Finance lease: initial recognition and measurement

Learning objectives

• Calculate the net investment in the lease (the present value, at the interest rate implicit in the lease, of the lease payments receivable and the unguaranteed residual value, initial direct costs included) and recognise the receivable.L2, L3
• Calculate, for a manufacturer or dealer lessor, revenue (the lower of fair value and the present value at a market rate), cost of sale and selling profit or loss, the costs of obtaining the lease being recognised as an expense.L3, L4

Normative references

• IFRS 16 §67At the commencement date, the lessor recognises assets held under a finance lease and presents them as a receivable at an amount equal to the net investment in the lease.
• IFRS 16 §68The lessor measures the net investment using the interest rate implicit in the lease. For a sublease whose implicit rate cannot be readily determined, the intermediate lessor may use the discount rate used for the head lease, adjusted for any initial direct costs associated with the sublease.
• IFRS 16 §69Initial direct costs, other than those incurred by manufacturer or dealer lessors, are included in the initial measurement of the net investment and reduce the amount of income recognised over the lease term. The interest rate implicit in the lease is defined in such a way that those costs are included automatically, without adding them separately.
• IFRS 16 §70The payments included are those not received at the commencement date: fixed payments (including in-substance fixed payments) less any lease incentives payable; variable lease payments that depend on an index or a rate, measured using the index or rate at the commencement date; residual value guarantees provided to the lessor by the lessee, a party related to the lessee or a third party unrelated to the lessor that is financially capable of discharging the guarantee; the exercise price of a purchase option that is reasonably certain to be exercised; termination penalties if the lease term reflects the exercise of a termination option.
• IFRS 16 §71At the commencement date, a manufacturer or dealer lessor recognises: revenue equal to the fair value of the underlying asset or, if lower, the present value of the lease payments discounted at a market rate of interest; cost of sale equal to the cost (or carrying amount) of the asset less the present value of the unguaranteed residual value; and selling profit or loss in accordance with its policy for outright sales to which IFRS 15 applies. This profit or loss is recognised at the commencement date, whether or not the asset is transferred as described in IFRS 15.
• IFRS 16 §72Manufacturers or dealers often offer customers the choice of buying or leasing an asset; a finance lease gives rise for them to profit or loss equivalent to that of an outright sale at normal selling prices, reflecting any applicable discounts, and to finance income over the lease term.
• IFRS 16 §73When a manufacturer or dealer quotes an artificially low rate of interest, the selling profit recognised at the commencement date is restricted to that which would apply if a market rate of interest were charged.
• IFRS 16 §74Costs incurred by a manufacturer or dealer lessor in connection with obtaining a finance lease are recognised as an expense at the commencement date, because they are mainly related to earning the selling profit. They are excluded from initial direct costs and therefore from the net investment.

Original summaries of the paragraphs (reference register), never a quotation of the standard.

