The Leasing Technique - Essay Example

Position Paper Introduction Leasing is considered as one of the main activity of the companies or the organizations. Theexisting standards do not reflect the majority of leases on the balance sheet of the lessee. Both IFRS and US GAAP require the party for bearing the reward and the risks of ownership of the leased property for recognizing the lease asset. The standards faces problem in determining whether a lease is operating or capital. The IASB and FASB have developed standard on leases. The problem associated with the existing standard is the lease requirement that relates to the operating lease included in the financial statement of lessee. The existing lease accounting model is inconsistent in nature. Leasing is regarded as the most preferred financing option for the entities or the organizations. The leasing technique adopted in accordance with the existing technique in the past has caused various problems and differences in presentation of the financial statement of the entity. Therefore in order to overcome the limitations of the accounting standard in relation to the leasing, new proposed International Accounting Standard is formulated or introduced. According to the International Accounting Standard 17lease will not distinguish between the operating and the financial leases. Discussion The limitations or the challenges faced by the company in applying the accounting standard as per the International Accounting Standard and the FASB affected large number of companies or the industries entering into the lease agreement. In response to the criticism faced by the organization or entity for recognizing the operating and financial lease on the balance sheet of the concerned organization or entity, the standards are revised. The existing standard failed to meet the needs and requirement of the users of the financial statement. It fails to provide a faithful representation of the financial and operating leasing transactions. In order to overcome and face the criticisms the Standards in 2006 initiated a joint project for improvement and development of the financial reporting on the leasing activities of the organization under the International Accounting Standard Board and the US GAAP (Walton, 2011). The boards have decided to improve the approach for recognizing the asset and liabilities and the obligations created by the lease activities of the entity. The main objective of improvement or introducing revised accounting standard is that the company must be able to recognize the asset and liabilities arising from a lease. This initiative will provide an improvement over the existing lease requirements. The lessee is required to identify and recognize the asset and liabilities for leases with maximum period of more than 12 months. The lessee is engaged in recognizing the liability for making the lease payments and acquiring the right for using the asset for definite lease term. It is significant for the users of financial statement to understand the lease obligations of both lessee and lessor. The objective of the new standard is to provide better understanding of the debt financing that is associated to leases. The standard is introduced to ensure that the leases are reflected on the balance sheet and cash flow statement of the organization. The new lessee accounting should reflect the right to use the asset in the balance sheet and the liability for making the lease payment and the income statement reflects the lease expense and interest expense. The stakeholders informed the board that there are various lease transaction with different economic. In order to reflect the better economic, the standards are revised and developed fulfilling the needs and requirements of the financial statement users. The lease project is the combine effort or attempt between IASB and FASB. The differences between the proposals are associated with finding out the differences between the IFRS and US GAAP. The companies also face problem in classification of lease, lease is mainly classified as the finance lease if it is able to transfer the rewards and the risk associated with it substantially. All other leases apart from the financial lease are considered as the operating lease. The classification of lease is made under IAS 17. The classification of the lease is done on the inception of the lease agreement. Whether a lease should be considered as the finance lease or the operating lease depends on the transaction. (Ball, 2006). The main issue faced by the companies or the organization is in terms of measurement, presentation and recognition of the cash flows and the expenses arising from the lease by the lessee and it will determine whether the lessee is required to enjoy more benefits or advantages in the underlying asset. On our opinion the standard is required to determine the amount of cash flow that is generated by the lease agreement. The financial lease includes the present value of the minimum amount required for the lease payment, the transfer of ownership of the asset to the lessee at the end of the lease term or agreement This issue has influenced the companies or the organization severely. The lessor and lessee faced the problem in their payment structure.. FASB proposed that it is the duty or responsibility of the lessee to reassess the payment of the variable lease. IASB decided that the lessee should reassess the payment of the variable lease when there is a change or modification in the cash flow resulting from the variation in the rate. The lessor is not required to reassess the value of the variable lease payment that is dependent of the rate or the index. The board did not provide any standard procedure for measurement of the asset and liabilities of the company and the amount of payment that is required to be made my the lessee, therefore on my opinion the IFRS should incorporate the requirements that are required to be followed both by the lessor and lessee before entering into the agreement. Therefore thet the variable payment of the lease should be included in the preliminary measurement of the asset and the liabilities and the company is required to measure the payment The assessment mainly depends on the nature or characteristics of the underlying asset, apart from the property such as aircraft, trucks, equipment and cars. The lessee is engaged in classifying the lease as Type A lease and Type B lease. The board decided that the incremental cost should be considered as the initial direct costs. The initial direct cost mainly includes the incremental cost. The lessor in type A lease except from recognizing the selling profit at a lease commencement should include the initial measurement of the initial direct cost of the lease that is receivable by considering the cost associated with determining the implicit rate. The lessor should also recognize the initial indirect cost related with Type A lease for commencement of lease at an expense. The lessor in Type B lease is expected to recognize the indirect cost of an expense over the lease term on the basis of the lease income. The lessee must include in the initial measurement the initial indirect cost of the right of use