ACCOUNTING FOR LEASES

Lessee Accounting (Chap 10 &11)

Lessor Accounting
 Operating Lease (Chap 12)
 Direct Financing Lease (Chap 13)
 Sales Type Lease (Chap 14)
Sale and Leaseback (Chap 15)
Definition of Lease
IFRS 16
contract, or part of a contract,
that conveys the right to use
an asset (the underlying
asset) for a period of time in
exchange for consideration.

IFRS 16 states that a contract contains a lease if:

 there is an identified asset; and
 the contract conveys the right to control the use of the
identified asset for a period of time in exchange for
consideration.
Definition of Lease

An arrangement whereby :
 Lessor conveys to the lessee
 In return for a payment or series of payments
 Right to use an asset
 For an agreed period of time
Is it a lease contract?
Lessee Accounting

Under IFRS 16:

 lessees will no longer distinguish
between finance lease contracts
(on balance sheet) and operating
lease contracts (on profit and loss)
Optional exemptions:
o Short-term lease
o Low value lease

 Lessees are required to recognize

a right of use asset and lease
liability for almost all lease
contracts
Right of Use Asset & Lease Liability
Lessee : At the commencement of lease contract

RIGHT OF USE ASSET LEASE LIABILITY

 Present value of lease payments  Fixed lease payments
or the initial measurement of  Variable lease payments
lease liability
 Exercise price of a purchase
 Payments made to lessor at or
option (lessee is reasonably
before commencement date certain to exercise the option)
(lease bonus less incentives
 Amount expected to be payable
received
by the lessee under residual
 Initial direct costs incurred by the
value guarantee
lessee
 Termination penalties
 Estimate of cost of dismantling
Right of Use Asset & Lease Liability
Lessee : At the commencement of lease contract

LEASE INCENTIVES
 Deducted from the cost of the right of use asset

LEASEHOLD IMPROVEMENTS
 Not included in the cost of the right of use asset
 Separately accounted for as property, plant and equipment and
depreciated over the shorter between the lease term and the life of the
improvements
SECURITY DEPOSIT REFUNDABLE UPON THE LEASE EXPIRATION
 Accounted for as an asset by the lessee
Depreciation of right of use asset
 Depreciate over the useful life of the underlying
asset if
 the lease transfers ownership of the underlying asset to
the lessee at the end of the lease term
 The lessee is reasonably certain to exercise a purchase
option

 Depreciate over the shorter between the useful life

of the asset and the lease term if
 There is no transfer of ownership to the lessee
 The purchase option is not reasonably certain to be
exercised
Lease Liability : Measurement
Lessee : At the commencement of lease contract

LEASE LIABILITY
 Fixed lease payments
PRESENT
VALUE  Variable lease payments
 Exercise price of a purchase
Interest Rate implicit in the option (lessee is reasonably
lease certain to exercise the option)

or  Amount expected to be payable

by the lessee under residual
Lessee’s incremental borrowing
value guarantee
rate
 Termination penalties
Sample Problem 1 : SIMPLE

On Jan 1, 2020, an entity leased a machinery for 4

years which is the same as the useful life of the
machinery at annual rental or fixed payment of
P100,000 payable at the end of each year. PV of
ordinary annuity of 1 for 4 years at 12% is 3.0373.
1/1/20 Right of use asset 303,730 (100kx3.0373)
Lease Liability 303,730
12/31/20 Depreciation Expense 75,932 (303,730/4)
Accum. Depreciation 75,932
Accounting for Fixed Payment
Date Payment Interest Principal Present Value
1/1/20 303,730
12/31/20 100,000 36,448 63,552 240,178
12/31/21 100,000 28,821 71,179 168,999
12/31/22 100,000 20,280 79,720 89,279
12/31/23 100,000 10,721 89,279 0

12/31/20 Interest expense 36,448

Lease Liability 63,552
Cash 100,000
12/31/21 Interest expense 28,821
Lease Liability 71,179
Cash 100,000
FS Presentation – 12/31/2020

