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COVID 19 PROJECT FOR ACCOUNTANTS

LEASES – IFRS 16
PART 1: OPERATING LEASE - LESSOR

 Lessors shall classify all leases either as operating or finance leases. This treatment
does not apply to lessee’s under IFRS 16 and can only use the Finance Lease Model.
Finance and Operating leases are still defined as follows:

(a) Finance leases transfers substantially all the risks and rewards incidental to
ownership of an underlying asset.
(b) Operating leases are leases other than a finance lease.

 Operating Lease - The lessor shall recognize lease income or rental income using the
straight-line method over the lease term.

(a) If the rentals are uneven (increasing or decreasing) or there is a period where
rentals are not paid by the lessee, which is described as a “rent holiday”. The total
amount of rentals is computed and divided equally over the lease term in order to
apply the straight-line method. Consequently, lease or rent receivable as well as a
payable will be recognized for the difference between the income and collection

(b) Contingent rentals (rentals based on a future amount) are recognized as additional
income by the lessor using the accrual method.

(c) Lease bonuses received should be deferred as a liability and amortized as

additional rental income over the lease term. The same treatment is applied to
nonrefundable security deposits. If the problem is silent, the security deposit is
refundable and treated as a long-term liability.

(d) Initial direct cost incurred by the lessor is capitalized as part of the carrying
amount of the leased asset and amortized as expense over the lease term.

(e) The depreciation on the asset and other expenses related to the ownership of the
asset like insurance and taxes shall be recognized as an expense by the lessor.

MULTIPLE CHOICE PROBLEMS

1. On January 1, 2021, Axis Company signed a 3-year operating lease for office space at
P3,500,000 per year with a lessee The lease included a provision for additional rent of
5% of the annual lessee’s sales that exceeds P10,000,000. The lessee’s sales for the
year ended December 31, 2021 were P15,000,000.

Upon execution of the lease, Axis received P1,200,000 as a bonus for the lease in
order to grant a 10-year lease instead of the lessor’s usual lease term of 5 years. What
is Axis’s rent income for the year ended December 31, 2021?
a. 3,900,000
b. 3,250,000
c. 4,150,000
d. 3,500,000

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2. As an inducement to enter a lease, Honor Company, a lessor, grants Taco Company, a

lessee, six months of free rent under a five-year operating lease. The lease is effective
on July 1, 2020, and provides for monthly rental of P250,000 to begin January 1, 2021.

1. What is the rental income for the year ended June 30, 2021?
a. 3,000,000
b. 2,700,000
c. 1,200,000
d. 1,500,000

2. What is the rent receivable for the year ended June 30, 2022?
a. 900,000
b. 1,200,000
c. 600,000
d. 300,000

3. On January 1, 2021, Resilient Company leased a building from Black Company under a
3-year operating lease. The total rent for the lease term will be P15,600,000, payable for
the first 12 months at P300,000 per month, the second 12 months at P400,000 per
month and the 3rd and last 12 months at P600,000 per month.

All payments were made when due. Black’s reporting date is every December 31.

1. What is the amount of rental revenue that shall be reported by Black in 2021?
a. 7,200,000
b. 5,200,000
c. 2,000,000
d. 0

2. What is the rental receivable for the interim period ending June 30, 2020?
a. 2,000,000
b. 2,800,000
c. 1,600,000
d. 1,200,000

4. On January 1, 2021, Splash Company leased a building to Palace Company under an

operating lease for three years at P6,000,000 per year, payable the first day of each
lease year. Splash paid P1,500,000 to a real estate broker as a finder’s fee. The
building is depreciated P600,000 per year. For 2021, Splash incurred property tax
expense totaling P300,000. What is the net rental income for 2021?
a. 4,600,000
b. 6,000,000
c. 5,100,000
d. 4,500,000

