MODULE 5:LEASE ACCOUNTING

5.7
sale priceisi belowfair
inmediately exceptthat, value:
if the loss any profit or loss
below market price, it is should be recognised
compensated
by future
at should be deferred and amortised inlease payments
the.lease payments over the period for
fthe
sale nrice is
above fair
which the asset is proportion
expected to be
to
used.
deferredand amortised over thevalue: the excess over fair value
beused. period for which the asset is should be
expected to
PAST EXAMINATION QUESTIONS
OBJECTIVE QUESTIONS
lease which is generally not Q3. Operating lease is a
ancelable and cover full economic
eof the asset is known as: (a) Revocable Contract
ia) Sale and lease back (b) Non-Revocable Contract
) Operating lease (c) Operating Contract
) Finance lease (d) None of the above
d Economic lease [June2024, 2 Marks]
[July 2023, 1 Mark] Ans. (a) Revocable Contract
Ans. (c) Finance lease TAXMANN®.
account is credited
hen lessor receive an
amount.
[July 2023, 1 Mark]
Ans. Lessee Account

THEORY QUESTIONS
0L. State the ypes of leases to which AS- 19
are notapplicable.
1June 2014, 2 Marks, July 2023, 3 Marksl
Ans. The
Leases:LeaseAccounting to explore natural resources such as oil, gas, timber, metal
)
Standard AS-19 is not applicable to the following types

agreement
and other
material rights;
i)
LLi
scripcetsns
, ing agreements for motion picture, film, video recording, plays, manu-
patents and other rights;
Lease agreemnent to use land.
Write about nce and operatinglease. Dec. 2017 7 Marks
FintoItance
is a Lease:
lease, whhich transfers substantially all the risks and rewards incidental
In owner
fol owinshgip
of, an asset to the lessee bythe lessor but not the legal ownership.
situations the lease transactions are called finance lease.
 ACCOUNTING
MODULE5: LEASE
5.8
end of the
leased asset at the ease
term term.
the ownership of of
lease will get at the end
(ii) The leasedatasset
the value the date on which optionat will
which is lower than
(iiil) The lessee has an option to buyfair
its expected pricebe
exercised.
major part of the lifeof asset.
coversthe minimumlease rental
(V) The lease term term, present value of COvers
beginning oflease asset.
(V) Atthe value of the leased
substantially the initial fair specialized nature and can only be used
to lessee is of
onlease
(vi) The asset given major modification.
by the lessee without which does not transfer substantially. all the risk and
Operating Lease: It is alease Classification of lease is made at the inception of
incidental to ownership. change the provision of
reward lesser agree to
time the lessee and separate agreen
the lease; if at any
category of lease, itwill be treated as
different
and it results in
NUMERICAL PROBLEMS
Limited
aMachinery on Lease lrom Krishna
taken
01. Kovid Limited has provided by Kovid Limited:
NAXMANNO.
The .
following information are
5 years
Lease Term
Lease 20 Lakhs
Fair value at inception of payable at the
75 Lakhs per annum
Lease Rent end of the year
Expected Residual value T3 Lakhs
Guaranteed Residual value R2 Lakhs
155%o per a
Implicit Interest rate Account
prepare Lease Rent Accouint and Lease Liability
You are requiredto The present value Re. lat Discount rate
in the Books of Kovid Limited. year
0.8658, 0.,7496, 0.6490, 0.5619 and 0.4865 for year 1toMarks
of 15.5% are Dec. 2014,8
respectively.)
Ans.
Calculation of Present value of MLP
Present Value ()
Year MLP (
15.5%
4,32,900
5,00,000 0.8658
1 3,74,800
5,00,000 0.7496
2 3,24,500
5,00,000 0.6490
3 2,80,950
5,00,000 0.5619
4 3,40,550
7,00,000 0.4865
17,53,700
 MODULE 5:LEASE ACCOUNTING 5.9

Value of MLP ?17,53,700 is less than fair value at the inception of lease
Present
20,00,000, So the leased asset and liability should be: recognized at 17,53,700.
Apportionment of finance lease:

Liability () MLP() Finance Principal

Year Amount of
Charge reduction ()
17,53,700
5,00,000 2,71,824 2,28,176
1 15,25,524
2,36,456 2,63,544
2 12,61,980 5,00,000
5,00,000 1,95,607 3,04,393
9,57,587
1,48,426 3,51,574
4 6,06,013 5,00,000
93,987 6,06,013
5
7,00,000
Books of Kovid Ltd.
Lease Rent Account
Particulars Amount
Vea Particulars Amount Year
)
1 By Finance Charge 2,71,824
1 To Bank Alc 5,00,000 TAXMANN.
Alc
ByLeaseLiability A/c 2,28,176
5,00,000
5,00,000
By Finance Charge 2,36,456
5,00,000 2
2 To Bank A/c
Alc
By Lease Liability 2,63,544
Alc
5,00,000
5,00,000
By Finance Charge 1,95,607
3 To Bank A/c 5,00,000 3
Alc
ByLease Liability Alc 3,04,393
5,00,000
5,00,000
To Bank Alc 5,00,000 4 By Finance Charge 1,48,426
4
Alc
ByLease Liability Alc 3,51,574
5,00,000 5,00,000
To Bank Alc 7,00,000 5 By Finance Charge 93,987
5
Alc
ByLease Liability Alc 6,06,013
7,00,000 7,00,000
 5.10
MODULE 5: LEASE ACCOUNTING

