Accounting for leases

A lease is an agreement under which the lessor conveys the right to use an asset for an agreed-on period of time to the lessee in return for a payment or a series of payments.

Keywords: Mazars, Thailand, Accounting, Thai Accounting Standards, TFRS for NPAEs, Lease, IAS 17

8 September 2015

Section 17 of the Thai Accounting Standards, as well as the Thai Financial Reporting Standards for Non-Publically Accountable Entities, state that there are two types of leases, a finance lease and an operating lease.

Finance lease

A finance lease is a lease that transfers substantially all the risks and rewards incidental to ownership of an asset to the lessee. Title may or may not eventually be transferred.

Operating lease

An operating lease is a lease other than a finance lease.

Classification of leases

A lease is classified as a finance lease if it transfers substantially all the risks and rewards incidental to ownership. A lease is classified as an operating lease if it does not transfer substantially all the risks and rewards incidental to ownership.

The Thai Financial Reporting Standards for Non-Publically Accountable Entities give the following examples of situations that would normally lead to a lease being classified as a finance lease:

  • Ownership of the asset is transferred to the lessee at the end of the lease term.
  • The lessee has the option to purchase the asset at a price that is expected to be sufficiently lower than the fair value (normally 5 per cent or less of the fair value).
  • The lease term is for the major part of the economic life (normally 80 per cent or more) of the asset, even if title is not transferred.
  • At the inception of the lease, the present value of the minimum lease payments amounts to at least substantially all (normally 90 per cent or more) of the fair value of the leased assets.

The above examples provide clarification, and reduce the requirement for management to apply judgement when classifying leases.

This section takes a look at how finance lease transactions should be accounted for.

Example:

On 1 January 2014, Company A entered into an agreement to lease a machine that has an estimated economic useful life of four years. The lease period is also four years, and the asset will be returned to the leasing company at the end of the lease period.

Annual rental of 150,000 baht is payable in arrears from 31 December 2014. The machine is expected to have a nil residual value at the end of its useful life. The machine has a fair value of 542,750 baht at the inception of the lease. The lessor includes a finance cost of 4.15% per annum when calculating annual rental. Details are as follows:

Year

Total amount ‘A’

(in Thai Baht)

Interest ‘B’

(in Thai Baht)

Rental

(in Thai Baht)

Ending balance

(in Thai Baht)

      150,000 542,750
2014 127,555 22,445 150,000 415,195
2015 132,830 17,170 150,000 282,365
2016 138,323 11,677 150,000 144,042
2017 144,042 5,958 150,000 -
Total 542,750 57,250 600,000  

How should the lease be accounted for in financial statements?

The lease should be classified as a finance lease, as the estimated economic useful life of the asset is four years. Moreover, Company A retains the right to use this asset for four years in accordance with the lease agreement. As a result, the lease should be recorded as follows:

On 1 January 2014
(i) To record the asset and lease liability
Dr. Machinery THB 542,750  
Cr. Finance lease  liability   THB 542,750
At the end of the period from 2014 through 2017 
(ii) To record the asset and lease liability and interest expense
Dr. Finance lease liability As per column ‘A’  
Dr. Interest expense As per column ‘B’  
Cr. Cash in the bank   THB 150,000
 
(iii) To record depreciation (THB 542,750 over 4 years)
Dr. Depreciation - Machinery THB 135,688  
Cr. Accumulated depreciation - Machinery  

THB 135,688

 

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