5. Justice Company purchased a new machine for P5,000,000 on January 1, 2021 for the
purpose of leasing. The machine has an estimated 10-year life. On April 1, 2021,
Justice leased the machine to Supremacy Company for three years at a monthly rental
of P300,000. Supremacy Company paid the rental for one year of P3,600,000 on April
1, 2021 and additionally paid P600,000 to Justice as a lease bonus to obtain the three-
year lease. On April 1, 2021, Justice incurred initial direct costs of P240,000. What is
Justice’s 2021 operating profit on this leased asset?
a. 2,290,000
b. 2,415,000
c. 2,110,000
d. 2,740,000

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PART 2: FINANCE LEASE - LESSEE

Terms and Definitions

Lease - a 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.
Interest rate The interest rate that yields a present value of (a) the lease payments
implicit in the and (b) the unguaranteed residual value equal to the sum of (i) the fair
lease - value of the underlying asset and (ii) any initial direct costs of the
lessor.
Lease term - The non-cancellable period for which a lessee has the right to use an
underlying asset, plus:
a) Periods covered by an extension option if exercise of that option
by the lessee is reasonably certain; and
b) Periods covered by a termination option if the lessee is
reasonably certain not to exercise that option
Lessee’s The rate of interest that a lessee would have to pay to borrow over a
incremental similar term, and with a similar security, the funds necessary to obtain
borrowing rate - an asset of a similar value to the right-of-use asset in a similar
economic environment.
Inception date The earlier of the date of a lease agreement and the date of
of the lease - commitment by the parties to the principal terms and conditions of the
lease.
Commencement The date on which a lessor makes an underlying asset available for
date of the use by a lessee.
lease -
Underlying An asset that is the subject of a lease, for which the right to use that
asset - asset has been provided by a lessor to a lessee.
Lease payments Payments made by a lessee to a lessor relating to the right to use an
- underlying asset during the lease term, comprising the following:
a) Fixed payments, less any lease incentives;
b) Variable lease payments that depend on an index or a rate;
c) The exercise price of a purchase option if the lessee is
reasonably certain to exercise that option;
d) Residual value guarantees; and
e) Payments of penalties for terminating the lease, if the lease
term reflects the lessee exercising an option to terminate the
lease.
Lease Payments made by a lessor to a lessee associated with a lease, or
incentives - the reimbursement or assumption by a lessor of costs of a lessee.
Initial direct Incremental costs of obtaining a lease that would not have been
costs - incurred if the lease had not been obtained, except for such costs
incurred by a manufacturer or dealer lessor in connection with a
finance lease.
Economic life - Either the period over which an asset is expected to be economically
usable by one or more users or the number of production or similar
units expected to be obtained from an asset by one or more users.
Short term A lease that, at the commencement date, has a lease term of 12
leases - months or less. A lease that contains a purchase option is not a short-
term lease.

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Unguaranteed That portion of the residual value of the underlying asset, the
residual value - realization of which by a lessor is not assured or is guaranteed solely
by a party related to the lessor.

Identifying a Lease

At inception of a contract, an entity shall assess whether the contract is, or

contains, a lease

 A contract is, or contains, a lease if it conveys the right to control the use of an
identified asset for a period of time in exchange for consideration.

 To assess whether a contract conveys the right to control the use of an identified
asset for a period of time, an entity shall assess whether, throughout the period of
use, the customer has both of the following:

a) The right to obtain substantially all of the economic benefits from use of the
identified asset; and

b) The right to direct the use of the identified asset

 If the customer has the right to control the use of an identified asset for only a
portion of the term of the contract, the contract contains a lease for that portion of
the term.

Lessee

 Lessees now have a single accounting model for all leases except for

(a) Short-term leases (those having a term of 12 months or less, including the effect
of extension options); and

(b) Leases for which the underlying asset is of low value (telephones, laptop
computers, and small office furniture).

 Initial Recognition – Capitalize the (a) Right-of-Use Asset and measure a (b)
Lease Liability at the present value of lease payments.

(a) The cost of the right-of-use asset is the total of:

 The amount of the lease liability recognized;

 Any lease payments made at or before the commencement date, less any
lease incentives;
 Any initial direct costs incurred; and
 An estimate of costs to be incurred to dismantle and remove an asset and
restore the site based on the terms and conditions of the lease.