Lease Liability Account

Particulars Amount ear
Year
Particulars
1
1 To Lease Rent A/c 2,28,176 ByMachinery Alc
To Balance cld 15,25,524
17,53,700 17537%
2 To Lease Rent A/c 2,63,544 By Balance b/d 11 53,7%
To Balance c/d 12,61,980
15,25,524
1525324
3 To Lease Rent A/c 3,04,393 By Balance b/d 15,25 324
To Balance cld 9,57,987 12,61980
12,61,980
4 To Lease Rent Ac 3,51,574 4 By Balance b/d 12,61,980
To Balance cld 6,06,013 9,5798
9,57,987
TAXMANNO
5 To Lease Rent Alc 6,06,013 5 By Balance b/d
9,57,981
6,06,013
6,06,013 6,06,013
Q2. LLId. has leased a machine to TLud. On the folowing terms:
Lease Tesm 5 years
Fair Value at the inception of lease 72,00,000
Lease Rent 12,00,000 p.a. at theend ofthe year
Guaranteed Residual Value 2,4O,000
Expected Residual Value450,000
Implicit erest Rate 159e
Work out Unearned Finance Income. (Discount factors r 1-0.866,
20.7S61.3 0.6575and Yr 4 0.5718 Ir 6 0.4972).
From the above calculate:
) Grossinvestnent in thelease 6Marks
II Unearmed Finance Income, une 2015. Dec. 2021, Þ
88:8:88::8

Ans. Net Investment in lease = Gross Investment.- Unearned Finance Income

Residualale
Gross Investment = MLP +Guaranteed Residual Value + Unguaranteed F
=60,00,000 +2,40,000 +2,10,000
=64,50,000. Investmel
Unearmed finance Income = Gross Investment - Present Value of Gross.
Vahe
Value of MLP Bresent
1043,50)
1
12,00,000 0.8696 907330

12,00,000 0.7561
Z89000

3
12,00,000 0.6575
 MODULE 5: LEASE ACCOUNTING 5.11

Value of MLP PVIF Present Value

lear
12,00,000 0.5718 6,86, 160
16,50,000 0.4972 8,20,380
42,46,380
Financeincome = 64,50,000 - 42,46,380 = 22,03,620.
/Td
Cassify the following into either Operating or Financial Lease (brietly
Orreasoning):
Lesseehas option to
purchase the asset at lower than fair value, at the
1. tern, It is certain that the lessee will exercise the option.
end of lease asset is
Economic Hfe of the asset is 7 years, lease term is 6 years, but
: acquired at the end of lease term.
not but the assets
.roonomic life of the asset is 6 years, leaseterm is 2 years,of the lessee.
onlyfor use
saf special nature and has been procured
= X. Fair value of the asset =
Present value o minimmlease payment [Dec. 2015, 8 Marks]

it becomes certain ai the inception of lease itself that the

Finance lease if thar
at a price which is lowerAXMANNO
option will be exercised by the lessee that also
is expected fair value.
the life of the asset is covered by
Finance lease, sincea substantial portion of
ease term.
only for the use of lessee.
Finance lease since the asset is procured mini
lease since at the beginning of the lease term, present value of asset.
Tihance the initial fair value of the leased
nlease rental covers substantially Y is initial fair value.
here Xis minimum lease rental and
from POR Ltd. The following
Manoj taken the assets on lease
Ltd. has
omation is given as under:
eTerm 4years 16,00,000
Value at
se Rent
the inception
5,00,000
of lease =
p.a. at the end of the year

Tant eed Residual Value 1,00,000

ected Residual Value = 2,00,000
Interest Rate =15% (Discount factors Yr. 1 0.8696, 2
out Finance Incomne. [Dec. 2015, 4 Marks)
Unearned
61,LeSOr3-0shoul.6575dand Yr. 4 0.5718).
Tecognise asset given under lease of netinvestment in
Unearned Finance Income
lease.

hvhevstemstemntent
in lease= Gross Investment
=- MLP. +Guaranteed
1,00,000 +71,00,000
-
Residual Value + Unguaranteed Residual Value
 5.12 MODULE 5: LEASE ACCOUNTING

