LEASING

1.0 Introduction
Leasing transactions are extremely common, so this is an important practical topic. IFRS 16 Leases
is the relevant standard for lease accounting. IFRS 16 represents the completion of the IASB's
project to end off balance sheet accounting for leases.

Lease is a contract, or part of a contract, that conveys the right to use an asset, the underlying asset,
for a period of time in exchange for consideration.

1.1 Objective
IFRS 16 sets out the principles for the recognition, measurement, presentation and disclosure of
leases. The objective is to ensure that lessees and lessors provide relevant information in a manner
that faithfully represents those transactions (IFRS 16: para. IN1).

It replaces IAS 17, which required lessees and lessors to classify their leases as either finance
leases or operating leases and account for these two types of lease differently. IAS 17 did not
require lessees to recognize assets and liabilities arising from operating leases (IFRS 16: para.
IN5). IFRS 16 was brought in to remedy this.

1.2 Main features

IFRS 16 introduces a single lessee accounting model and requires a lessee to recognize assets and
liabilities for all leases with a term of more than twelve months, unless the underlying asset is of
low value. For leases with a term of less than twelve months (short-term leases) or low value assets,
an entity may elect not to recognize lease assets and liabilities and instead the lease payments are
simply charged to profit or loss as an expense (see below).

For all other leases, the lessee recognizes a right-of-use asset, representing its right to use the
underlying asset and a lease liability representing its obligation to make lease payments (IFRS 16:
para. IN10). For lessors, there is little change from the IAS 17 requirements. Lessors will continue
to recognize the distinction between finance and operating leases.

1.3 Recognition exemptions

IFRS 16 provides an optional exemption from the full requirements of the standard for:

a) Short-term leases. These are leases with a lease term of twelve months or less. This election is
made by class of underlying asset. A lease that contains a purchase option cannot be a short-
term lease.
b) Low value leases. These are leases where the underlying asset has a low value when new (such
as tablet and personal computers or small items of office furniture and telephones). This
election can be made on a lease-by-lease basis. An underlying asset qualifies as low value only
if two conditions apply:
i) The lessee can benefit from using the underlying asset.

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 ii) The underlying asset is not highly dependent on, or highly interrelated with, other
assets. (IFRS 16: para. B5)

There is not a specific amount stated under IFRS 16 defining 'low value', but examples given
include personal computers and telephones (IFRS 16: para.B8)

If the entity elects to take the exemption, lease payments are recognized as an expense on a straight-
line basis over the lease term (or other systematic basis) (IFRS 16: para.6).
Note: leasing an asset which would, under normal circumstances, not qualify as a low value lease
(a second hand car, for example), should be treated as a normal lease and the lease asset and
liability should be recognized. In normal circumstances, a car would be an expensive item, but
leasing one at a heavy discount or second hand does not qualify it to be classified as a low value
item.

1.4 Identifying a lease

A contract is, or contains, a lease if the contract conveys the right to control the use of an identified
asset for a period of time in exchange for consideration (IFRS 16: para. 9). The contract may
contain other elements which are not leases, such as a service contract. These other components
must be separated out from the lease and separately accounted for, allocating the consideration on
the basis of the stand-alone prices of the lease and non-lease components (IFRS 16: para. 13).
The right to control the use of an identified asset depends on the lessee having:

a) The right to obtain substantially all of the economic benefits from use of the identified asset;
and
b) The right to direct the use of the identified asset (IFRS 16: para. B9). This arises if either:
i) The customer has the right to direct how and for what purpose the asset is used during the
whole of its period of use, or
ii) The relevant decisions about use are pre-determined and the customer can operate the asset
without the supplier having the right to change those operating instructions.

A lessee does not control the use of an identified asset if the lessor can substitute the underlying
asset for another asset during the lease term and would benefit economically from doing so. (IFRS
16: para. B14).

