IAS 17 provides guidance on accounting for leases. It distinguishes between finance and operating leases based on whether substantially all risks and rewards of ownership are transferred. Lessees account for finance leases by recognizing the asset and liability at fair value, while operating leases are expensed. Lessors recognize finance leases as a receivable and operating leases as ongoing income. Both are subject to extensive disclosure requirements regarding lease terms, commitments, and accounting policies.

1. IAS 17 LEASES

2. OBJECTIVE

3. SCOPE DO NOT APPLY AS BASIS OF MEASUREMENT FOR: DO NOT APPLY IAS17 TO:

4. DEFINITIONS Types of Leases

5. Definitions Lease Terms

6. Definitions Lease Value

7. Definitions Residual Value

8. Definitions Other Interest rate implicit in the lease: PV of Minimum lease payment + unguaranteed residual value = fair value of asset + initial direct costs of lessor or COST of asset x implicit interest rate x period of lease = income from lease to the lessor Gross investment in the lease: minimum lease payments receivable + unguaranteed residual value accruing to lessor (Income to lessor or total cost to lessee) Net investment in the lease: gross investment discounted at interest rate implicit in the lease (NPV of the lease, likely to be the same as the fair value of the asset) Unearned finance income: gross investment – net investment

9. Definitions Other Lessee’s incremental borrowing rate of interest: interest rate of comparable loan with same initial advance and terms of repayment Initial direct costs: directly attributable to negotiating and arranging the lease, except for manufacturers or dealers of leased assets Contingent rent: lease payments linked to variable factors e.g. % of sales I.e. not fixed amounts

10. CLASSIFICATION OF LEASES

11. EXAMPLE The same lease can have different classification in books of lessor and lessee

12. SUBSTANCE OVER FORM Finance Lease Operating lease Transfer ownership of asset at end of lease Option to buy asset < Market Value at end of lease Lease term = majority of economic life of asset PV of minimum lease payments = FV of asset Specialised asset (not transferrable) Continuation clause @ < Market Value Transfer of ownership requires payment @ Market Value at end of lease Contingent rent leaves risks and rewards with lessor Losses on cancellation borne by lessor FV movement in residual value retained by lessor

13. CLASSIFICATION OF LEASES Changes in Lease Terms If terms change during lease, treat as new agreement and reassess classification as operating or finance lease for the rest of the lease term No reclassification for Changes in estimates Changes in circumstances

14. Classification of leases Land and Buildings

15. Classification of leases Minimum Lease Payments Allocate minimum lease payments to Fair Value of separate land and buildings at inception of the lease If allocation not reliable, treat entire lease as either operating or finance If land immaterial, use only economic life of building

16. Classification of leases Investment Property IAS 40 Separate allocation of minimum lease payments to FV of land and buildings not required for Investment Property Operating lease can be classified as investment property (IAS 40) Carry asset at Fair Value Calculate interest based on classification as finance lease Continue to treat as finance lease if asset no longer classified as investment property (e.g. if asset taken over or sublet)

17. Leases in the FS of Lessees Finance Leases: Initial recognition To ensure that obligations are not understated distorting financial ratios: State asset and liability at Fair Value in Balance Sheet FV = lower of FV of leased asset Present Value of minimum lease payments At inception of the lease Discount rate of PV = Interest rate implicit in the lease If not practicable, incremental borrowing rate Increase Asset cost with initial direct costs of the lessee Costs to negotiate and secure the lease Split current and non-current liabilities on the face of the balance sheet

18. LEASES IN THE FS OF LESEESFINANCE LEASES Subsequent Measurement Disclosures Lease payments reduce remaining liability Allocate lease payments to finance charge and outstanding liability Expense finance charge May use approximations Expense contingent rent as incurred Depreciation charge on same basis as owned assets Depreciate over shorter of Lease Term and UEL of asset As depreciation not = finance charge, liability not = asset Apply IAS 36 Impairment to leased assets IFRS 7 Financial Instruments IAS 16, IAS 36, IAS 38, IAS 40, IAS 41 Asset carrying amount at BS date Reconciliation of total minimum lease payments in future and their PV Contingent rent expense Minimum non-cancellable sublease payments receivable Terms Contingent rent Purchase & renewal options Escalation clauses Restrictions Total future minimum lease payments and PV for < 1 year 2 – 5 years > 5 years