of the asset and also make provision for amortization of that cost over the period of the lease agreement. The organization mainly encounters problem associated with classification of the sublease in accordance with the underlying asset which includes the plant and equipment, item of property that is subject to the lease agreement.. The intermediate lessor should not be involved in offsetting the lease liabilities and the lease assets resulting from the head lease and the sublease that do not fulfill the requirements of the US GAAP and IFRS. The intermediate lessor must not offset the lease expense and the lease income associated with the head lease and subleases, until the point of time it recognizes and considers the sublease income as the revenue and performs the function of an agent (International Accounting Standards Board, 2007). The IFRS and US GAAP on my opinion is required to undertake and implement new regulations for determining the value of the assets. Therefore the board should make necessary arrangement for the intermediate lessor required for classification of the sublease in accordance with the ROU asset resulting from the head lease In order to determine whether the sale has taken place or not, the board identified and formulated certain definite and standard principles. The FASB decided that if the seller- lessee identifies that the leaseback as the Type A lease determined from the perspective of the seller-lessee than it is considered as no sale has taken place. The IASB proposed that it should not include any additional information or guidance in the preparation of the final lease standard for determining the sale. The IASB clearly mentioned in their guidelines that if the seller lessee accounts for any loss incurred during the time of completion of the sale process and the leaseback transaction is consistent that it can be applied in relation to any other sale. FASB decided that the recognition, measurement and the presentation of all requirements for the lease agreement must be based on the consideration and the consent of the lessee and the lessor that are considered as the related party based on the legally enforceable terms and conditions of the lease agreement. Under the existing standard such as the IFRS and US GAAP the companies are expected to account for the lease agreement with the related parties in accordance with the economic substance which is difficult without the existence of the legally enforceable terms and conditions of the lease agreement (Smith, 2012). The board is required to adopt amortization of asset on the basis of Type A leases and Type B leases. On Type A leases the right to use of an asset is calculated on the straight line basis. The lessee is expected to amortize the use of the asset from the period of the commencement to the end of the useful life of the asset. If the lessee has sufficient economic incentive for exercising the purchase option, then the lessee can amortize the right to use the asset at the end of the useful life of the asset. The lessee must be able to apply the depreciation requirement included in the IAS 16. According to me the standard is required to disclose all necessary rules and regulations from beginning till the end of the lease agreement. The steps or measures adopted by the board mainly include the following: In case of Type B leases, the lessee is required to determine the amortization as the differences between the periodic cost of the lease and the discount on the lease liability. The lessee determines whether the use of the asset should recognize the loss in accordance with the Impairment of the asset (IFRS, 2013). The FASB formulated the guidelines in the year 2013 bin the Exposure draft for classifying the lessee on the basis of the following. The cash payment made for the significant portion of the lease liability resulting from the Type A lease in the financing activities, the Cash payment generated from the Type B lease within the operating activities, the cash payment made for the interest portion of the lease liability resulting from the Type B leases included in the operating activities. The IASB also proposed certain guidelines which are expected to be included in the exposure draft of 2013. The Type A leases the requirements required to be classified by the lessee, the cash payment made for the significant part of the lease liability within the financing activities, the cash payment made for the interest portion of the lease liability related to the interest paid in the IAS 7 (Young, 2011). IASB requires a lessee for disclosing the lease cash outflow somewhere in the financial statements. In case of the lessor the board decided to follow and retain the guidance which suggests the lessor should classify the cash receipts from the leases in the operating activities. Therefore from the above issues it can be identified that the IFRS and the US GAAP are required to make various amendments benefitting both the lessor and the lesee in the lease agreement and reducing the conflict or the confusion arising out of it . Conclusion The existing standard such as the IFRS and the US GAAP includes lot of challenges and limitations in formulating the lease accounting activities. It created problem for the financial statement users. Therefore in order to overcome the limitations or the challenges, the standards are revised and improved fulfilling the need and requirement of the financial statement users. The board formulated many rules and regulations in accordance with the necessary changes. It decided that there should not be any provision for the measurement and recognition of the non-public business entities reporting under the US GAAP. The company is required to identify or recognize the lease asset and lease liabilities. The adjustment made for derecognizing the assets and liabilities of the companies are expected to be recorded as an adjustment to equity. The lessee is expected to abide by the transition guidance for the lessee as it would have been accounted in accordance with the standard guidance. The FASB and the US GAAP decided that the lessor and lessee is required to provide consistent transition for disclosing the effect of the changes in income from the continuing operation , net income affecting the financial statement of the company or the organization. References Ball, R. (2006). International Financial Reporting Standards (IFRS): pros and cons for investors. Accounting and Business Research, 14(2), pp. 956-960. IFRS, (2013). Exposure draft of leases. Retrieved from: http://www.ifrs.org/Current-Projects/IASB-Projects/Leases/Exposure-Draft-May-2013/Documents/ED-Leases-Standard-May-2013.pdf International Accounting Standards Board. (2007). International Financial Reporting Standards. Georgia: LexisNexis. Smith, N. J. (2012). Constant item purchasing power accounting per IFRS: Three Concepts of Capital Maintenance. London: Kogan Page. Walton, P. (2011). An Executive Guide to IFRS: Content, Costs and Benefits to Business. London: Wiley Young, Paul. (2011). International Accounting Standard 17 (IAS 17): Leases. Retrieved from: http://www.cga-pdnet.org/non_verifiableproducts/articlepublication/ifrs_e/ias_17.pdf Read More