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1.5 Identifying a lease: examples

Right to control Identified asset Period of use

Entity must have the right Stated in the contract Period of use in time or in
to: units produced

Obtain substantially all May be part of a larger asset Lease may only be for a
economic benefits from the portion of the term of the
use of the asset; and The lessor has no contract (if the right to control
substitution rights (a similar the asset exists for part of the
Direct the use of the asset asset cannot be used instead of term)
the original leased asset)

1.5.1 Example: Is it a lease?

Makulu Council has entered into a five-year contract with Carefleet Co, under which Carefleet Co
supplies the council with ten vehicles for the purposes of community transport. Carefleet Co owns
the relevant vehicle, all ten of which are specified in the contract. Makulu Council determines the
routes taken for community transport and the charges and eligibility for discounts. The council can
choose to use the vehicles for purposes other than community transport. When the vehicles are not
being used, they are kept at the council's offices and cannot be retrieved by Carefleet Co unless
Makulu Council defaults on payment. If a vehicle needs to be serviced or repaired, Carefleet Co
is obliged to provide a temporary replacement vehicle of the same type.

Conclusion: this is a lease. There is an identifiable asset, the ten vehicles specified in the contract.
The council has a right to use the vehicles for the period of the contract. Carefleet Co does not
have the right to substitute any of the vehicles unless they are being serviced or repaired. Therefore
Makulu Council would need to recognise a right-of-use asset and a lease liability in its statement
of financial position.

1.5.2 Example 2: Is it a lease?

Makole Council has recently made substantial cuts to its community transport service. It will now
provide such services only in cases of great need, assessed on a case by case basis. It has entered
into a two-year contract with Fleetcar Co for the use of one of its minibuses for this purpose. The
minibus must seat ten people, but Fleetcar Co can use any of its ten-seater minibuses when
required. The minibuses are held on Fleetcar Co's premises and are only made available to Makole
Council on request.

Conclusion: this is not a lease. There is no identifiable asset. Fleetcar Co can exchange one
minibus for another. Therefore, Makole Council should account for the rental payments as an
expense in profit or loss.

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1.6 Initial measurement of the right-of-use asset
The right-of-use asset is initially measured at cost. This comprises:

a) The amount of the initial measurement of the lease liability.

b) Any lease payments made before the commencement date, less any lease incentives received
c) Any initial direct costs incurred by the lessee.
d) Any costs which the lessee will incur for dismantling and removing the underlying asset or
restoring the site at the end of the lease term.

Subsequently, the right-of-use asset is normally measured at cost less accumulated depreciation
and impairment losses in accordance with the cost model of IAS 16 Property, Plant and Equipment
(IFRS 16:para. 29).

Under this model, the right-of-use asset is depreciated from the commencement date to the earlier
of the end of its useful life or the end of the lease term. However, if ownership of the underlying
asset is expected to be transferred to the lessee at the end of the lease, the right-of-use asset should
be depreciated over the useful life of the underlying asset (IFRS 16: paras. 31 and 32).
Alternatively, the right-of-use asset is accounted for in accordance with:

a) The revaluation model of IAS 16. This is optional where the right-of-use asset relates to a class
of property, plant and equipment which is measured under the revaluation model, and where
elected, must apply to all right-of-use assets relating to that class; or
b) The fair value model of IAS 40 Investment Property. This is compulsory if the right-of-use
asset meets the definition of investment property and the lessee uses the fair value model for
its investment property.

1.7 Initial measurement of the lease liability

At the commencement date the lease liability is measured at the present value of future lease
payments, including any expected payments at the end of the lease, discounted at the interest rate
implicit in the lease (IFRS 16: para. 24). If that rate cannot be readily determined, the lessee’s
incremental borrowing rate should be used (IFRS 16: para. 26).

1.8 Subsequent measurement of the right-of-use asset

After the commencement date the right-of-use asset should be measured using the cost model in
IAS 16, unless it is an investment property or belongs to a class of assets to which the revaluation
model applies (IFRS 16: para. 29).

If the lease transfers ownership of the underlying asset at the end of the lease term or if the cost
reflects a purchase option which the lessee is expected to exercise, the right-of-use asset should be
depreciated over the useful life of the underlying asset.

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If there is no transfer of ownership and no purchase option, the right-of-use asset should be
depreciated from the commencement date to the earlier of the end of the useful life and the end of
the lease term (IFRS 16: paras. 31, 32).