19. FINANCIAL STATEMENTS OF LESSees Operating Lease

20. FS of Lessee’s Operating Lease: Disclosures

21. Leases in fs of lessors Finance Lease: Initial recognition

22. LEASES IN FS OF LESSORSFinance Leases: Subsequent measurement Finance Income Constant periodic rate of return on net investment in lease Systematic and rational basis Constant return on investment Lease Payments Reduce gross investment by principal and unearned future income Review unguaranteed residual values used to calculate gross investment regularly Revise income allocation over lease term Recognise reduction in amounts accrued immediately Classify asset as held for sale (IFRS 5)

23. LEASES IN FS OF LESSORSFinance Leases: Subsequent measurement Manufacturere & Dealer Lessors: Recognise selling profit/loss in period of inception of lease Use policy for normal sales Restrict profit to that achievable under market rate of interest Expense negotiation & arrangement costs when selling profit recognised

24. LEASES IN FS OF LESSORSFINANCE LEASE: LESSOR INCOME Sale proceeds less discounts Finance income

25. LEASES IN FS OF LESSORSFINANCE LEASE: LESSOR INCOME Sale proceeds less discounts Finance income Sale proceeds are lower of: Present Value of minimum lease payments @ market rate of interest Fair value of leased asset Cost of sales Cost of leased asset Present value of unguaranteed residual value Sale – COS = selling profit Recognise as outright sale Artificially low rates sometimes used to attract customers Results in excessive profits at time of sale Standard requires use of market rate to calculate profit Arrangement costs relate to selling profit and are recognised at the time of sale

26. LEASES IN FS OF LESSORSFINANCE LEASE: Disclosures IFRS 7 Reconciliation between gross investment in lease and PV of minimum lease payments receivable at the balance sheet date Gross investment in lease and present value of minimum payments <1 year 2-5 years > 5 years Unearned finance income Unguaranteed residual values accrued to lessor Allowance for uncollectible minimum lease payments receivable Contingent rent income Material leasing arrangements Useful disclosures Gross investment – unearned income of new business in period – cancelled leases Indicates growth

27. LEASES IN FS OF LESSORSOperating leases

28. Operating leases in FS of Lessors: Disclosures Non-cancellable minimum lease payments < 1year 2-5 years > 5 years Contingent rent income in the year Lease arrangements IAS 16 IAS 36 IAS 38 IAS 40 IAS 41

29. Sale and leaseback: Sell asset and lease it back to raise finance Finance Lease Operating lease Sale proceeds – CA = deferred income Amortise over lease term Finance secured over asset If at Fair Value Recognise profit immediately Treat as normal sale If < Fair Value If lease payments < MV compensate loss, defer and amortise over UEL If lease payments @ MV, recognise profit/loss immediately If > Fair Value Excess deferred and amortised over UEL If Fair Value < carrying amount of asset, recognise loss immediately Normal disclosures + special terms IAS 1 separate disclosures

30. IAS 17 Transitional Provisions

31. SUMMARY Accounting treatment differs for lessors and lessees Classification as finance/operating lease depends on transfer of risks and rewards of ownership Classify economic substance over legal form of agreement Land classified separately from buildings as UEL infinite

32. SUMMARY Lessees expense payments under operating leases as they become payable Lessees show finance leases as assets and liabilities @ fair value Spread finance charges over lease term Spread depreciation over UEL of asset

33. SUMMARY Lessors show operating leases as assets Spread income over lease term Lessors show finance lease as net investment receivable Spread finance income at constant rate of return Recognise selling profit as a normal sale Sale and leaseback treated in relation to market value of the asset sold and leased back