness. Efficiency. 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