1.9 Subsequent measurement of lease liability

After the commencement date the carrying amount of the lease liability is increased by interest
charges on the outstanding liability and reduced by lease payments made (IFRS 16: para. 36).

2.0 LESSEE ACCOUNTING

Lessees will recognise a right of use asset within non-current assets and a lease liability split into
its current and non-current elements. Interest charges are separately presented in profit or loss as
a finance cost.

2.1 Presentation
In the statement of financial position right-of use assets can be presented on a separate line under
noncurrent assets or they can be included in the total of corresponding underlying assets and
disclosed in the notes.

Lease liabilities should be either presented separately from other liabilities or disclosed in the notes
(IFRS 16: para. 47).

IFRS 16 does not specify that lease liabilities should be split between non-current and current
liabilities, but this should be done as best practice.

2.2 Basic principle

At the commencement of the lease, the lessee should recognize a lease liability and a right-of-use asset.

Initial measurement

The liability (IFRS 16, para 26)

The lease liability is initially measured at the present value of the lease payments that have not yet
been paid.

Lease payments should include the following (IFRS 16, para 27):
• Fixed payments
• Amounts expected to be payable under residual value guarantees
• Options to purchase the asset that are reasonably certain to be exercised
• Termination penalties, if the lease term reflects the expectation that these will be incurred.

A residual value guarantee is when the lessor is guaranteed that the underlying asset at the end of the
lease term will not be worth less than a specified amount.

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The discount rate should be the rate implicit in the lease. If this cannot be determined, then the entity should
use its incremental borrowing rate (the rate at which it could borrow funds to purchase a similar asset).

The right-of-use asset

The right-of-use asset is initially recognized at cost.

The initial cost of the right-of-use asset comprises (IFRS 16, para 24):
• The amount of the initial measurement of the lease liability (see above)
• Lease payments made at or before the commencement date
• Any initial direct costs
• The estimated costs of removing or dismantling the underlying asset as per the conditions of the
lease.

The lease term

To calculate the initial value of the liability and right-of-use asset, the lessee must consider the length of the
lease term. The lease term comprises (IFRS 16, Appendix A):
• Non-cancellable periods
• Periods covered by an option to extend the lease if reasonably certain to be exercised
• Periods covered by an option to terminate the lease if these are reasonably certain not to be
exercised.

Example
On 1 January 2011, Dynamic entered into a two year lease for a lorry. The contract contains an option
to extend the lease term for a further year. Dynamic believes that it is reasonably certain to
exercise this option. Lorries have a useful economic life of ten years.

Lease payments are TZS 10,000 per year for the initial term and TZS 15,000 per year for the
option period. All payments are due at the end of the year. To obtain the lease, Dynamic incurs initial
direct costs of TZS 3,000. The lessor reimburses TZS 1,000 of these costs.

The interest rate within the lease is not readily determinable. Dynamic’s incremental rate of borrowing
is 5%.

Required:
Calculate the initial carrying amount of the lease liability and the right-of-use asset and provide
the double entries needed to record these amounts in Dynamic's financial records.

Solution
The lease term is three years. This is because the option to extend the lease is reasonably certain to be
exercised.

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The lease liability is calculated as follows:

Date Cash flow (TZS) Discount rate Present value (TZS)

31/12/11 10,000 1/1.051 9,524
31/12/12 10,000 1/1.052 9,070
31/12/13 15,000 1/1.053 12,958
–––––
31,552
–––––

The initial cost of the right-of-use asset is calculated as follows:

TZS
Initial liability value 31,552
Direct costs 3,000
Reimbursement (1,000)
33,552
The double entries to record this are as follows:

Dr Right-of-use asset TZS 31,552

Cr Lease liability TZS 31,552

Dr Right-of-use asset TZS 3,000

Cr Cash TZS 3,000

Dr Cash TZS 1,000

Cr Right-of-use asset TZS 1,000

Subsequent measurement

The liability
The carrying amount of the lease liability is increased by the interest charge, calculated as the
outstanding liability multiplied by the discount rate of interest. This interest is also recorded in the
statement of profit or loss:

Dr Finance costs (SPL) X

Cr Lease liability (SFP) X

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The carrying amount of the lease liability is reduced by cash repayments:

Dr Lease liability X

Cr Cash X

To work out the interest and year end liabilities, a lease liability table is often used (see illustration below).
The layout of the table will depend on whether payments are made at the end of the year (in arrears) orat
the start of the year (in advance).

