In March 2010, the IASB decided to look at two models for lessor accounting. One model is the performance obligation model and one is called the derecognition model

In March 2010, the IASB decided to look at two models for lessor accounting. One model is the performance obligation model and one is called the derecognition model. Both of these models are discussed in the document Discussion Paper Preliminary Views: Leases, July 17, 2009. The discussion paper is available on the IASB website at www.iasb.org.

Instructions

(a) Describe the “performance obligation approach” for lessor accounting with respect to its concept, impact on the statement of financial position, and its impact on the statement of comprehensive income.

(b) Describe the “derecognition approach” for lessor accounting with respect to its concept, impact on the statement of financial position, and its impact on the statement of comprehensive income.

(c) Using the information below, determine what the statement of financial position would look like at the inception of the lease under the two alternatives:

The Lessor has entered into a six-year lease for a piece of machinery. The Lessor carries the machinery on its books at $100,000. The present value of the lease payments to be received for the lease is determined to be $92,900. Show the assets and liabilities that would be shown on the statement of financial position under the two different alternatives.

(a) The “performance obligation approach” is the approach discussed in the text book.  In this approach, the lessor is granting the right to use the asset to the lessee over the term of the lease.  The lessor does not lose control of the asset, which continues to be recognized on the statement of financial position.  In this case, the lessor has the right to receive the lease payments, and an unconditional obligation to permit the use of the asset over the term of the lease.  As a consequence, at the time the lease is entered into, a lease receivable is recorded as an asset and a performance obligation is recorded as the offsetting liability.  The receivable and obligation are calculated to be the present value of the lease payments.  As the lessor discharges the performance obligation, leasing income is recognized into income.  As payments are received from the lessee, interest income is recognized and the receivable is reduced.  Finally, the asset would continue to be depreciated over its useful life,  On the statement of financial position, the asset, the lease receivable and the performance obligation are shown as a net liability or asset.  On the statement of comprehensive income, the lessor would report leasing income, interest income and depreciation expense.

 (b) The “derecognition approach” assumes that a portion of the leased asset is sold when the rights of use are transferred to the lessee under the lease agreement.  This requires that the leased assets be derecognized.  The lease contract is a promise to transfer the asset to the lessee and so once delivery is completed, the performance obligation has been met and no longer exists.    In derecognizing the leased asset, a receivable for the present value of the lease payments and a residual value are recognized.  The residual value is a non-financial asset which represents the rights to economic benefits from the asset arising after the lease term.  These economic benefits would arise from subsequent sale of the asset or re-leasing the asset under a new contract.  The company will recognize revenue on the sale of the asset, and then interest income on the receivable as the lease payments are received.  The impact on the statement of financial position will be a receivable and a residual value as assets.  The impact on the statement of comprehensive income will show revenue from the sale of the leased asset, and interest income over the term of the lease.

 

(c) Using the information given, below is what would be shown on the statement of financial position for assets and liabilities on initial recognition of the lease:

 

	Performance obligation	Derecognition
Leased asset	$100,000
Lease receivable	$92,900	$92,900
Residual value		$7,100
Performance obligation	($92,900)
Net assets	$100,000	$100,000