(b) The lease liability at the commencement date of the lease shall be the
discounted unpaid portion lease payments computed using the implicit rate in
the lease or if not determinable, the lessee’s incremental borrowing rate. Lease
payments include

 Fixed payments, less any lease incentives receivable;

 Variable lease payments dependent on an index or rate;
 Residual value guarantees;
 The exercise price of a reasonably certain purchase options; and
 Lease termination penalties, if a lessee termination option was considered in
setting the lease term.
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Subsequent Measurement

(a) The Right-of-Use Asset shall be presented as a line item in the statement of
financial position as part of non-current assets separately from other assets or
within the same line item as the underlying asset and accounted for using any of
the following:
 Apply PAS 16, Property, Plant and Equipment under the Cost Model and
depreciate the Right-of-Use asset using its economic life if there is a transfer
of ownership or a purchase option that is reasonably certain to be exercise.
However, if there is none, the Right-of-Use Asset is depreciated using
economic life or the lease term whichever is shorter.
 Revaluation Model also under PAS 16.
 Apply PAS 40, Investment property if the Right-of-Use asset meets the
definition of an investment property. The lessee shall apply the Fair Value
Model if it applies that model to its investment property.

(b) The Lease Liability after commencement shall be remeasured for:

 Increases in the carrying amount due to the interest on the liability using the
effective interest method.
 A reduction in the carrying amount as a result of the lease payments made.
 The carrying amount is remeasured to reflect any reassessment, lease
modifications or revised in-substance fixed lease payments.
 Lease payments to be applied to the lease liability that are due within 12
months after the reporting period shall be classified as a current liability in the
statement of financial position.
 Remeasurements of lease liability and the Right-of-Use Asset shall be
necessary to reflect the following changes:
(a) The lease term
(b) An assessment of a purchase option
(c) The amounts expected to be payable under residual value guarantees
(d) Future lease payments resulting from a change in an index or a rate used
to determine those payments
 Variable lease payments that have not been included in the initial
measurement of the lease liability are recognized in profit or loss in the
period in which the event or condition that triggers the payments occurs.

MULTIPLE CHOICE PROBLEMS

1. Viola Company leased equipment from Walsh Company on January 1, 2021 under a
lease with the following pertinent information:
Annual rental payable at the end of each year 500,000
Lease term 7 years
Useful life of equipment 10 years
Implicit interest rate 11%
PV of an ordinary annuity of 1 for 7 periods at 11% 4.71
Present value of 1 for 7 periods at 11% 0.48
Viola has the option to purchase the machine on January 1, 2028 by paying P400,000
which is significantly less than the P800,000 expected fair value of the machine on the
option exercise date. On January 1, 2021, Viola paid a lease bonus of P150,000 which
was net of the lease incentive received of P100,000. The bonus would have been
P250,000 if the incentive was not granted. Viola also incurred initial direct costs of
P50,000. Viola uses the straight-line method of depreciation for all its assets with no
expected residual value.

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1. What is the cost of THE RIGHT OF USE ASSET at the inception of the lease?
a. 2,547,000
b. 2,747,000
c. 2,355,000
d. 2,643,000

2. What is the balance of the total lease liability on December 31, 2021?
a. 2,547,000
b. 2,047,000
c. 2,327,170
d. 2,549,170

3. What is the current portion of this lease liability on December 31, 2021?
a. 500,000
b. 244,011
c. 219,830
d. 255,989

4. What is the depreciation expense for 2021 assuming no residual value?

a. 254,700
b. 363,857
c. 274,700
d. 392,428

2. Jalen Company leased equipment for its entire nine-year useful life, agreeing to pay
P1,000,000 at the start of the lease term on January 1, 2021, and P1,000,000 annually
on each January 1, for the next eight years. The present value on January 1, 2021, of
the nine lease payments over the lease term, using the rate implicit in the lease which
Jalen knows to be 10% was P6,330,000. The January 1, 2021, present value of the
lease payments using Jalen’s incremental borrowing rate of 12% was P5,970,000.
Jalen made a timely second lease payment on January 1, 2022.