Payments in arrears
Year Balance b/f Interest Payment Balance c/f

1 X X (X) X
2 X X (X) X
(NCL)
Payments in advance
Year Balance b/f Payment Subtotal Interest Balance c/f

1 X (X) X X X
2 X (X) X X X
(NCL)

On the statement of financial position the total liability at the end of year 1 is split between its non-current
and current elements. For payments made in advance or arrears the non-current liability (NCL) is
represented by the balance outstanding immediately after the payment in year 2. The difference between
the total liability at the year end and the non-current liability will be the current liability. Note that
wherepayments are made in advance the non-current liability is not the balance outstanding at the end
of year2, as this includes the interest charge for year 2.

The right-of-use asset

The right-of-use asset is measured using the cost model (unless another measurement model is chosen). This
means that it is measured at its initial cost less accumulated depreciation and impairment losses.

Depreciation is calculated as follows:

• If ownership of the asset transfers to the lessee at the end of the lease term then depreciation
should be charged over the asset's remaining useful economic life,

• Otherwise, depreciation is charged over the shorter of the useful life and the lease term (as defined
previously).

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Illustration – Lease payments in arrears
Riyad enters into an agreement to lease an asset. The terms of the lease are as follows.

1. Primary period is for four years from 1 January 2012 with a rental of TZS 2,000 pa payable
on31 December each year.

2. The present value of the lease payments is TZS 5,710

3. The interest rate implicit in the lease is 15%.

What figures will be shown in the financial statements for the year ended 31 December 2012?

Solution
A non-current right-of-use asset is recorded at an initial value of TZS 5,710.
Annual depreciation charge = 1/4 × TZS 5,710 = TZS 1,428.
A liability is initially recorded at TZS 5,710.

The total finance charge is calculated as the difference between the total payments of TZS 8,000 and
theinitial value of TZS 5,710 = TZS 2,290. The allocation of this to each rental period is calculated
using the implicit interest rate on a lease liability table as follows:

Period Liability b/f Interest @ 15% Payment Liability c/f

2012 5,710 857 (2,000) 4,567
2013 4,567 685 (2,000) 3,252
2014 3,252 488 (2,000) 1,740
2015 1,740 260 (2,000) –
—— ——
2,290 8,000
——— ——
The format above will be used whenever the payments under a lease are made in arrears. If the
paymentsare due in advance, the rental paid is deducted from the capital sum at the start of the period
before the interest is calculated.

Extracts from financial statements for the year to 31 December 2012

Statement of profit or loss

TZS
Depreciation (1,428)
Finance cost (857)

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 Statement of financial position
Non-current assets
Right-of-use asset (5,710 – 1,428) 4,282
Non-current liabilities
Lease 3,252
Current liabilities
Lease 1,315

Test your understanding

Lion Co enters into a five-year lease of a building which has a remaining useful life of ten years.
Lease payments are TZS 50,000 per annum, payable at the beginning of each year.

Lion Co incurs initial direct costs of TZS 20,000 and receives lease incentives of TZS 5,000. There
is no transfer of the asset at the end of the lease and no purchase option.

The interest rate implicit in the lease is not immediately determinable but the lessee’s incremental
borrowing rate is 5%, with the value of TZS 1 having a cumulative present value in four years'
time of TZS 3.546.

The value of TZS 1 has a cumulative present value in five years' time of TZS 4.329

At the commencement date Lion Co pays the initial TZS 50,000, incurs the direct costs and
receives the lease incentives.

Required: show how the lease would be accounted in the financial statements of Lion Co. at the end of each
financial year

Short-life and low value assets

If the lease is short-term (less than 12 months at the inception date) or of a low value then a simplified
treatment is allowed.

In these cases, the lessee can choose to recognize the lease payments in profit or loss on a straight
linebasis. No lease liability or right-of-use asset would therefore be recognized.

Low value assets

IFRS 16 Leases does not specify a particular monetary amount below which an asset would be
considered‘low value’.