NON-CURRENT ASSET
Right of use asset 303,730
Accumulated depreciation (75,932)
Carrying Amount 227,798

CURRENT LIABILITY
Lease Liability-Current Portion 71,179
NON-CURRENT Liability
Lease Liability-Non-current Portion 168,999
Sample Problem 2 : PURCHASE OPTION
Lessee Company leased a machine on Jan 1,2020 with the
following information:
Fixed Rental payment at end of each year P1,000,000
Lease term 10 years
Useful life of machine 12 years
Incremental borrowing rate 14%
Implicit rate 12%
Lessee Company has an option to purchase the machine upon
lease expiration by paying P500,000. Lessee is certain to exercise
the purchase option. Residual value of the machine is P600,000.

1/1/20 Right of use asset 5,811,000 (PV of cash flows)

Lease Liability 5,811,000
12/31/20 Depreciation Expense 434,250 (5,811,000-600k/12)
Accum. Depreciation 434,250
Accounting for Fixed Payment
Date Payment Interest Principal Present Value
1/1/20 5,811,000
12/31/20 1,000,000 697,320 302,680 5,508,320
12/31/21 1,000,000 660,998 339,002 5,169,318
12/31/22 1,000,000 620,318 379,682 4,789,636
12/31/23 1,000,000 574,756 425,244 4,364,392

12/31/20 Interest expense 697,320

Lease Liability 302,680
Cash 1,000,000
12/31/21 Interest expense 660,998
Lease Liability 339,002
Cash 1,000,000
Exercise of the purchase option

12/31/2029 Lease Liability 500,000

Cash 500,000

Non- exercise of the purchase option

12/31/2029 Lease Liability 500,000

Accum. Depreciation 4,342,500
Loss on finance lease 968,500
Right of use asset 5,811,000
Sample Problem 3 : RESIDUAL VALUE GUARANTEE
Easy Company leased an equipment on Jan 1,2020 with the
following information:
Fixed Rental payment at end of each year P1,000,000
Lease term 4 years
Useful life of machine 5 years
Implicit rate 10%
PV of ordinary annuity for 1 of 4 periods at 10% is 3.16987
PV of 1 for 4 periods at 10% is 0.683
Easy Company guaranteed a P200,000 residual value on Dec
31, 2023 to the lessor.

1/1/20 Right of use asset 3,306,470 (PV of cash flows)

Lease Liability 3,306,470
12/31/20 Depreciation Expense 776,617 (3,306,470-200k/4)
Accum. Depreciation 776,617
Accounting for Fixed Payment
Date Payment Interest Principal Present Value
1/1/20 3,306,470
12/31/20 1,000,000 330,647 669,353 2,637,117
12/31/21 1,000,000 263,711 736,289 1,900,828
12/31/22 1,000,000 190,082 809,918 1,090,910
12/31/23 1,000,000 109,090 890,910 200,000

12/31/20 Interest expense 330,647

Lease Liability 669,353
Cash 1,000,000
12/31/21 Interest expense 263,711
Lease Liability 736,289
Cash 1,000,000
Return of Equipment to Lessor
12/31/2023 Interest Expense 109,090
Lease Liability 890,910
Cash 1,000,000

12/31/2023 Lease Liability 200,000

Accum. Depreciation 3,106,470
Right of use asset 3,306,470

If the fair value of the equipment as of Dec 31, 2023 is only

P150,000 which is P50,000 lower than the residual value guarantee,
a loss is recognized.
12/31/2023 Loss on finance lease 50,000
Cash 50,000
Sample Problem 4 : WITH INITIAL DIRECT COST
Simple Company leased an equipment on Jan 1,2020 with the
following information:
Fixed Rental payment in advance at the beg of the year P1,000,000
Initial Direct Cost paid 250,000
Lease Incentive received 150,000
Residual value guaranteed 300,000
Lease term 5 years
Useful life of machine 6 years
Implicit rate 8%
PV of annuity in advance of 1 for 5 periods at 8% is 4.3121
PV of 1 for 5 periods at 8% is 0.6806
PV of rentals (1Mx4.3121) 4,312,100
PV of guarantee (300K x 0.6806) 204,180
Lease Liability , 1/1/20 4,516,280
Initial Direct Cost paid 250,000
Lease Incentive received (150,000)
Cost of right of use asset 4,616,280

