Group 4 Chapter 10 13

BSA-3103
C H APTER 1 0 :
LESSEE
ACCOUNTING
F ERNA ND EZ, J AN ELLE A NN MARIE M.
BASIC PRINCIPLES
LEASE
• Under appendix A of IFRS 16, a lease is defined as a
contract or part of a contract that conveys the right
to use the underlying asset for a period of time in
exchange for consideration.
• Appendix B provides that to be a lease, a contract
must convey the right to control the use of an
identified asset.
• Appendix B13 state that an asset is typically
identified by being explicitly specified in a contract
or implicitly specified when made available to the
customer.
BASIC PRINCIPLES
RIGHT TO CONTROL THE
USE OF AN ASSET
A contract conveys the right to control the use
of an asset if throughout the period of use,
the customer has the right to:
a.Obtain substantially all of the economic
benefits from the use of the identified
asset.
b.Direct use of the identified asset.
BASIC PRINCIPLES
FINANCE LEASE MODEL
FOR LESSEE
IFRS 16, paragraph 22, provides that at the
commencement date, a lessee shall recognize a
right of use asset and a lease liability.
All lease shall be accounted for by the lessee as a
finance lease under the new lease standard.
BASIC PRINCIPLES
Underlying asset- subject of a lessee for
which the right to use that asset has been
provided by the lessor to the lessee.
Lessee – the entity that obtains the right to
use an underlying asset for a period of time in
Lessor – the entity that provides the right to
use an underlying asset for a period of time in
BASIC PRINCIPLES
OPERATING LEASE
MODEL FOR LESSEE
IFRS 16, paragraph 5, provides that a lessee is
permitted to make an accounting policy
election to apply the operating lease
accounting and not recognize an asset and
lease liability in two optional exemptions:
a. Short-term lease
b. Low value lease
BASIC PRINCIPLES
• Paragraph 6 provides that if the lessee elects to
apply the operating lease accounting under the two
exemptions, the lessee shall recognize the lease
payments as an expense in either a straight line
basis over the lease term or another systematic
basis.
• The lessee shall apply another systematic basis if
this is more representative of the pattern of the
lessee’s benefit.
• Under the operating lease model, the periodic
rental is simply recognized as rent expense on the
part of the lessee.
BASIC PRINCIPLES
SHORT-TERM LEASE
• Lease that has a term of 12 months or less at
the commencement date of the lease.
• A lease that contains a purchase option is not a
short-term lease.
• The election for short-term lease shall be made
by class of underlying asset.
Class of underlying asset – grouping of underlying
assets of similar nature and use in an entity’s
operations.
BASIC PRINCIPLES
LOW VALUE LEASE
• The new lease standard does not provide for a
quantitative threshold for low value asset.
• Low value asset is a matter of professional
judgement.
• Appendix B3 states that a lessee shall assess
the value of an underlying asset based on the
value of the asset when it is new regardless of
the age of the asset being leased.
BASIC PRINCIPLES
• A lease of an underlying asset does not
qualify as a low value lease if the nature of
the asset is such that the asset is typically
not of low value when new.
• Typically low value underlying assets
include personal computers, office
furniture and equipment.
• IFRS 16, paragraph 8, provides that the
election for low value lease is made on a
lease by lease basis.
BASIC PRINCIPLES
FINANCE LEASE -
LESSEE
• Under Appendix A, a finance lease is defined as
a lease that transfers substantially all of the
risks and rewards incidental to ownership of an
underlying asset.
• At the commencement date, the lease shall
recognize a right of use asset and lease liability.
BASIC PRINCIPLES
INITIAL MEASUREMENT
OF RIGHT USE ASSET
• Right of use asset – an asset that represents
the right of a lessee to use an underlying asset
over the lease term in finance lease.
• IFRS 16, paragraph 23, provides that the lessee
shall measure the right of use asset at cost at
commencement date.
BASIC PRINCIPLES
Paragraph 24, provides that the cost of
right of use asset comprises:
a. The present value of lessee payments or the
initial measurement of the lease liability
b. Lease payments made to lessor at or before
commencement date, such as lease bonus, less
any lease incentives received
c. Initial direct cost incurred by the lessee
d. Estimate of cost of dismantling, removing and
restoring the underlying asset for which the
lessee has a present obligation
BASIC PRINCIPLES
Lease incentives – payments by the lessor to the lessee
associated with a lease or the reimbursement or
assumption by the lessor of the cost of the lessee.
The lease incentive should be deducted from the cost
of the right of use asset.
Initial direct cost – incremental costs of obtaining a
lease that would not have been incurred if the lease
had not been obtained.
Leasehold improvements - are not initial direct costs
and not included in the cost of the right of use asset.
any security deposit refundable upon the lease
expiration is accounted for as an asset by the lessee.
BASIC PRINCIPLES
SUBSEQUENT
MEASUREMENT OF RIGHT
OF USE ASSET
IFRS 16, paragraph 29, provides that a lessee shall
measure the right of use asset applying the cost model.
To apply the cost model, the lessee shall measure the
right of use asset at cost less any accumulated
depreciation and impairment loss.
Moreover, the carrying amount of the right of use asset
is adjusted for any remeasurement of the lease liability.
BASIC PRINCIPLES
PRESENTATION OF RIGHT
OF USE ASSET
Paragraph 47 provides that the lessee shall present the
right of use asset as a separate line item in the
statement of financial position.
As an alternative, the lessee may include the right of
use asset in the appropriate line item within which the
corresponding underlying asset would be presented if
owned.
However, disclosure is required that the property, plant
and equipment include right of use asset.
BASIC PRINCIPLES
OTHER MEASUREMENT
MODELS
a. Paragraph 34 provides that if a lessee applies the fair
value model in measuring investment property, the
lessee shall also apply the fair value model to the
right of use asset that meets the definition of
investment property.
b. Paragraph 35 further provides that if the right of use
asset relates to a class of property, plant and
equipment to which the lessee applies the
revaluation model to all of the right of use assets
that relate to that class of property, plant and
equipment.
BASIC PRINCIPLES
DEPRECIATION OF
RIGHT OF USE ASSET
The lessee shall apply normal depreciation policy for
right of use asset.
IFRS 16, paragraph 32, provides that the lessee shall
depreciate the right of use asset over the useful life of
the underlying asset under the following conditions:
a. The lease transfers ownership of the underlying
asset to the lessee at the end of lease term.
b. The lessee is reasonably certain to exercise a
purchase option.
BASIC PRINCIPLES
MEASUREMENT OF
LEASE LIABILITY
IFRS 16, paragraph 26, provides that at the
commencement date, the lessee shall measure the
lease liability at the present value of lease payments.
The lease payments shall be discounted using the
interest rate implicit in the lease.
If the implicit interest rate cannot be readily
determined, the incremental borrowing rate of the
lessee is used.
BASIC PRINCIPLES
Interest rate implicit (in the lease)- interest 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.
Lessee’s incremental borrowing rate – 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.
BASIC PRINCIPLES
COMPONENTS OF
LEASE PAYMENTS
a. Fixed lease payments
b. Variable lease payments
c. Exercise price of a purchase option if the lessee is
reasonably certain to exercise the option
d. Amount expected to be payable by the lessee under
a residual value guarantee
e. Termination penalties if the lease term reflects the
exercise of a termination option
BASIC PRINCIPLES
FIXED PAYMENTS
• These are payments made by the lessee to the