Unearned finance Income = Gross Investment - Present Value of Gross

Year Value of MLP Investm
Present Value
1 5,00,000 0.8696
2 5,00,000
5,00,000
0.7561
0.6575
4,3,738,4,08500
4 7,00,000 0.5718 3,28,75
4,00,2
Unearned Finance income = 22,00,000 15,41,850 = 6,58,140. 15,41,860
Q5. X Ltd. has leased equipment over its useful life that costs 7,46,55,1
for a three year lease period. After the lease termthe asset would rever
the Lessor You are informed that:
(i) The estimated unguaranteed residual value would be 1 lakh onlv
(iü) The annual lease payments have been structured in such away that
sum of their present values together with that of the residual value
the asset will equal the cost thereof.
(üi) Implicit interest rate is 10%.
You 27e 1qureato ascertain the annual lease payment and the unearm
NNVWXV finance income. P. V. factor @10% for years 1 to 3 are 0.909, 0.826 and 0.1
respectively. June 2016, 6 Mar
Ans. Calculation of AnnualLease Payment:
Cost of the equipment 77,46,55,100
Unguaranteed Residual Value R1,00,000
PV of unguaranteed residual value ( 1,00,000 × 0.751) 775,100
Fair value to be recovered from Lease Payment ( 7,46,55,100 77,45,80,000
775,100)
PVfactor for 3years @ 10% 2.486
Annual Lease Payment ( 7,45,80,000/PV Factor for 3 years @ 3,00,00,00
10% i.e. 2.486)
Calculation of Unearned Finance Income:
Total lease payments [ 3,00,00,000x 3] 9,00,00,000
Add: Residual value 1,00,000
Gross Investments 9,01,00,000
Less: Present value of Investments ( 7,45,80,000 +775,100) (7,46,55,100
Unearned Finance Income 1,54,44,900

06. M Ltd, sold machinery having WDV. of 200 Lakhs to NLtd. for
Lakhs and the same machinery was leassed back by N Ltd. to M Ltd.
lease back is an operating lease. Comment on the accounting treatmen
ner AS 19 in the following circumstances:
 MODULE 5: LEASE ACCOUNTING 5.13

Fair value is 230 Lakhs and sale price is 25O Lakhs

Fatr valueis 175 Lakhs and sale price is 195 Lakhs
[June 2017, 4 Marks]
ns. Herethe leaseback is an operating Jease.
thetreatment of the given circumstances will be as follows:
Here, sale price > Fair value, so, profit of (230 - 200) = 30
imediately recognized by M Ltd. in its books and balance profitLakhs is to be
of (250 -
230) i.e. 20 Lakhs is to be amortized over the lease
Here. sale price > Fair value, so, loss of (200 -
period.
175) = 25 Lakhs is to be
immediately recognized by M Ltd. in its books and balance profit of ? (195
175) ie. 20 Lakhs is to be amortized over the
lease period.
MAIId. has taken the assets on
lease from X Ltd. The following informa
tion is given below:
Lease Term =3years
Fair Value at the inception of lease
=14,00,000
Lease Rent,- 6,00,000 p.a. at the end of the
year
Guaranteed Residual Value =44,000
Implicit Interest Rate = 15%
Calculate the value of the asset to be
(finance charges) in each year. considered by ALtd. and the interest
TAXMANN®
Discount factors Yr. 1-0.869, 2
-0.756,3- 0.657 [June 2019, 4 Marks]
ns. Calculation of Present value of
Minimum Lease Payments
Year Value of MLP PVIF
1
6,00,000
Present Value
0.869
2
6,00,000 5,21,400
0.756.
6,44,000 4,53,600
0.657
4,23,108
-alue of the asset value at the inception of lease 13,98,108
will be thelower of fair
alue of MLP plüs residual value. Therefore, the value of Ethe and
asset will be present
Calculation for Interest (Finance Charge) 13,98,108
Year Balance Due Interest @ 15o
(3) Repay
ment of Closing Bal
ance )
1
Principal
)
13,98,108 2,09,716
3,90,284
3
10,07,824 1,51,174 4,48,826 10,07,824
5,58,998 85,002 5,58,998 5,58,998
(Balancing Figure)
5.14 MODULE 5: LEASE ACCOUNTING

Q8. Lease Ltd. has initiated alease for four years in respect of a
ing 20,00,000 with expected usefu life of 5 years. The asset
to the company under the lease agreement. The other wouldvehicle
in respect of lease agreement is: information avarelvenabe
(a) The unguaranteed residual value of the equipment after the
the lease term is estimated at 2,50,000.
(b) The implicit rate of interest is 10%.
expiry o
(e) The annual payments have been determined in such a
way
present value of the lease paynment plus the residual value is that thety
the cost of asset. equal
Ascertain in the hand of Lease Ltd.
() The annual lease payment.
() The unearned finance income.
Note:(a) PV of residual value for 4th year @
10%is 0.683.
(b) PV factor for 4 years @10%is 3.16987. [Dec. 2023, 7Marksi
Ans.
Let the annual Lease payment be X
Therefore, present value of annual lease payment = 3.16987X
Present Value of residual value 2,50,000 x 0.683 =1,70,750
Therefore, 3.16987X + 1,70,750 = 20,00,000.
X=75,77,074.
(I) Annual Lease Payment =5,77,074
(II) Unearned Finance Income = Gross Investment in lease - Net investment in es
Gross Investment nlease = MLP + Unguaranteed Residual Value
= (5,77,074 x 4) + 2,50,000 =25,58,296
Net Investment in lease = 20,00,000
Unearned finance income = 25,58,296 -20,00,000 = 5,58,296.