1/1/20 Right of use asset 4,616,280 Lease

Liability 4,516,280
Cash 100,000
Lease Liability 1,000,000
Cash 1,000,000
12/31/20 Depreciation Expense 863,256 (4,616,280-300k/5)
Accum. Depreciation 863,256
Accounting for Fixed Payment
Date Payment Interest Principal Present Value
1/1/20 4,516,280
1/1/20 1,000,000 1,000,000 3,516,280
1/1/21 1,000,000 281,302 718,698 2,797,582
1/1/22 1,000,000 223,807 776,193 2,021,389
1/1/23 1,000,000 161,711 838,289 1,183,100
1/1/24 1,000,000 94,648 905,352 277,748
1/1/25 1,000,000 22,252 277,748 0

12/31/20 Interest expense 281,302

Accrued Interest Payable 281,302
Sample Problem 5 : UNGUARANTEED RESIDUAL VALUE
Ezzy Company leased a warehouse on Jan 1,2020 with the
following information:
Fixed Rental payment at end of each year P600,000
Unguaranteed Residual Value 200,000
Payment to lessor to obtain long-term lease 224,000
Cost of restoring the asset as required by contract 634,920
Annual executory cost paid 50,000
Lease term 6 years
Useful life of machine 8 years
Implicit rate 10%
Discount rate for restoration cost 8%
PV of ordinary annuity for 1 of 6 periods at 10% is 4.36
PV of 1 for 6 periods at 10% is 0.56
PV of 1 for 6 periods at 8% is 0.63
The lease provides for neither a transfer of title nor a
purchase option.
Lease Liability -PV of rentals (60K x 4.36) 2,616,000
PV of restoration cost (634,920 x 0.63) 400,000
Payment to lessor to obtain lease 224,000
Total cost of right of use asset 3,240,000

1/1/20 Right of use asset 3,240,000 Lease

Liability 2,616,000
Cash 224,000
Estimated Liability for Restoration 400,000

1/1/20 Executory cost 50,000

Cash 50,000

12/31/20 Depreciation Expense 540,000 (3,240,000/6)

Accum. Depreciation 540,000
Accounting for Fixed Payment
Date Payment Interest Principal Present Value
1/1/20 2,616,000
12/31/20 600,000 261,600 338,400 2,277,600
12/31/21 600,000 227,760 372,240 1,905,360
12/31/22 600,000 190,536 409,464 1,495,896
12/31/23 600,000 149,590 450,410 1,045,486
12/31/24 600,000 104,549 495,451 550,395
12/31/25 600,000 49,605 550,395

12/31/20 Interest expense 261,600

Lease Liability 338,400
Cash 600,000
(restoration) Interest expense 32,000 (400kx8%)
Cash 32,000
Return of Warehouse to Lessor

1/1/2026
Accum. Depreciation 3,240,000
Right of use asset 3,240,000

Estimated liability for restoration cost 634,920

Cash 634,920
Sample Problem 6 : ACTUAL PURCHASE OF UNDERLYING ASSET
An Entity purchased an equipment that it had been leasing under a
finance lease for P4M. The balances of certain accounts on the
date of purchase are as follows:
Right of use asset 5M
Accum. Depreciation 1.5M
Lease Liability 3.8M

Journal Entry:

Equipment 3,700,000
Accum. Depreciation 1,500,000
Lease Liability 3,800,000
Right of use asset 5,000,000
Cash 4,000,000