lessor for the right to use an underlying asset during
the lease term.
• Appendix B42 provides the following examples of
lease payments that are variable in legal form but
should be treated as fixed in substance:
BASIC PRINCIPLES
a. Payments that must be made only if an event
occurs with no genuine possibility of not
occurring
b. Payments that are initially variable but for
which the variability will be resolved at some
point and the payments become in-substance
fixed when resolved
c. When there is more than one set of
payments, only the realistic set of payments
should be considered
BASIC PRINCIPLES
VARIABLE PAYMENTS
These are payments made by the lessee for the
right to use the underlying asset during the lease
term that vary because of changes in facts or
circumstances occurring after the commencement
date other that passage of time.
BASIC PRINCIPLES
DEFINITIONS
Residual value guarantee – guarantee made to the
lessor by a party unrelated to the lessor that the value
of an underlying asset at the end of the lease term will
be at least specified amount.
Unguaranteed residual value – portion of the residual
value of the underlying asset, the realization of which
by the lessor is not assured or is guaranteed solely by a
party related to the lessor
Executory cost – ownership expenses such as
maintenance, taxes and insurance for the underlying
asset.
BASIC PRINCIPLES
LEASE TERM
• Appendix A define lease term as the noncancelable
period for which the lessee has the right to use the
underlying asset together with both of the
following:
a. Period covered by an option to extend the lease if
the lessee is reasonably certain to exercise the
extension option.
b. Period covered by an option to terminate the
lease if the lessee is reasonably certain not to
exercise the termination option.
BASIC PRINCIPLES
BSA-3103
C H APTER 1 0
LESSEE
ACCOUNTI
NG
Chr i sti n e J oy Q. Gui co
DISCLOSURE –
LESSEE
 Depreciation charge for right of use assets by class
of underlying asset.
 Interest expense on lease liability.
 The expense relating short term leases excluding the
expense relating to leases with a term of one month
or less.
 The expense relating low value leases excluding the
expense relating low value leases with term of one
month or less.
DISC LOSURE - LESSEE

 The expense relating to variable lease payments
not included in the measurement of lease liability.
 Income from subleasing right of use assets.
 Total cash outflow for leases.
 Addition to right of use assets
 The carrying amount of right of use assets at the
end of the reporting period by class of underlying
asset
 Short term leases or low value leases accounted
for as operating leases.

ADDITIONAL
DISCLOSURES
 Qualitative and quantitative information about
leasing activities.
 Used to assess the affect of leases on financial
position, financial performance and cash flow

1. The nature of the lessee’s payments
2. Future cash outflows to which the lessee is potentially
exposed that are not affected in the measurement of
lessee liability.
a) variable lease payments
b) extension option and termination option
c) residual value guarantee
d) leases not yet commenced to which the lessee is
committed
3. Restriction or covenants imposed.

Illustration
 On January 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 P100000
payable at the end of each year.
The lease provides for a transfer of ownership of the
underlying asset to the lessee at the end of the lease term.

PRESENT VALUE COMPUTATION
PRESENT VALUE = P100000 X present value of an ordinary 1 of 4 years at 12%
= P100000 X 3.073*
= P 303730
*3.0373 – derived from mathematical table of present value and annuity
JOURNAL ENTRY:
Right of use asset P303750
Leases liability P303750

DEPRECIATION OF
RIGHT OF USE ASSET
 If the lease transfers ownership of the underlying
asset to the lessee at the end of lease term, the
depreciation of the right of use asset is based on the
useful life of the underlying asset.
Depreciation P75932
Accumulated Depreciation P75932
(P303730/4)

ACCOUNTING FOR
FIXED PAYMENT
 P100000 = treated as payment for principal
 Interest = difference between the face value of gross
fixed payment and the present value
Face value of gross Present value
fixed payment
P400000 P303730 or P96270
 P96270 = recognized as an expense over the lease
term following the effective interest method
amortization

Payment Interest Principal Present Value
Date
Jan. 1, 2020 303750
Dec. 31, 2020 P100000

36884 63552 240178
P100000
Dec. 31, 2021 28821 71179 168999
Dec. 31, 2022 P100000