1. What is the balance of the finance lease liability on December 31, 2021?
a. 6,330,000
b. 5,330,000
c. 5,970,000
d. 4,970,000

2. What is the 2022 interest expense?

a. 496,300
b. 596,300
c. 486,300
d. 547,968

3. What amount should Jalen report as finance lease liability in its December 31, 2022
statement of financial position?
a. 4,863,000
b. 5,963,000
c. 4,963,000
d. 3,863,000

4. What is the current lease liability on December 31, 2022?

a. 486,300
b. 467,000
c. 525,200
d. 513,700

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3. On January 1, 2019, Cobert Company leased two automobiles for executive use. The
lease requires Cobert to make five annual payments of P2,000,000 beginning January
1, 2019. At the end of the lease term at December 31, 2023, Cobert guarantees the
residual value of the automobiles at P500,000. The interest rate implicit in the lease is
12% and present value factors are as follows:

For an annuity due with 5 payments 4.04

For an ordinary annuity with 5 payments 3.60
Present value of 1 for 5 periods 0.57

1. What is the finance lease liability immediately after the first required payment?
a. 6,080,000
b. 6,365,000
c. 5,485,000
d. 5,128,800

2. What is the 2020 interest expense?

a. 763,800
b. 615,456
c. 969,600
d. 729,600

3. What is the lease liability on December 31, 2020?

a. 3,744,256
b. 5,128,800
c. 5,774,256
d. 7,128,800

2. What is the current lease liability on December 31, 2020?

a. 1,384,544
b. 2,000,000
c. 1,236,200
d. 1,270,400

4. On January 1, 2021, Alicia Company entered into a 10-year lease for drilling
equipment. Alicia accounted for the acquisition as a finance lease for P4,900,000
which included the present value of a P200,000 guaranteed residual value. At the end
of the lease, the asset will revert back to the lessor. It is estimated that the asset’s
fair value at the end of its 12-year useful life will be P100,000. Alicia regularly uses the
straight-line depreciation on similar equipment.

1. What amount should Alicia recognize as depreciation expense on the leased asset?
a. 490,000
b. 400,000
c. 470,000
d. 408,333

2. If the total amount capitalized as an asset was still P4,900,000 but the residual
value of P200,000 is unguaranteed, what is the depreciation to be recorded in
2019?
a. 490,000
b. 400,000
c. 470,000
d. 408,333

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PART 3: SALE AND LEASEBACK TRANSACTIONS

(a) A sale and leaseback is a transaction where the seller sells an asset to a buyer and
immediately leases back the asset, thus the seller becomes the lessee and the
buyer becoming the lessor.

(b) PFRS 15 is applied to determine whether the transfer of an asset is accounted for
as a sale.

(c) If an asset transfer satisfies PFRS 15’s requirements to be accounted for as a sale
the seller/lessee measures the right-of-use asset at the proportion of the previous
carrying amount based on the fair value that relates to the right of use retained.

(d) The following procedures shall be considered for amounts to be recognized as the
“RIGHT OF USE ASSET” and amount of “GAIN OR LOSS ON RIGHT OF USE
TRANSFERRED” (rather than a gain or loss on sale).

 No additional procedure is required if the selling price is at or equal to fair value.

 But if the selling price is above fair value, the difference shall be treated as
additional financing or similarly to a lease incentive and therefore deducted
from the lease liability and other cost like initial direct cost, lease
prepayment and present value of dismantling, removal and restoration in
computing for the total cost of the right of use asset.

 If the selling price is below fair value, the difference shall be treated as a lease
prepayment and therefore added in computing for the total cost of the right of
use asset.

 The proportion of the previous carrying amount that relates to the “right of use
retained” is computed by dividing the carrying amount of the asset by its fair
value.