The standard gives the following examples of low value assets:

• Tablets
• Small personal computers
• Telephones

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 • Small items of furniture.

The assessment of whether an asset qualifies as having a ‘low value’ must be made based on its value
when new. Therefore, a car would not qualify as a low value asset, even if it was very old at the
commencement of the lease.

Example
On 1 April 2016 Taggart acquires telephones for its sales force under a two year lease agreement.
The terms of the lease require an initial payment of TZS 2,000, followed by two payments of TZS
8,000 on 31 March 2017 and 31 March 2018.

Show the impact of this lease arrangement on the financial statements of Taggart for the year ended
31 December 2016.
Solution
IFRS 16 Leases permits a simplified treatment for assets with a lease period of 12 months or less, or
of lowvalue. Although the standard does not give a numerical definition of ‘low value’ it does give
examples of the types of assets that may be included, and this includes telephones. The simplified
treatment allows the lease payments to be charged as an expense over the lease period, applying the
accruals concept.
Total rentals payable = TZS 2,000 + TZS 8,000 + TZS 8,000
Annual lease rental =
expenses Total lease period 2 years

= TZS 9,000 per annum

Expense to 31 December 2016 = TZS 9,000 × 9/12 = TZS 6,750
The expense in this period of TZS 6,750 is not the same as the payment of TZS 2,000 so we need to
accrue an additional expense of TZS 4,750.

Financial statements extract:

Statement of profit or loss for the year ended 31 December 2016

TZS
Lease rental expense (6,750)

Statement of financial position 31 December 2016

TZS
Current liabilities
Accrual 4, 750

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Mid-year entry into a lease
If a company enters into a lease part-way through the year, the depreciation and interest will need
to betime-apportioned.

The liability table is likely to need extra columns to split the table between pre- and post-payment.

Illustration – Mid-year entry into lease

Shaeen Ltd entered into an agreement to lease an item of plant on 1 October 2018. The lease
requiredfour annual payments of TZS 200,000 each, commencing on 1 October 2018. The plant
has a useful economic life of four years and is to be scrapped at the end of this period. The present
value of the lease payments is TZS 700,000. The implicit interest rate within the lease is 10%.

Prepare extracts of the financial statements in respect of the leased asset for the year ended 31 March
2019.

Solution
Statement of profit or loss extract
TZS
Depreciation (W1) (87,500)
Finance costs (W2) (25,000)

Statement of financial position extract

Non-current assets
Right-of-use asset (700,000 – 87,500) 612,500
Non-current liabilities
Lease (W3) 350,000
Current liabilities
Lease (525 – 350) 175,000

Workings
(W1) Depreciation
Depreciated over 4 years

Expense = 700,000/4 years × 6/12 = TZS 87,500

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(W2) Lease

Year end Balance Interest @ Initial Paid Balance Interest @ Bal c/f
b/f 10% X 6/12 balance @ 1 Oct 10% X
6/12
31.03.2019 - - 700,000 (200,000) 500,000 25,000 525,000

31.03.2020 525,000 25,000 (200,000) 350,000

Note that there is no interest charged in the first half of the first year and that the interest charged in
the first half of the second year reflects the interest on the balance at 1 October. Once calculated, the
split fornoncurrent and current liabilities works as normal.

2.3 Disclosure requirements for lessees

The objective of the disclosure requirements is to allow users to assess the effect that leases have
on the financial position, financial performance and cash flows of the lessee (IFRS 16: para. 51).

Amounts to be disclosed include:

 Depreciation charge for right-of-use assets

 Interest expense on lease liabilities
 Expenses relating to short-term and low-value leases
 Details of sale and leaseback transactions
 The carrying amount of right-of-use assets at the end of the reporting period,
by class of underlying asset
 Additions to right-of-use assets

3.0 SALE AND LEASEBACK

A sale and leaseback transaction involves the sale of an asset and the leasing back of the same
asset.

IFRS 16 requires an initial assessment to be made regarding whether or not the transfer constitutes
a sale. This is done by determining when the performance obligation is satisfied in accordance
with IFRS 15 Revenue from Contracts with Customers (IFRS 16: para. 98).