20820 79270 89279
Dec. 31, 2023 P100000

10721 89279

 Payment = annual rental / fixed payment
 Interest = preceding value X 12% (interest rate)
 Principal = portion of rental payment after
deducting interest.
 Present Value = balance of the lease liability after
deducting the annual principal payment

JOURNAL ENTRIES
 2020
Dec. 31 Interest expense 36448
Lease liability 63552
Cash 100000
 2021
Dec. 31 Interest expense 28821
Cash 100000

PRESENTATION
If statement of financial position is prepared on Dec. 31, 2020, the
right asset would reported as a separate line item under noncurrent
asset.
Right of use asset 303730
Accumulated Depreciation (75932)
Carrying Amount 227798
Lease liability = reported as current in the amount P71179 and
partly noncurrent for the remaining portion of P168999

Illustration – certain purchase option
 Lessee Company leased a machine on Jan. 1, 2020the ff pertinent
information:
 Fixed rental payment at the end of each year 1000000
 Lease term 10 years
 Useful life of machine 12 years
 Incremental borrowing rate 14 %
 Implicit interest rate 12 %
 Present value of an ordinary annuity of 1 for 10 periods at
14% 5.216
12% 5.560
 Present value of 1 for 10 periods at
14% 0.270
12% 0.322

 Lease Company has option to purchase the machine
upon the lease expiration on Jan. 1, 2030 by paying
P500000.
 Lessee is reasonably certain to exercise the purchase
option at the commencement date of lease
 Residual value of the machine after 12-year life =
P600000

COST OF RIGHT OF USE ASSET
Present value of lease payments
(1000000 x 5.65) 5650000
Present value of purchase option
(500000 x .332) 161000
Total lease liability 5811000
Note: present value factor applicable to 12% is used in

computing the present value of the lease payment.
Lease payment = discounted using 12% implicit interest rate
Implicit rate = if not determined, lessee can use incremental
borrowing rate.

COST OF RIGHT OF USE
ASSET
To record the acquisition of the machinery under a finance lease:
To record the first rental payment on Dec. 31, 2020:
Interest expense 697320
Cash 1000000

Lease liability – Jan. 1, 2020 5811000
Payment on Dec. 31, 2020 1000000
Interest for 2020 (12% x 100000) ( 697320) 302680
 To record the annual depreciation

Depreciation 434250
Accumulated depreciation 434250
(5211000/12)

 The asset is depreciated over the useful life because there is a
purchase option that is unreasonably certain to be exercised.
 The depreciable amount is equal to the cost of P5811000 minus
the residual value of P600000 or P5211000

TABLE OF
AMORTIZATION
Date Payment InteresT Principal Present value
1/1/2020 5811000
12/31/2020 1000000 697320 302680 5508320
12/31/2021 1000000 660998 339002 5169318
12/31/2022 1000000 620318 379682 4789636
12/31/2023 1000000 574756 425244 4364392
12/31/2024 1000000 523727 476273 3888119
12/31/2025 1000000 466574 533426 3354694
12/31/2026 1000000 402563 597437 2757257
12/31/2027 1000000 330871 669129 2088128
12/31/2028 1000000 250575 749425 1338703
12/31/2029 1000000 161297 838703 500000

 Payment = fixed annual rental payment
 Interest = the preceding present value multiplied by 12%
 Principal = payment minus the interest
 Present value = balance of the lease liability which is the
preceding present value minus the principal payment

EXERCISE OF THE
PURCHASE OPTION
If accounts are properly posted, the table of amortization of the
lease liability and interest and interest expense will show the
balance of the lease liability on Dec. 31, 2029 at P500000
Journal entry record

Cash 500000

NONEXERCISE OF
PURCHASE OPTION
A loss is recognized equal to the difference between carrying
amount of the right of use and lease liability

Illustration – Residual value guarantee

COST OF RIGHT OF USE
ASSET
Present value of lease payments
(1000000 x 3.1687) 3169870
Present value of residual value guarantee
(200000 x .683) 136600
Cost of right of use asset and lease liability 3306470

TABLE OF
AMORTIZATION
Date Payment Interest Principal Present Value
1/1/2020 3306470
12/31/20 1000000 330647 669353 2637117
12/31/21 1000000 263711 736289 1900828
12/31/22 1000000 190082 809918 1090910
12/31/23 1000000 109090 890910 200000

December 31, 2020
Payment 1000000
Interest expense (10% x 3306470) (330647)
Applicable Principal 669353
Lease liability Jan. 1, 2020 3306470

Principal Payment ( 669353)
Lease liability Dec. 31, 2020 2637117

JOURNAL ENTRIES
 To record the acquisition of the equipment
 To record the first annual payment on Dec. 31, 2020:
Cash 1000000
 To record the annual depreciation:
Depreciation (3106470/4) 776617
Accumulated depreciation 776617

 Asset is depreciated over the lease term of 4 years which
is shorter than the useful life of 5 years because there is
neither a transfer of title nor a reasonably certain purchase
option.
 The depreciable amount is equal to P3306470 minus the
residual value guarantee o P200000 or P3106470.

RETURN OF EQUIPMENT TO
LESSOR ON DEC. 31, 2020
 To record the final annual payment on Dec. 31, 2023:
Cash 1000000
 To record the return of equipment to the lessor:
Accumulated depreciation3106470

 Annual depreciation = 776617 x 4 years
 Residual value guarantee is not paid by the lessee to
the lessor because the underlying asset is simply
transferred by the lessee to the lessor to satisfy the
liability for the residual value guarantee
 Remaining carrying amount = residual value
guarantee

 If fair value of the underlying asset is less than the residual
value guarantee, a loss is reported for the difference and
the lessee must make up for the difference with a cash
payment
 Additional entry
Loss on finance lease 50000
Cash 50000

 Fair value is higher than the residual value guarantee, no
additional entry is necessary because there is no cash
settlement.

