Accounting for leases: Lessee and Lessor Lease Accounting

Lease is one of the most common contractual arrangements. The obligation involves a lessor who gives a lessee the right or authority to occupy a particular property - which is either be owned or possessed by the lessor for stipulated period and usually for a periodic and stipulated cash payment. A lease can either be an operating lease or a finance or capital lease. The operating lease is a type of lease that does not record any asset or any liability on a financial statement for the amount that is paid as incurred is expensed. The capital lease, on the other hand, is recorded as an asset and as a liability on a financial statement. The capital lease is no greater than the fair market value of the asset and generally the present value of rental payments.

The standard and the criterion on lease are set by the Financial Accounting Standards Board or the FASB. In terms of accounting for lease, the primary standard is the Statement of Financial Accounting Standards No. 13 or the FAS 13. The same sets the standard criteria for the capitalization of a lease. The FAS 13 criteria are summarized as follows: the transfer of possession of the asset to the lessee, the giving of a bargain purchase option to a lessee to offer the lessee the option to own or purchase the property after the termination of the lease agreement at a significantly lower price than the fair market value of the property at the time of the sale, that the lease life should be more than 75 percent of the asset's economic life, that the minimum lease payments' present value is equal to or greater than 90 percent of the leased property's fair market value. It must also be remembered that the minimum lease payments would already include the minimum rental payments less the executory cost, the bargain purchase option, the penalty for renewal or extension failures, the guaranteed residual value and others. The same should also be disclosed on the lessee's balance sheet.

On the accounting for lease by a lessee matters, for an operating lease, it is the lessee that makes a record of the rent expenses to be debited over the term of the lease or a credit to the rent payable or cash. If it is a capital lease on the other hand, the lessee does not place the rent as an expense but as an interest and an obligation payment like that of a mortgage. If the lease to be accounted is a lease with a bargain purchase option to a lessee, the depreciation life becomes the economic life of the asset otherwise it becomes the term of the lease. In terms of accounting of the improvements in the leasehold, the value of the improvement is depreciated and is capitalized over the lease life. If it pertains to the accounting for lease by a lessor, the lessor is to record the rent revenue and debit it to the rent receivable or to the cash. If it is a capital lease, the lessor would credit the owned assets and would debit the cash with each rent payment.

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