3.1 Transfer is a sale

If the transfer satisfies the IFRS 15 requirement to be accounted for as a sale:

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 The seller/lessee measures the right-of-use asset arising from the leaseback at the proportion
of the previous carrying amount of the asset that relates to the right-of use retained by the
seller/lessee. This is calculated as:

Discounted lease payments

Carrying amount × Fair value

 The seller/lessee only recognizes the amount of any gain or loss on the sale that relates to the
rights transferred to the buyer (IFRS 16: para. 100). This can be calculated in three stages:

Stage 1: Calculate the total gain

Total gain = fair value – carrying amount

Stage 2: Calculate the gain that relates to the rights retained:

Discounted lease payments

Gain × = Gain related to the right retained
Fair value

Stage 3: The gain relating to rights transferred is the balancing figure:

Gain on rights transferred = total gain (Stage 1) – gain on rights retained (Stage 2)

The right-of-use asset continues to be depreciated as normal, although a revision of its

remaining useful life may be necessary to restrict it to the lease term.

Example: sale and leaseback where the transfer is a sale

On 1 April 2012, Wigton Co bought an injection moulding machine for TZS 600,000. The carrying
amount of the machine as at 31 March 2013 was TZS 500,000. On 1 April 2013, Wigton Co sold
it to Whitehaven Co for TZS 740,000, its fair value. Wigton Co immediately leased the machine
back for five years, the remainder of its useful life, at TZS 160,000 per annum payable in arrears.
The present value of the annual lease payments is TZS 700,000 and the transaction satisfies the
IFRS 15 criteria to be recognized as a sale.

Required
What gain should Wigton Co recognize for the year ended 31 March 2014 as a result of the sale
and leaseback?

Solution
Stage 1: Total gain on the sale = fair value – carrying amount
= TZS 740,000 – TZS 500,000 = TZS 240,000

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 Discounted lease payments
Stage 2: Gain relating to the rights retained = Gain × fair value

= TZS (240,000 × 700,000/740,000)

= TZS 227,027

Stage 3: Gain relating to the rights transferred = total gain (Stage 1) – gain on rights retained
(Stage 2)
= TZS 240,000 – TZS 227,027

= TZS 12,973

Wigton Co should recognize a gain of TZS 12,973 for the year ended 31 March 2014 as a result
of the sale and leaseback.

If the fair value of the consideration for the sale does not equal the fair value of the asset, or if the
lease payments are not at market rates, the following adjustments should be made:

 Any below-market terms should be accounted for as a prepayment of lease payments (the
shortfall in consideration received from the lessor is treated as a lease payment made by the
lessee)
 Any above-market terms are accounted for as additional financing provided by the buyer/lessor
(the additional amount paid by the lessor is treated as additional liability, not as gain on the
sale) (IFRS 16: para. 101)

3.2 Transfer is not a sale

If the transfer does not satisfy the IFRS 15 requirements to be accounted for as a sale, the seller
continues to recognize the transferred asset and the transfer proceeds are treated as a financial
liability, accounted for in accordance with IFRS 9. The transaction is more in the nature of a
secured loan.

3.3 Example: sale and leaseback not on market terms

Bungle Co sells a building to the Zippy Co for TZS 800,000 cash. The carrying amount of the
building prior to the sale was TZS 600,000. Bungle Co arranges to lease the building back for five
years at TZS 120,000 per annum, payable in arrears. The remaining useful life is 15 years. At the
date of sale the fair value of the building was TZS 750,000 and the interest rate implicit in the lease
is 4%. The cumulative present value of TZS 1 in five years' time is TZS 4.452.

The transaction satisfies the performance obligations in IFRS 15, so will be accounted for as a sale
and leaseback.

At the date of sale the fair value of the building was TZS 750,000, so the excess TZS 50,000 paid
by Zippy Co is recognized as additional financing provided by Bungle Co

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Step 1. The lease liability must be calculated.
The interest rate implicit in the lease is 4% therefore the present value of the annual payments is
calculate as follows: TZS 120,000 × TZS 4.452 = TZS 534,240

Of this, TZS 484,240 (TZS 534,240 – TZS 50,000) relates to the lease and TZS 50,000 relates to
the additional financing.