BSA-3103
C H APTER 1 0 :
LESSEE
ACCOUNTI
NG
Sha i n a J o y G. Lon toc
INITIAL DIRECT
COST
On January 1, 2020, Simple Company leased an equipment
with the following information:
IAnnual fixed payment in advance at the beginning 1,000,000
of each lease year
Initial direct cost paid 250,000
Lease incentive received 150,000
Residual value guarantee 300,000
Lease term 5 years
Useful life of equipment 6 years
Implicit interest rate 8%
Present value of an annuity of 1 in advance
at 8% for 5 periods 4.3121
Present value of 1 at 8% for 5 periods .6806
LESSEE ACCOUNTING
INITIAL DIRECT
COST
Computation
PV of rentals ( 1,000,000 x 4.3121) 4,312,100

PV of residual value guarantee (300,000 x .6806) 204,000
Lease liability- January 1, 2020 4, 516,280

Initial direct cost 250,000
Lease incentive received (150,000)
Cost of right of use asset 4, 616, 280
LESSEE ACCOUNTING
INITIAL DIRECT
COSTTable of Amortization
Date Payment Interest Principal Present
value
1/1/2020 4,516,280
1/1/2020 1,000,000 - 1,000,000 3,516,280
1/1/2021 1,000,000 281,302 718,698 2,797,582
1/1/2022 1,000,000 223,807 776,193 2,021,389
1/1/2023 1,000,000 161, 711 838,289 1,183,100
1/1/2024 1,000,000 94, 648 905,302 277,748
1/1/2025 300,000 22,252 277,748 -
LESSEE ACCOUNTING
INITIAL DIRECT
COST
Journal entries 2020
1. To record the acquisition of the equipment under a finance lease:

Right of use asset 4,616,280
Lease Liability 4,516,280
Cash (250,000-150,000) 100,000
2. To record the first payment on January 1, 2020:
Cash 1,000,000
Since the annual payment is in advance, the first payment is applicable
only to the principal lease liability
3. To accrue the interest for 2020, on December 31,2020:
Interest expense 281,302
Accrued interest payable 281,302
4. To record the depreciation for 2020:
Depreciation (4,316,280/5) 863,256
Accumulated depreciation 863,256
Cost 4,616,280
Residual value guarantee (300,000)
Depreciable amount 4,316,280
LESSEE ACCOUNTING
INITIAL DIRECT
COST
1.To record the second payment on January 1, 2021:
Leases liability 718,698
Cash 1,000,000
2. To accrue the interest for 2021 on December 31, 2020:
3. To record the depreciation for 2021:
Depreciation 863,256
LESSEE ACCOUNTING
INITIAL DIRECT
COST
Note that the equipment is returned by the lessee to the lessor upon the
lease expiration on January 1,2025.
On such date, if the fair value of the asset is P400,000 which is higher than
the guaranteed residual value of P300,000, the entry to record the return of
the equipment to the lessor is:
Accumulated depreciation (863,256 x 5) 4,613,280

Lease liability 277,748
LESSEE ACCOUNTING
UNGUARANTEED RESIDUAL
VALUE
Ezzy Company leased a warehouse on January 1, 2020 with the following
information:
Annual rental payable at the end of each year 600,000

Unguaranteed residual value 200,000
Payment to lessor to obtain a 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 equipment 8 years
Discount rate for the restoration cost 8%
Present value of ordinary annuity of 1 at 10%
for 6 periods 4.36
Present value of 1 at 10% for 6 periods 0.56
Present value of 1 at 8% for 6 periods 0.63
LESSEE ACCOUNTING
VALUE
Computation:
Lease liability (600,000 x 4.36) 2,616,000
Payment to lessor obtain a long term lease 224,000
Present value of restoration cost (634, 920 x 0.63) 400,000
Total cost of right use asset 3,240,000
LESSEE ACCOUNTING
VALUE
LESSEE ACCOUNTING
VALUE
LESSEE ACCOUNTING
VALUE
Payment of liability for restoration cost
On January 1, 2026, the carrying amount of the estimated liability
for restoration cost would be P634, 920 after recognizing interest
for 6 years using the effective interest method.
The liability is simply derecognized upon payment for the
restoration cost.
Estimated liability for restoration cost 634,920

Cash 634,920
LESSEE ACCOUNTING
VALUE
Actual purchase of underlying asset
The cost of the asset purchased is equal to the carrying amount of

the leased asset plus cash payment minus the balance of the lease
liability
An entity purchased an equipment that it had been leasing under a
finance lease for P4,000,000. The balance of certain accounts on
the date of actual purchase are:
Right of use of asset 5,000,000

Accumulated depreciation 1,500,000
Lease liability 3,800,000
LESSEE ACCOUNTING
VALUE
LESSEE ACCOUNTING
EXTENSION OPTION
An entity entered into a lease of building on January 1, 2020 with
the following information:
Annual rental payable at the end of each year 500,000

Lease term 5 years
Useful life of building 20 years
PV of an ordinary annuity of 1 at 10% for 5 periods 3.791
LESSEE ACCOUNTING
EXTENSION OPTION
After 3 years on January 1, 2023, the lessee decided to extend

the lease for a further 5 years.
New annual rental payable at the end of each year 600,000

New implicit interest rate 8%
PV of 1 at 8% for 2 periods 0.857
LESSEE ACCOUNTING
EXTENSION OPTION
LESSEE ACCOUNTING
EXTENSION OPTION
December 31, 2020
Payment on December 31, 2020 500,000

Interest expense for 2020 (10% x 1,895,500) 189,500
Applicable to principal 310,450
Present value- January 1, 2020 (500,000 x 3.791) 1,895,500

