1. IAS 17 Leases
PwC

2. Objective and Scope Accounting policies and disclosures for leases
Applies to all leases except:
Minerals, oil, natural gas etc…
Licensing agreements for films, patents etc…
Measurement rules do not apply to:
Certain investment properties
Certain biological assets
The objective of IAS 17 is to ensure that leases are accounted for in the financial statements of both lessees and lessors in accordance with their commercial substance. The standard therefore prescribes, appropriate accounting policies and disclosures for lessees and lessors.
The standard applies to all leases except:
Leases to explore for or use minerals, oil, natural gas and similar non-regenerative resources; and
Licensing agreements for motion pictures, video, plays, manuscripts, patents and copyrights.
The measurement rules of the standard do not apply to:
Property held by lessees that is accounted for as investment property;
Investment property provided by lessors under operating leases;
Biological assets held by lessees under finance leases; and
Biological assets provided by lessors under operating leases.

3. Lease classification LEASE FINANCE LEASE OPERATING LEASE
Leases are defined by IAS 17 as agreements whereby the lessor conveys to the lessee the right to use an asset for an agreed period of time in return for a payment or series of payments.
How leases are accounted for depends upon their classification. The standard requires all leases to be classified as either a finance lease or an operating lease.
A finance leases is defined as a lease that transfers substantially all the risks and rewards incidental to ownership.
An operating lease is a lease other than a finance lease.
Classification is determined based on the substance of the arrangement. If, for example, the lease term is for a major part of the economic life of the asset or the leased asset is highly specialised, the lease is likely to be classified as a finance lease. The standard contains detailed guidance to help determine whether a lease is a finance lease or an operating lease

4. Lessees – Finance lease
Initial recognition:
Asset and liability equal to lower of
Fair value of asset; or
Present value of minimum lease payments
Subsequently:
Depreciate asset
Accrue interest on liability
Rentals paid reduce liability
IAS 17 requires that a finance lease should be recorded in a lessee's balance sheet both as an asset and as an obligation to pay future rentals. At the commencement of the lease term, the sum to be recognised both as an asset and as a liability should be the fair value of the leased asset or, if lower, the present value of the minimum lease payments. In calculating the present value of the minimum lease payments, the discount factor used is the interest rate implicit in the lease. The interest rate implicit in the lease is defined by the standard as “…the discount rate that, at the inception of the lease, causes the aggregate present value of (a) the minimum lease payments and (b) the unguaranteed residual value to be equal to the sum of (i) the fair value of the leased asset and (ii) any initial direct costs of the lessor”.
An asset leased under a finance lease should be depreciated over the shorter of the lease term and its useful life, unless there is a reasonable certainty the lessee will obtain ownership of the asset by the end of the lease term in which case it should be depreciated over its useful life. The depreciation policy used should be consistent with that for other depreciable assets that are owned by the entity.
Lease payments should be apportioned between the finance charge and the reduction of the outstanding liability. The finance charge should be allocated to periods during the lease term, so as to produce a constant periodic rate of interest on the remaining balance of the liability for each period.

5. Lessees – Operating lease
Lease payments:
Expense on a straight line basis
Lease incentives:
Amortise over the lease term
Operating leases should not be capitalised. Lease payments made under operating leases should be recognised as an expense on a straight-line basis over the lease term, unless another systematic basis is more representative of the time pattern of the user’s benefit.
The requirement to spread the lease rentals on a straight-line basis over the lease term applies even if the payments are not made on such a basis. This also applies where the lessee is not using the leased asset.
Prospective lessees are sometimes given incentives to sign operating leases for office or retail property. SIC 15, ‘Operating leases – Incentives’ sets out the required accounting for incentives of this type. Operating lease incentives may take many different forms. However, SIC 15 requires the same treatment for all incentives for the agreement of a new or renewed operating lease, regardless of their form or cash flow effect. The SIC consensus is that the aggregate benefit of incentives should be recognised by the lessee as a reduction of the rental expense over the lease term on a straight-line basis, unless another systematic basis is representative of the time pattern of the lessee’s benefit from the use of the leased asset.

6. Lessors - Finance lease
Initial recognition
Recognise a receivable equal to net investment in lease
Subsequent measurement
Finance income recognised based on the lessor’s net investment in the lease
Rentals allocated between reduction of net investment and finance income
The amount due from the lessee under a finance lease should be recognised in the lessor's balance sheet as a receivable at an amount equal to the lessor’s net investment in the lease. Over the lease term, rentals are apportioned between a reduction in the net investment in the lease and finance income.
A lessor’s net investment in a lease is its gross investment in the lease discounted at the interest rate implicit in the lease. The gross investment in the lease is equal to the minimum lease payments plus any unguaranteed residual accruing to the lessor. The definition of minimum lease payments for a lessor is slightly different to the definition used by a lessee in that, in addition to the payments required to be made by the lessee, a lessor will include in its calculation of minimum lease payments, any residual value that has been guaranteed whether by the lessee, a party related to the lessee, or an independent third party (for example, the manufacturer of the asset). This means that, at any point in time during the lease term, the net investment in the lease will be represented by the remaining minimum lease payments (the amounts the lessor is guaranteed to receive under the lease from either the lessee or third parties), less that part of the minimum lease payments that is attributable to future gross earnings (namely, interest). The lessor's net investment in the lease may also include an unguaranteed residual value. The unguaranteed residual value, which will be small in a finance lease, represents the amount the lessor expects to recover from the value of the leased asset at the end of the lease term that is not guaranteed in any way by either the lessee or third parties.
IAS 17 requires that the recognition of finance income should be based on a pattern reflecting a constant periodic rate of return on the lessor’s net investment.