19 questions

• The lessor Finaxa has entered into a finance lease. At what amount does it present its receivable at the commencement date, and what does the difference between the gross investment and the net investment in the lease represent?L2
• Lumeria, a lessor, makes available a server rack with a fair value of {fair_value} at the inception date. The lease provides for {number_of_payments} annual payments of {annual_payment}, in advance, the first one at the commencement date. The lessee guarantees to the lessor a residual value of {guaranteed_residual} at the end of the fourth year. The discount rate used for the classification analysis is {discount_rate} (case datum). Compute the present value of the lease payments at the inception date, rounded to the nearest euro.L3
• Cadrix, a lessor with no manufacturing activity, makes a machine available under a lease classified as a finance lease. What does it recognise at the commencement date?L2
• The lessor Ostrea determines the lease payments to include in measuring its net investment at the commencement date. Which items, not yet received, are to be included?L2
• The lessor Sorelia enters into a finance lease of an agricultural tractor. The lessee pays {number_of_payments} annual payments of {annual_payment}, in arrears. At the end of the lease, the tractor returns to Sorelia, which expects an unguaranteed residual value of {unguaranteed_residual}. The interest rate implicit in the lease is {implicit_rate}. Compute the net investment in the lease at the commencement date, rounded to the nearest euro.L2
• Halvane, a lessor, leases a medical scanner to a clinic under a finance lease. The lease provides for {number_of_payments} annual payments of {annual_payment}, in advance; the first one is received at the commencement date. At the end of the lease, the expected residual value of 42,000 is split into a portion guaranteed by the clinic of {guaranteed_residual} and an unguaranteed portion of {unguaranteed_residual}. The interest rate implicit in the lease is {implicit_rate}. Compute the net investment at the commencement date, after receipt of the first payment, rounded to the nearest euro.L3
• The lessor Cerizay leases a packaging line with a fair value of {fair_value}. To conclude the lease, it incurred initial direct costs of {initial_direct_costs} (negotiation and drafting fees). The lessee pays {number_of_payments} annual payments of {annual_payment}, in arrears, and Cerizay expects an unguaranteed residual value of {unguaranteed_residual}. The interest rate implicit in the lease, which takes the initial direct costs into account, is {implicit_rate}. Compute the net investment at the commencement date, rounded to the nearest euro.L3
• An equipment finance company, Velaris, makes available to a laboratory a spectrometer whose fair value is {fair_value}. The broker commissions and legal fees directly related to concluding the lease amount to {initial_direct_costs}. The laboratory pays {annual_payment} at the end of each of the {number_of_payments} years of the lease; Velaris will then recover the device, whose unguaranteed residual value is estimated at {unguaranteed_residual}. The implicit rate, which includes these initial direct costs, is {implicit_rate}. What amount of net investment does Velaris recognise at the commencement date (rounded to the euro)?L3
• Finorama, a lessor that is not a manufacturer, acquired a bottling line, carried on its balance sheet at a carrying amount of {carrying_amount}, equal to its fair value. At the commencement date of a finance lease of this line, Finorama pays in cash initial direct costs of {initial_direct_costs}. The present value at the implicit rate of the lease payments and the unguaranteed residual value is {net_investment}. Record Finorama's entry at the commencement date.L3
• The lessor Rivaldi, which is neither a manufacturer nor a dealer, leases a generator whose carrying amount, equal to its fair value, is {carrying_amount}. The lessee will make {number_of_payments} annual payments of {annual_payment}, in arrears, and has a purchase option of {option_price} at the end of the third year, whose exercise is reasonably certain. There are no initial direct costs and no unguaranteed residual value. The implicit interest rate is {implicit_rate}. Compute the net investment and record Rivaldi's entry at the commencement date.L3
• Novalis, lessee of an office floor, subleases part of it under a sublease classified as a finance lease. The interest rate implicit in the sublease cannot be readily determined. Which solution does IFRS 16 expressly provide for measuring Novalis's net investment?L3
• The machine-tool manufacturer Korvo offers its customers a choice between buying and leasing. It enters into a finance lease of a machining centre held in its inventory at a cost of {cost}, whose normal cash selling price, equal to its fair value, is {cash_price}. The customer makes {number_of_payments} annual payments of {annual_payment}, in arrears; Korvo expects an unguaranteed residual value of {unguaranteed_residual}. The market rate, which is also the rate in the lease, is {market_rate}. Compute, rounding each present value to the euro, the revenue, the cost of sales and the selling profit at the commencement date.L3
• The car dealer Velquin launches a promotional finance lease offer at an advertised rate of {promotional_rate}, artificially low, whereas the market rate for this type of customer is {market_rate}. A van, bought for {cost} and sold for cash at {cash_price} (fair value), is leased for {number_of_payments} annual payments of {annual_payment}, in arrears; ownership transfers to the customer at the end of the lease, with no residual value for Velquin. Compute the revenue and the selling profit to recognise at the commencement date, rounded to the euro.L4
• The automated truck manufacturer Mirandel leases a truck, held in inventory at a cost of {cost} and whose normal cash selling price (fair value) is {cash_price}, under a finance lease. The customer makes {number_of_payments} annual payments of {annual_payment}, in arrears; Mirandel expects an unguaranteed residual value of {unguaranteed_residual}. The market rate, equal to the rate in the lease, is {market_rate}. Mirandel also paid its salesperson a commission of {commission} to obtain the lease; this commission is already recognised separately. Round each present value to the euro and record the sale entry at the commencement date.L4
• The industrial printer manufacturer Ventaris enters into a finance lease with a customer. To obtain this lease, it incurred 3,000 of sales commissions and legal fees. Legal title to the printer will pass to the customer only at the end of the lease. The management accountant proposes to include this 3,000 in the net investment as initial direct costs and to defer the selling profit until title passes. Which position complies with IFRS 16?L4
• After the commencement date of a finance lease, which statements about the lessor's accounting are correct? (several answers)L2
• True or false? At the commencement date of a finance lease, the lessor presents assets held under that lease as a receivable at an amount equal to its net investment in the lease.L2
• Dorlane, a lessor, leases a harbour crane under an operating lease and several straddle carriers under finance leases. Which presentation in Dorlane's statement of financial position is correct?L2
• True or false? The lessor under a finance lease continues to present the underlying asset within its property, plant and equipment and adds a receivable for the lease payments receivable.L2