Principal payment on December 31, 2020 (310,450)
LESSEE ACCOUNTING
EXTENSION OPTION
Journal entries for 2020
Jan 1 Right of use asset 1,895,500

Dec 31 Interest expense 189,550
Lease liability 310, 450
Cash 500,000
31 Depreciation (1,895,500/5 years) 379,100
LESSEE ACCOUNTING
EXTENSION OPTION
LESSEE ACCOUNTING
EXTENSION OPTION
LESSEE ACCOUNTING
EXTENSION OPTION
LESSEE ACCOUNTING
EXTENSION OPTION
1. To remeasure the lease liability on January 1, 2023:
2. To record the annual rental on December 31, 2023:
Lease liability 264,424
Cash 500,000
3. To record the annual depreciation based on the new carrying
amount:
Depreciation 404,999
(2,834,990)
LESSEE ACCOUNTING
VARIABLE PAYMENTS
On January 1, 2020, an entity entered into an 8-year lease of a
floor of a building
with the following terms:
Annual rent for the first three years payable 300,000

at the end of each year
Annual rental for the next five years payable 400,000
at the end of each year
PV of an ordinary annuity of 1 at 10% 2.487
or three periods
PV of an ordinary annuity of 1 at 10% 3.791
for five periods
PV of 1 at 10% for three periods 0.751
LESSEE ACCOUNTING
VARIABLE PAYMENTS
LESSEE ACCOUNTING
VARIABLE PAYMENTS
LESSEE ACCOUNTING
VARIABLE PAYMENTS
1.Right of use asset 1,884,916

2. Interest expense 188,492

Lease Liability 111,508
Cash 300,000
3.Depreciation 235,615
LESSEE ACCOUNTING
BSA-3103
C H APTER 1 1 : L E S SE E A C C O UNTI NG
LEASE
MODIFICATIO
N
J a n D ave Lucero
LEASE
MODIFICATION
IFRS 16, paragraph 44, provides that the lessee shall
account for the lease modification as a separate lease
under the following conditions:
a. the modification increases the scope of

the lease by adding the right to use an
additional underlying asset;
b. the rental for lease modification increases
by an amount commensurate with the increase
in scope and equivalent to the current market
rental.
L E S S E E A C C O U N T I N G : M O D I F I C AT I O N O F L E A S E
Illustration:
On January 1, 2020, an entity entered into a lease
agreement with the following information:
On January 1, 2022, the entity and the lessor agreed to
amend the terms of the lease with the following
information:
Note: The increase in the rental for the additional 4,500
sq. meters is equivalent to the current market rent.
Present value of the lease payment – January 1, 2020
Journal Entries for
2020:
On January 1, 2022, the entity shall account for the
modification as a separate lease.
Present value of the lease payment – January 1, 2020
Journal entries for
2022 – separate lease:
EXTENSION OF
LEASE TERM
Illustration:
On January 1, 2020, an entity entered into a lease for
office space with the following information:
On January1, 2022, the entity and the lessor agreed to
amend the original lease by extending the lease term by
3 more years with the following information:
Amortization Schedule
for 2020 and 2021
Journal Entries for
2020:
New lease liability due
to extension
Revised amortization
schedule
Journal Entries for
2022:
Adjusted carrying
amount – Jan. 1, 2022
Note that the increase in liability is an adjustment of the
carrying amount of the right use of asset.
DECREASE IN
SCOPE OF LEASE
Illustration:
On January 1, 2020, an entity entered into a lease of
office space with the following information:
Table of amortization
for 2020 and 2021
Journal Entries for
2020
Amendment of the
lease
On January 1, 2022, the lessee and the lessor agreed to
amend the original terms of the lease with the following
information:
Decrease in scope
Since the floor space was reduced to 480 sq. meter, the
scope of the lease was reduced to 40%.
IFRS 16, paragraph 46, states that a gain or loss should
be recognized as a result of the partial termination of
the lease.
Termination Gain
Decrease in carrying amount of lease liability is HIGHER
than the decrease in carrying amount of right of use
asset.
Termination Loss
Decrease in carrying amount of right of use asset is
HIGHER than the decrease in the carrying amount of the
lease liability
NOTE:
“The increase in lease liability as a result of lease modification is an
adjustment to the carrying amount of right of use asset .”
Revised table of
amortization
Journal Entries for
2022:
Journal Entries for
2022:
CHANGE IN RENTAL
Illustration:
On January 1, 2020, an entity leased equipment with the
following information:
Table of amortization
Journal Entries for
2020:
Amendment of the
lease
On January 1, 2023, the entity and the lessor agreed to
amend the original terms of the lease by reducing the
lease payment to P70,000 and increasing the implicit
rate to 9-%.
The present value of an ordinary annuity of 1 at 9% for

3 periods is 2.5313
Computation:
NOTE: The decrease in liability is a reduction in the carrying amount of

the right of use asset.
Revised amortization
schedule
Journal Entries for
2023:
BSA-3103
C H APTER 1 2 :
OPERATING
LEASE
Maa l a Edsel J ol on gbaya n .
IFRS 16, paragraph 61, provides that a lessor shall
classify leases as either an operating lease or a finance
lease
Operating lease – is a lease that does not transfer

substantially all the risks and rewards incidental to
ownership of an underlying asset
Finance lease – is a lease that transfers substantially all

the rewards incidental to ownership of an underlying
asset.
O P E R AT I N G L E A S E – L E S S O R
When is a lease classified as finance lease?
Classification of lease is based on the substance of transactions rather

than the form of the contract
a. The lease transfers ownership of the underlying 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 become exercisable
c. The lease term is for the major part of the economic life of the
underlying asset even if title is not transferred.
 At least 75% of the useful life of the asset
d. The present value of the lease payment amount to substantially all of

