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The document outlines the classifications and key concepts of finance leases, specifically distinguishing between direct financing leases and sales-type leases. It explains the treatment of gross investment, net investment, unearned interest income, and initial direct costs in both lease types, as well as the computation of annual rental and the recognition of interest income. Additionally, it discusses the treatment of residual value and purchase options in sales-type leases.

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Beny Miraflor
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5 views3 pages

Assignment

The document outlines the classifications and key concepts of finance leases, specifically distinguishing between direct financing leases and sales-type leases. It explains the treatment of gross investment, net investment, unearned interest income, and initial direct costs in both lease types, as well as the computation of annual rental and the recognition of interest income. Additionally, it discusses the treatment of residual value and purchase options in sales-type leases.

Uploaded by

Beny Miraflor
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd
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1.) What are the two classifications of finance lease on the part of the lessor?

Direct Finance Lease and Sales-Type Lease

2.) Explain a direct financing lease.

The lessor is engaging in the financing business which is an arrangement between a financing entity and
a lessee that no dealer profit is recognized because of the fair value and the cost of the asset are equal.

3.) Distinguish direct financing lease from sales type lease.

The primary difference is the recognition of a manufacturer or dealer profit. The sales-type lease
recognizes a manufacturer dealer profit while the direct financing lease does not.

4.) Explain the following in a direct financing lease:

Gross investment -

This is equal to the gross rentals for the entire lease term plus the absolute amount of the residual value
whether guaranteed or unguaranteed.

Net investment -This is the equal to the cost of the asset plus any initial direct cost paid by the lessor.

Unearned interest income - This is the difference between the gross investment and net investment in
the lease.

5.) Explain the treatment of initial direct cost paid by the lessor in a direct financing.

lease - The direct cost paid by the lessor in a direct financing lease is an addition to the cost of the asset
to get the net investment in the lease that would effectively spread the initial direct cost over the lease
term and reduce the amount of the interest revenue.

6.) Explain the formula in computing annual rental.

The annual rental amount can be determined by dividing the net investment in the lease (the amount
you expect to recover through rentals) by the present value factor of an annuity of 1 for the given
number of periods, considering a specified rate of return.

7.) Explain why the residual value is ignored in the computation of annual rental in the underlying
asset shall transfer to the lessee at the end of the lease term.
If the lease agreement includes a transfer of title to the lessee or a purchase option, the calculation of
annual rental expenses does not consider the residual value, even if the asset will not return to the
lessor at the end of the lease term.

8.) What is the method in recognizing interest income in a direct financing lease?

According to IFRS 16, a lessor must acknowledge finance income throughout the lease term in a way that
represents a consistent periodic rate of return on the lessor's net investment in the lease. Therefore, the
effective interest method is applied for the recognition of interest income.

9.) Explain the “trial and error” or interpolation approach of determining the implicit interest rate if an
initial direct cost is paid by the lessor in a direct financing lease.

The "trial and error" or interpolation approach is a method that calculates the present value of gross
rentals required to make the net investment in lease payments equal, using a specific interest rate.

10.) Explain the presentation of the lease receivable in the statement of financial position.

The lessor is required to include assets held under a finance lease on its balance sheet and represent
them as a receivable valued at the net investment in the lease as of the lease's commencement date.
1.) Explain a sales type lease.

In a sales type lease the lessor is a manufacturer or dealer that utilizes the lease as a medium of
facilitating the sales. Sales type lease involves the recognition of a

manufacturer or dealer profit on the transfer of the economic resource to the lessee in addition to the
revenue.

2.) Explain the following in a sales type lease:

a. Gross investment- Equal to the gross rentals for the entire lease term plus the absolute amount of
residual value, guaranteed or unguaranteed.

b. Net investment - Equal to the present value of the gross rentals plus the present value of residual
value, guaranteed or unguaranteed.

c. Unearned interest income- Difference between gross investment and net investment in the lease.

d. Sales - Equal to the net investment in the lease or fair value of the asset, whichever is

lower.

e. Cost of goods sold - Equal to the cost of the asset sold minus the present value of unguaranteed
residual value plus the initial direct cost paid by the lessor.

d. Gross income - Conventional formula of sales minus cost of goods sold.

3.) Explain the treatment of initial direct cost paid by the lessor in a sales type lease.

In a sales lease with guaranteed residual value the initial direct cost is directly charged to the cost of
goods sold.

4.) Explain the treatment of residual value in a sales type lease.

Under the residual value guarantee the present value of the residual value is included in the sales
revenue while in unguaranteed residual value the present value is not included in the sales revenue.

5.) Explain the treatment of purchase option in a sales type lease.

Purchase Option is Included in the lease receivable in a sales type lease.

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