 Meanwhile it is also necessary to compute for the right of use transferred

percentage which is simply 1 minus the right of use retained (as mentioned
above).

 Meanwhile the gain or loss on right of use transferred is the difference between
the fair value of the asset and the total cost of the right-of-use asset.

 The right of use asset to be capitalized is the total cost of the leased asset
multiplied by “right of use retained” percentage.

 The gain or loss on the right of use transferred to be recognized by the

seller/lessee is the “total right of use transferred” multiplied by the percentage
of right of use transferred.

 The percentage of the right of use transferred can also be computed by dividing
the gain or loss on sale by the fair value of the asset.

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COMPREHENSIVE PROBLEM

1. On January 1, 2019 Gladys Company sold equipment with an estimated remaining

useful life of 12 years to Bubbles Company. At the same time, Gladys leased back the
equipment for 5 years. The lease does not contain a purchase option and the
equipment will revert back to Bubbles at the end of the lease term, however the
residual value is unguaranteed and considered insignificant.

Additional information regarding this sale and leaseback transaction is as follows:

Sales price 15,000,000

Fair value 16,000,000
Carrying amount 12,000,000
Lease payments in advance 2,000,000
Implicit rate 12%
PV of an ordinary annuity 3.60
PV of an annuity due 4.04

1. What is the cost of the right of use asset?

a. 6,810,000
b. 6,060,000
c. 7,010,000
d. 6,260,000

2. What is the gain on the right of use transferred to be recognized?

a. 1,980,000
b. 1,930,000
c. 1,730,000
d. 2,180,000

3. Assume that the sales price is P16,000,000, which is equal to the fair value of the
asset. What is the cost of the right of use asset?
a. 6,810,000
b. 8,080,000
c. 6,060,000
d. 6,080,000

4. Assume that the sales price is P18,000,000, which is higher than the selling price of
the asset. What is the cost of the right of use asset?
a. 6,080,000
b. 5,930,000
c. 4,560,000
d. 7,180,000

5. Assume again that the sales price is P18,000,000. What is the gain on the right of
use transferred to be recognized?
a. 1,730,000
b. 1,980,000
c. 2,480,000
d. 2,080,000

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PART 4: FINANCE LEASE - LESSOR

 The Finance Leases for Lessors is either a sales type lease or direct financing
lease. Sales-Type leases apply to dealer or manufacturers of the asset subject to
the lease contract. All other leases are classified as Direct Financing Leases.

 Whether STL or DFL the gross investment and net investment is determined:

a) Gross investment is the total lease receivable meaning the lease payments plus
reasonably certain purchase option or residual value whether guaranteed or
unguaranteed.

b) Net investment is the PV of the gross investment. Under the DFL, the NI is the
cost of the asset plus the initial direct cost capitalized which is equal to the present
value of the gross investment discounted using the implicit rate in the lease

c) The difference between the GI and NI is the total financial revenue BUT IS
DEFERRED BECAUSE IT WILL BE EARNED THROUGHOUT THE FINANCING
PERIOD OR LEASETERM.

 If it is a sales type lease, sales and cost of sales shall be recognized and the
difference is the selling profit that shall be recognized in full the period of sale.

a) Sales amount to be recognized is the Fair Value or PV of the minimum lease

payment (lease payments + reasonable certain purchase option or residual value
guarantee) whichever is lower.

b) Cost of sales is the cost of the asset plus initial direct cost minus the PV of the
unguaranteed residual value.

This is actually the only time that the initial direct cost is expensed unlike the
treatment for lessor operating leases and finance leases for the lessee. However,
take note that the expense as mentioned in the standard is recognized when the
selling profit is recognized meaning it is included as cost of sales.

c) The interest income is also recognized by using the effective interest method over
the lease term.

 If it is a direct financing lease, the difference of the gross investment and the cost of
the asset plus the direct cost is amortized as interest income over the lease term also
under the effective interest method.

 The carrying amount of the lease receivable is equal to the PV of the remaining lease
payments plus the present value of the unguaranteed residual value or simply equal
to the net investment.