the fair value of the underlying asset at the inception of the lease.
 At least 90% of the fair value of the leased asset
Land and building lease
In classifying land and building, a lessor normally consider the

land and building elements separately.
The lease payments are allocated between the land and

building elements in proportion to the relative fair value of the
leasehold interest in the land and building elements at the
inception of the lease
If the lease payments cannot be allocated reliably between to

elements, the entire is classified as a finance lease, unless it is
clear that both elements are operating lease
Operating lease – Lessor
 The lessor shall recognize lease payments from operating

lease as income either straight line basis or another
systematic basis
 Otherwise stated, the periodic rental received by the lessor in

an operating lease is simply recognized as rent income.
 The underlying asset remains as an asset of the lessor. The

lessor bears executory cost.
 The depreciation policy for depreciable leased asset shall be

consistent with the lessor’s normal deprecation for similar
asset.
Operating lease – Lessor
 Initial direct cost incurred by lessor in an operating lease

shall be added to the carrying amount of the underlying
asset and recognized as an expense over the lease term on
the same basis as the lease income.
 Any security deposit refundable upon the lease expiration

shall be accounted for as liability of the lessor
 Any lease bonus received by the lessor from the lessee is

recognized as unearned rent income to be amortized over
the lease term.
ILLUSTRATION:
1. On Jan 1 2020, Simple company purchased a machinery for

P3M cash for the purpose of leasing it. The machine is expected
to have a 10 year life and no residual value.
Machinery 3 000 000
Cash 3 000 000
2. On April 1 2020, Simple company leased the machine to

another entity for 3 years at a monthly rental of P50 000 payable
at the beginning of every month.
Cash ( 50000 x 9 ) 450 000
Rent income 450 000
3. On April 1 2020, Simple company received a security deposit of

P600 000 to be refunded upon the lease expiration
Cash 600 000
Liability for rent deposit 600 000
4. In addition to the rental, Simple company received from the lessee a
lease bonus of P120 000 on Jan 1 2020.
Cash 120 000
Unearned rent income 120 000
5. On April 1 2020, Simple company paid initial direct cost of P300 000.
Such costs are directly attributable to negotiating and arranging the
operating lease.
Deferred initial direct cost 300 000
Cash 300 000
6. During the year, Simple company paid repair and maintenance of P20
000.
Repair and maintenance 20 000
Cash 20 000
7. The lease bonus is amortized over 3 years or P40 000 annually.

Unearned rent income 30 000
Rent Income ( 40000 x 9/12 ) 30 000
8. The machinery is depreciated over 10 years or P300 000
annually.
Depreciation 300 000
Accumulated depreciation 300 000
Note that the depreciation is from the date of acquisition and not
from the date of lease
9. The initial direct cost is recognized as expense over the lease

term.
Amortization of initial direct cost 75 000
Deferred initial direct cost 75 000
( 300000/3 x 9/12 )
The balance of deferred initial direct cost shall be presented as an

addition to the carrying amount of machinery
Unequal rental payments
Where the operating lease requires unequal cash payments,
the total cash payments for the lease term shall be amortized
uniformly on the straight line basis as a rent income over the
lease term
Illustration:
Aye Company leased office space to another entity for three-

year period beginning January 1 2020. Under the terms of
operating lease, rent for the first year is P1M and rent for the
next two years, P1 250 000 annually. However as inducement to
enter the lease, Aye granted the lessee the first six months of
the lease rent free.
Unequal rental payments
Where the operating lease requires unequal cash payments,
the total cash payments for the lease term shall be amortized
uniformly on the straight line basis as a rent income over the
lease term
Illustration:
Aye Company leased office space to another entity for three-

year period beginning January 1 2020. Under the terms of
operating lease, rent for the first year is P1M and rent for the
next two years, P1 250 000 annually. However as inducement to
enter the lease, Aye granted the lessee the first six months of
the lease rent free.
Total rental for the least term:
2020 500 000

2021 1 250 000
2022 1 250 000
Total rental for 3 years 3 000 000
Average annual rental ( 3 000 000 / 3 ) = 1 000 000
Journal Entries: Books of Aye – Lessor

2020 Cash 500 000
Rent Receivable 500 000
Rent Income 1 000 000
2021 Cash 1 250 000
Rent income for 2020 and 2021 2 000 000

Rent Collected ( 500 000 + 1 250 000 ) 1 750 000
2022 Cash 1 250 000

The rent receivable has zero balance has a zero balance on Dec
31 2022 and the recorded rent income every year is P1M.
BSA-3103
C H APTER 1 3 :
DIRECT
FINANCING
LEASE- LESSOR
Co r i na M. Masa jo
FINANCE LEASE
CLASSIFICATION
A FINANCE LEASE IS EITHER:
A.Direct financing lease
B. Sales type lease
Main Distinction: the presence or
absence of a manufacturer or a dealer
profit or loss.
CHAPTER 13: DIRECT FINANCING LEASE- LESSOR

DIRECT FINANCING
LEASE
- Is an arrangement between a
financing entity and a lessee.
- Income of the lessor is only in the
form of interest income.
- No dealer profit is recognized.
DIRECT FINANCING LEASE- LESSOR

ACCOUNTING
CONSIDERATIONS
A.Gross investment= gross rental +
residual value
B. Net investment in the lease= cost of
asset + initial direct cost
C.Unearned interest income= gross
investment – net investment
D.Initial direct cost

ILLUSTRATION-
DIRECT FINANCING
LEASE
On January 1, 2020, Lessor Company leased a
machinery to another entity with the following
details:
Cost of Machinery 1,518,650
Annual rental payable at
the end of each year 500,000
Lease term 4 years
Useful life of machinery 4 years

ILLUSTRATION-
DIRECT FINANCING
LEASE
Present value of annuity of
1 for 4 years a 12% 3.0373
The initial problem is the determination of the
annual rental which will give the lessor a fair
rate of return on the net investment in the
lease.