7. Lessors - Operating lease
Balance sheet
Recognise leased asset
Income statement
Rentals recognised on a straight-line basis
Depreciation
Lease incentives:
Amortise over the lease term
IAS 17 requires that a lessor should present assets subject to operating leases in their balance sheets according to the nature of the asset. In most cases, this means that the asset will be recorded as property plant and equipment, an intangible asset or investment property.
Depreciable leased assets must be depreciated or amortised on a basis consistent with the lessor’s normal depreciation policy for similar assets. Therefore, if the asset falls to be treated as property plant and equipment, the rules of IAS 16 for depreciation must be applied.
Lease income from operating leases (excluding receipts for services provided such as insurance and maintenance) should be recognised in income on a straight-line basis over the lease term, irrespective of when the payments are due.
The treatment of operating lease incentives by lessors in SIC 15 mirrors the accounting treatment by lessees. All incentives, regardless of their nature, form or timing should be recognised as an integral part of the net consideration agreed for the use of the leased asset. Therefore, the aggregate cost of incentives should be treated as a reduction of rental income over the lease term. The cost should be recognised on a straight-line basis, unless another systematic basis is more representative of the time pattern over which the benefit from the leased asset is diminished. In practice, the use of an allocation basis other than straight-line should be rare.

8. Sale and leaseback Finance leaseback
Defer and amortise apparent profit
Operating leaseback
Treatment depends upon whether sales price equals fair value of asset
A sale and leaseback transaction arises when a vendor sells an asset and immediately re-acquires the use of the asset by entering into a lease with the buyer. Under IAS 17, the accounting treatment depends on the type of lease entered into. It also depends on whether the sale and the subsequent leaseback are on a strictly arm's length basis.
Where the seller enters into a finance leaseback, the transaction is essentially a financing operation. Any apparent profit (that is, the difference between the sale price and the previous carrying value) should be deferred and amortised over the lease term.
The rules are more complicated when the leaseback is an operating lease as the accounting treatment will depend upon whether the sales price equals the fair value of the asset.
If the fair value of an asset at the time of a sale and operating leaseback transaction is less then the carrying amount of the asset, a loss equal to the difference between the carrying amount of the asset and its fair value should be recognised immediately.
Where the sale transaction is established at fair value, any profit on the sale should be recognised immediately, as this is in effect, a normal sales transaction.
Where the sale price is above the fair value, the excess of the sale price over the fair value does not represent a genuine profit. This is because the rentals payable in future years will almost certainly be inflated above the market value. Accordingly, the excess of the sale proceeds over the fair value should be deferred and amortised over the period for which the asset is expected to be used.
Where the sale price is below the fair value, the standard requires that any profit or loss should be recognised immediately unless the loss is compensated by future lease payments that are below market levels. In such a circumstance, the loss should be deferred and amortised over the period for which the asset is expected to be used.

9. UK GAAP differences 90% test Land and buildings split
Lessor income recognition
Spreading of lease incentives
Treatment of initial direct costs
Disclosures
The broad approach of the international and the UK standard is similar. Both IAS 17 and SSAP 21 require leases to be classed as finance leases or operating leases. The definition of a finance lease is the same in both standards. However, IAS 17 does not provide a quantitative test of whether a lease is a finance lease (the “90% test”), instead it provides additional guidance on when a lease should be classified as a finance lease.
IAS 17 requires that a lease of land and buildings should be split at inception of the lease into a separate lease of land and a lease of buildings. Unless title is expected to pass to the lessee at the end of the lease term, leases of land should normally be treated as operating leases. The buildings element would be classified as an operating or finance lease as appropriate. There is no equivalent requirement under UK GAAP.
Income recognition by lessors for finance leases is different under the two standards. SSAP 21 requires the use of the net cash investment method whilst IAS 17 requires the net investment method to be used. This can give rise to materially different income recognition profiles, particularly where the tax effects of a lease are significant.
Accounting for lease incentives is different under UK GAAP, UITF 28, ‘Operating lease incentives’, requires the incentive to be spread over the shorter of the lease term and the period to the first rent review to market rates rather than the lease term as required by IFRS.
Initial direct costs are incremental costs that are directly attributable to negotiating and arranging a lease. Under UK GAAP, these costs can either be deferred or expensed immediately. Under IFRS, there is no choice of treatment – in general they are deferred
IAS 17 requires a number of detailed disclosures that are not required by SSAP 21.