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MULTIPLE CHOICE PROBLEMS

1. Julia Financing Company leases equipment to customers under a direct financing lease
arrangement for a noncancelable period of at least 10 years. On January 1, 2021, Julia
purchased an equipment for P8,300,000 and immediately leased it to another company
for 10 years. Lease payments of P1,200,000 are to be collected at the beginning of
each year and Julia expects to earn 9% interest on leases. Julia incurs P100,000 of
initial direct cost in connection with the lease. The lease transfers the ownership of the
asset to the lessee.

1. What is the total financial revenue to be earned by Julia in this lease?

a. 3,000,000
b. 2,600,000
c. 3,600,000
d. 2,400,000

2. What is the financial revenue in 2021?

a. 648,000
b. 756,000
c. 1,080,000
d. 500,000

3. What is the carrying amount of the lease receivable to be presented in Julia’

statement of financial position on December 31, 2021?
a. 10,800,000
b. 9,600,000
c. 9,156,000
d. 7,848,000

2. Glynne Company is a dealer in machinery. On January 1, 2021, machinery was leased

to another enterprise with the following provisions:

Annual rental payable at the end of each year 2,000,000

Lease term 5 years
Useful life of machinery 6 years
Cost of machinery 5,000,000
Residual value - guaranteed 1,000,000
Implicit interest rate 10%
PV of an ordinary annuity of 1 for 5 periods at 10% 3.79
PV of 1 for 5 periods at 10% 0.62

At the end of the lease term on December 31, 2025, the machinery will be returned to
Glynne. The perpetual inventory system is used. Glynne incurred initial direct costs of
P200,000 in finalizing the lease agreement.

1. What is the total financial revenue from the lease from the lease transaction?
a. 2,800,000
b. 1,800,000
c. 3,000,000
d. 3,200,000

2. What amount of profit on the sale should Glynne Company report?

a. 3,200,000
b. 3,000,000
c. 2,000,000
d. 2,500,000

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3. What amount of interest income should Glynne Company report in 2021?

a. 758,000
b. 820,000
c. 555,000
d. 920,000

4. What is the total income to be reported by Glynne from this lease in 2021?
a. 3,000,000
b. 2,800,000
c. 3,820,000
d. 820,000

3. Sophie Company is in the business of leasing new sophisticated equipment. As a

lessor, Sophie expects a 12% return on its net investment with payments made in
advance. All leases are classified as direct financing leases. At the end of the lease
term, the equipment’s ownership is not transferred to the lessee. On January 1, 2021,
equipment is leased to a lessee with the following information:

Cost of equipment to Sophie 5,250,000

Residual value – unguaranteed 600,000
Useful life and lease term 8 years
Implicit interest rate 12%
Present value of an annuity due at 12% for 8 periods 5.564
Present value of 1 at 12% for 8 periods .404

1. What is the annual rent payable in advance?

a. 900,000
b. 850,000
c. 1,000,000
d. 1,200,000

2. What is the total financial revenue from the direct financing lease transaction?
a. 2,550,000
b. 1,550,000
c. 1,950,000
d. 1,200,000

4. Louise Company leased equipment from Robert Company on July 1, 2021, for an
eight-year period expiring June 30, 2029. Equal annual payments under the lease are
P800,000 and are due on July 1 of each year. The first payment was made on July 1,
2021. The rate of interest contemplated by Louise and Robert is 8%. The cash-selling
price of the equipment is P4,965,000 and the cost of the equipment on Robert's
accounting records was P4,200,000. The lease is appropriately recorded as a sale for
accounting purposes by Robert.

1. What is the amount of profit on the sale and the interest income that Robert would
record for the year ended December 31, 2021?
a. 765,000 and 0
b. 382,500 and 166,600
c. 765,000 and 166,600
d. 765,000 and 333,200

2. What is the carrying amount of the lease receivable on December 31, 2021?
a. 4,165,000
b. 5,600,000
c. 4,331,600
d. 4,562,200
end

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