ILLUSTRATION-
DIRECT FINANCING
LEASE
Computation:
The annual rental is, PV of Gross
rental(P1,518,650) divided by PV of annuity of
1 for 4 years at 12% (3.0373), P500,000.
Gross rental or lease receivable 2,000,000
PV of gross rentals 1,518,650
Unearned interest income 481,350

ILLUSTRATION-
DIRECT FINANCING
LEASE
Journal Entries:
Lease Receivable 2,000,000
Machinery 1,518,650
Cash 500,000
Lease Receivable 500,000

TABLE OF
AMORTIZATION
Date Payment Interest Principal Present
Value
Jan. 1, 2020 1,518,650
Dec.
31,2020
500,000 182,238 317,762 1,200,888
Dec.
31,2021
500,000 144,107 355,893 844,995
Dec.
31,2022
500,000 101,399 398,601 446,394
Dec.
31,2023
500,000 53,606 446,394 -

ILLUSTRATION-
DIRECT FINANCING
LEASE
Recognition of interest income
- the effective interest method is used.
IFRS 16, paragraph 75, states that the lessor
shall recognize finance income over the lease
term based on a pattern reflecting a constant
periodic rate of return on the lessor’s net
investment in the lease.

ILLUSTRATION-
DIRECT FINANCING
LEASE
Journal Entries:
2020
Dec. 31
Interest income 182,238
2021
Dec. 31

DIRECT FINANCING
LEASE- with initial direct
cost
On January 1, 2020, Lessor Company leased a
machinery to another entity with the following
details:
Cost of Machinery 1,518,650
Annual rental payable at
the end of each year 500,000
Lease term 4 years
Useful life of machinery 4 years

DIRECT FINANCING
cost
Implicit interest rate
before initial direct cost 12%
Present value of annuity of
1 for 4 years a 12% 3.0373
On January 1,2020, Lessor Company paid

initial direct cost of P66,300.

DIRECT FINANCING
cost
Cost of machinery 1,518,650
Initial direct cost 66,300
Net investment in the lease 1,584,950
Gross rentals 2,000,000
Net investment in the lease 1,584,950

DIRECT FINANCING
cost
The problem is the determination of the
reduced implicit interest rate.
The original implicit interest rate of 12%
cannot be applied anymore because of the
added initial direct cost.

DIRECT FINANCING
cost
Computation of new implicit rate
- computed by trial and error or through the
interpolation process.
Using 11% = PV of gross rentals (P500,000) x
PV of an ordinary of 1 at 11% for 4 periods
(3.1024)
= P1,551,200
(not same as net investment)

DIRECT FINANCING
cost
Computation of new implicit rate
Using 10%= PV of gross rentals (P500,000) x
PV of an ordinary of 1 at 10% for 4 periods
(3.1699)
= P1,584,950
(same as net investment)

DIRECT FINANCING
cost
Journal entries:
Machinery(initial direct cost) 66,300
Cash 66,300
Lease Receivable 2,000,000
Machinery 1,584,950

DIRECT FINANCING
cost
Journal entries:
The annual collection of the rental is recorded:
Cash 500,000

DIRECT FINANCING
cost Payment Interest Principal Present
Date
Value
Jan. 1, 2020 1,584,950
Dec.
500,000 158,495 341,505 1,243,445
31,2020
Dec.
500,000 124,344 375,656 867,789
31,2021
Dec.
500,000 86,779 413,221 454,568
31,2022
Dec.
500,000 45,432 454,568 -
31,2023

DIRECT FINANCING
cost
Journal entries:
2020
Dec. 31
2021
Dec. 31

DIRECT FINANCING
cost
Current portion:
Lease receivable 500,000
Unearned interest income (124,344)
Carrying amount 375,656
Noncurrent portion:
Lease receivable 1,000,000
Unearned interest income (132,211)
Carrying amount 867,789

DIRECT FINANCING
cost
IFRS 16, paragraph 67, states that lessors
shall recognize assets held under a finance
lease as a receivable at an amount equal to
the net investment in the lease.
The unearned interest income which is
realizable within one year from December
31,2020 is deducted from the current lease
receivable.

DIRECT FINANCING
cost
The remaining portion is deducted from the
noncurrent lease receivable.
Realized in 2020 158,495
Balance, December 31, 2020 256,555
Realizable in 2021 124,344
Realizable beyond 202 132,211

BSA-3103
C H APTER 1 3 :
DIRECT
FINANCE LEASE
- LESSOR
Ma r y An gel l e C. Noc he
DIRECT FINANCE
LEASE WITH
RESIDUAL VALUE
Problem:
On January 1, 2020, Lessor Company leased a machinery
to another entity with the following details:
Cost of Machinery P 3,194,410

Residual Value 500,000
Useful life and lease term 4 years
DIRECT FINANCE LEASE-LESSOR

The

machinery will revert to the lessor at the end of the
lease term because there is neither a transfer of title nor
purchase option.
The problem is the determination of annual rental. The

annual rental is payable at the end of each year with the
first payment on December 31, 2020.
The relevant present value factors are:

(1+10%)-4
PV of an OA of 1 at 10% for 4 periods 3.1699

Computation for Annual Rental:

PV of Residual Value (P 500,000 X .683) ( 341,500)
Net investment to be recovered from rental P P 2, 852,910
Divide: PV of an OA of 1 @10% for 4 periods 3.1699
Annual Rental P 900,000

Computation for Unearned Interest Income:
Gross Rentals (P 900,000 X 4 years) P 3,600,000

Residual Value
( whether guaranteed or unguaranteed) 500,000
Gross Investment P 4,100,000
Cost of machinery – net investment ( 3,194,410)
Unearned Interest Income P 905,590