Step 2. The right-of-use assets must be measured

At the commencement date, Bungle Co measures the right-of-use asset arising from the leaseback
of the building at the proportion of the previous carrying amount of the building that relates to the
right-of-use retained.
This is calculated as

Right-of-use asset (arising from leaseback) = carrying amount × discounted lease payments/fair
value.
Therefore: TZS 600,000 × 484,240/750,000 = TZS 387,392

The right-of-use asset will be depreciated over five years, being the shorter of the lease term and
the useful life of the asset.

Step 3. The gain on the sale and leaseback must be calculated.

Bungle Co only recognizes the amount of gain that relates to the rights transferred:
Stage 1: Total gain on the sale = fair value – carrying amount
= TZS 750,000 – TZS 600,000
= TZS 150,000
Discounted lease payments
Stage 2: Gain relating to the rights retained = Gain × fair value

TZS (150,000 × 484,240/750,000)

= TZS 96,848

Stage 3: Gain relating to the rights transferred = total gain (Stage 1) – gain on rights retained
(Stage 2)
= TZS 150,000 – TZS 96,848
= TZS 5,152

Step 4. The transaction must be recorded in Bungle Co's accounts

At the commencement date the transaction is recorded as follows:

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 Debit Credit
TZS TZS
Cash 800,000
Right-of-use asset 387,392
Building 600,000
Financial liability 534,240
Gain on rights transferred 53,152
1,187,392 1,187,392

The right-of-use asset will be depreciated over five years, the gain will be recognized in profit or
loss and the financial liability will be increased each year by the interest charge and reduced by
the lease payments.

Example
Capital Co entered into a sale and leaseback on 1 April 2017. It sold a lathe with a carrying amount
of TZS 300,000 for TZS 400,000 (equivalent to fair value) and leased it back over a five-year
period, equivalent to its remaining useful life. The transaction constitutes a sale in accordance with
IFRS 15. The lease provided for five annual payments in arrears of TZS 90,000. The rate of interest
implicit in the lease is 5%. The cumulative value of TZS 1 in five years' time is TZS 4.329

Required
What are the amounts to be recognized in the financial statements at 31 March 2018 in respect of
this transaction?

Solution
(1) Calculate the lease liability at the commencement date
TZS 90,000 × TZS 4.329 = TZS 389,610
(2) Measure the right-of-use asset = carrying amount × discounted lease payments/fair value
= 300,000 × 389,610/400,000
= TZS 292,208
(3) Calculate the gain on the sale and leaseback
Stage 1: Total gain on the sale = fair value – carrying amount
= TZS 400,000 – TZS 300,000
= TZS 100,000
Discounted lease payments
Stage 2: Gain relating to the rights retained = Gain × fair value

= TZS (100,000 × 389,610/400,000)

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 = TZS 97,402

Stage 3: Gain relating to the rights transferred = total gain (Stage 1) – gain on rights retained
(Stage 2)
= TZS 100,000 – TZS 97,402
= TZS 2,598
(4) Record the transaction in the accounts

Debit Credit
TZS TZS
Cash 400,000
Right of use asset 292,208
Underlying asset 300,000
Liability 389,610
Gain on transfer 2,598
692,208 692,208

The transaction will be shown in the financial statements as follows:

Statement of profit or loss

Gain on transfer 2,598
Depreciation (292,208/5) (58,442)
Interest (W) (19,480)

Statement of financial position

Non-current asset
Right-of-use asset 292,208

Non-current liabilities
Lease liability (W) 245,044

Current liabilities
Lease liability (319,090 – 245,044) (W) 74,046

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 Working – lease liability
TZS
1.4.17 Lease liability (present value of future lease payments) 389,610
1.4.17 – 31.3.18 Interest at 5% 19,480
31.3.18 Instalment paid in arrears (90,000)
31.3.18 Liability carried down 319,090
1.4.18 – 31.3.19 Interest at 5% 15,954
31.3.19 Instalment paid in arrears (90,000)
31.3.19 Liability due in more than 1 year 245,044

Current liabilities reflect the amount of the lease liability that will become due within 12 months.

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