Amortization Table
Present
Date Payment Interest Principal
Value
1/1/2020 3,194,410
12/31/2020 900,000 319,441 580,559 2, 613,851
12/31/2021 900,000 261,385 638,615 1,975,236
12/31/2022 900,000 197, 524 702,476 1,272,60
12/31/2023 900,000 127, 240 772,760 500,000

Journal Entries for 2020
1. Lease Receivable 4,100,000
Machinery 3,194,410
To record the direct finance lease
2. Cash 900,000
To record the collection of annual rental
3. Unearned interest income 319,441

To record the interest income
Whether guaranteed or unguaranteed, the entry on the books of

lessor will be the same.
Machinery 500,000

Accounting Problem
The accounting problem is when the fair value of the machinery is
P400,000 which is lower than the residual value of P500,000.
Guaranteed Scenario (lessee will pay for the difference)
Cash 100,000
Machinery 400,000
Unguaranteed Scenario (lessor shall recognize a loss for the

difference)
Loss on finance lease 100,000

Machinery 400,000

Problem:
On January 1, 2020, Lessor Company leased a machinery to

another entity with the following details:

Residual Value Guaranteed 400,000
The annual rental is payable in advance on January 1 of each year

starting January 1, 2020.
Since the residual value is guaranteed, the machinery will revert to

the lessor at the end of the lease term.

The relevant present value factors are:

(1+10%)-4
PV of an annuity of 1 in advance at 10% for 4 periods 3.4869

1+1


Present Value of residual value (400,000 X .683) ( 273,200)
Net investment to be recovered from rental P3,486,900 Divide:
PV of annuity of 1in advance at
10% for 4 periods 3.4869
Annual Rental P 1,000,000

Gross Rentals (P 1,000,000 X 4 years) P4,000,000

Residual Value – guaranteed 400,000
Gross Investment P4,400,000
Net Investment- cost of machinery ( 3,760,100)

Amortization Table
Present
Value
1/1/2020 3,760,100
1/1/2020 1,000,000 - 1,000,000 2,760,100
1/1/2021 1,000,000 276,010 723,990 2,036,110
1/1/2022 1,000,000 203,611 796,389 1,239,721
1/1/2023 1,000,000 123,972 876,028 363,693
1/1/2024 400,000 36,307 363,693 -

Journal Entries
2021
Jan 1 Cash 1,000,000
Dec 31 Unearned interest income 203,611

Interest Income 203,611
2022
Jan 1 Cash 1,000,000


Journal Entries
2023
Jan 1 Cash 1,000,000

Jan 1 2024
The fair value of the machinery is P300,000 only. Since the

guaranteed residual value is P400,000, the lessee will pay for the
difference of P100,000.
Cash 100,000
Machinery 300,000

DIRECT FINANCE LEASE
TRANSFER OF TITLE TO
LEASE
Problem:
On January 1, 2020, Lessor Company leased a machinery
to another entity with the following details:

Residual Value 500,000

The

annual rental is payable in advance on January 1 of
each year starting January 1, 2020
The lease provide for a transfer of title to the lease at the

end of the lease term.
Present value of annuity of 1 in advance at 8% for 5 period

is 4.312.
1+1

Cost of Machinery to be recovered from rental P 3,449,600

Divide: PV of an ordinary annuity of 1 in advance
at 8% for 5 periods 4.312
Annual Rental P 800,000
Note:
If the machinery will not revert to the lessor at the end of the lease
term because the lease provides for a transfer of title to the lessee,
the residual value is completely ignored in the computation of the
annual rental and the unearned interest income.

Gross Rentals (P 800,000 X 5 years) P 4,000,000

Net Investment- cost of machinery ( 3,449,600)

Amortization Table
Present
Value
1/1/2020 3,449,600
1/1/2020 800,000 - 800,000 2,649,600
1/1/2021 800,000 211,968 588,032 2,061,568
1/1/2022 800,000 164, 925 635,075 1,426,493
1/1/2023 800,000 114,119 685,881 740,612
1/1/2024 800,000 59,388 740,612 -

Journal Entries
2020
Jan 1 Lease receivable 4,000,000
Machinery 3, 449,600
1 Cash 800,000

2021
Jan 1 Cash 800,000


Group 4 Chapter 10 13

Uploaded by

Document Information

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Group 4 Chapter 10 13

Uploaded by

Copyright:

Available Formats

BSA-3103

• These are payments made by the lessee to the

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

Jan. 1, 2020 303750

Dec. 31, 2020 P100000

Dec. 31, 2022 P100000

Dec. 31, 2023 P100000

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

Note: present value factor applicable to 12% is used in

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

 To record the annual depreciation

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

Journal entry record

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

Lease liability Jan. 1, 2020 3306470

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

DISC LOSURE - LESSEE

PV of rentals ( 1,000,000 x 4.3121) 4,312,100

Lease liability- January 1, 2020 4, 516,280

Cost of right of use asset 4, 616, 280

1. To record the acquisition of the equipment under a finance lease:

Accumulated depreciation (863,256 x 5) 4,613,280

Annual rental payable at the end of each year 600,000

Total cost of right use asset 3,240,000

Estimated liability for restoration cost 634,920

The cost of the asset purchased is equal to the carrying amount of

Right of use of asset 5,000,000

Annual rental payable at the end of each year 500,000

After 3 years on January 1, 2023, the lessee decided to extend

New annual rental payable at the end of each year 600,000

Payment on December 31, 2020 500,000

Present value- January 1, 2020 (500,000 x 3.791) 1,895,500

Jan 1 Right of use asset 1,895,500

Annual rent for the first three years payable 300,000

1.Right of use asset 1,884,916

2. Interest expense 188,492

a. the modification increases the scope of

Present value of the lease payment – January 1, 2020

Present value of the lease payment – January 1, 2020