FAR M11考点归纳.doc

M11LeaseStudy Notes- FAR M11 (Lease)A lease is a contract between a lessor (the owner of an asset) and a lessee (the person who is going to use the asset) that conveys the right to use specific property for a stated period of time in exchange for a stated payment.Accounting for the lease transaction is based on “substance over form”. The following are the types of the leases from accounting perspectiveLessorLessee Operating lease Non-operating lease-Sales type lease- Direct financing lease Operating lease Capital leaseOperating leaseIf the lease is classified as an operating lease, the lessee is going to treat the lease payments as rent expense. and the lessor is going to treat it as rental income and there is no interest in an operating lease.For CPA exam purpose, the operating lease is relatively simple from accounting perspective. Most CPA exam questions concentrate on how to calculate the rent expense especially in some special situations.The general rule is that the amount of rent expense that should be recognized in each period of the lease is the same. This means that the rent expense amount will be the same for each month, quarter or year. Rent expense needs to be equal each month in order to match revenues and expenses properly. Accounting by lessee Free rent: lease rent expense is recognized evenly Lease bonus: is considered an asset and amortized straight line over the lease term Leasehold improvements is reported as part of the fixed assets and amortized over the shorter of lease term or useful life Refundable security deposit are receivable vs. nonrefundable deposit are prepaid assets to be amortized in the future Early termination costs must be recognized immediately at fair value by lessee upon termination of the lease agreement. (cease-use date)Accounting by lessor Initial direct costs (finders fees, appraisal fees, document processing fees, negotiation fees and any other direct costs incurred to set up the lease agreement) are capitalized and amortized on straight line going forward by the lessor Depreciate the assets Executor costs (taxes, insurance and maintenance) are recognized as incurred Lease bonus is unearned revenue and amortized over the life of the lease Rent received in advance is unearned revenue Termination costs should be measured and recognized at fair value at the date the lease agreement is terminatedLesseeLessorInitial direct costsN/AAssetsLease bonusPrepaid assetsUnearned revenueRefundable Security depositReceivablesliabilitiesNon-refundable security depositPrepaid assetsUnearned revenueLeasehold improvementsCapitalized as PPE and amortize over the shorter of (1) remaining lease term(2) useful life of the improvementN/AEarly termination costsEarly termination costs must be recognized immediately at fair value by lessee upon termination of the lease agreementEarly termination costs should be measured and recognized at fair value at the date the lease agreement is terminatedDisclosures for operating lease A general description of the leasing arrangements Minimum lease payments for each of the next 5 years and in the aggregate beyond 5 years.Capital leaseA lease where the rights and risks of ownership have transferred from the lessor to the lessee, it is considered really like a “purchase” of the asset in substance, though in legal form it is a lease. So the lessee should recognizes both an asset and a liability at the present value of the minimum lease payments not to exceed the fair market value. The lessor will account for such a lease as either an operating lease, sale-type lease or a direct financing lease.Accounting by lessee for capital leaseIf the lease term meets one of the four criteria, the lessee accounts for the lease as capital lease as if he OWNS the asset.1) The lease transfer ownership of the asset to the lessee at the end of the lease term2) The lease includes written bargain purchase option3) The present value of the minimum lease payments is equal to 90% or more of the FMV of the asset at inception and the lease is not executed in the last 25% of the original useful life.4) The lease term is equal to 75% or more of the estimated economic useful life of the asset at inception and the lease is not executed in the last 25% of the original useful life.If the lease qualifies for a capital lease, the lesee should Day 1 Accounting(1) Record the leased assets on the balance sheet at the lower of FMV ( a new implicit interest rate must be calculated) PV of the minimum lease payments (discussed in details below)The Minimum Lease Payments include all amounts that the lessee is obligated to pay to the lessor over the life of the lease. The main items that are included in the MLP are: 1) the annual (or monthly) lease payment2) the required purchase price or bargain purchase option included in the lease, and 3) Any amount of residual value that is guaranteed by the lessee (or by a party that is related to the lessee). Guaranteed residual value is considered part of the minimum lease payments and is reflected in the lessors lease receivable account and the lessees lease payable account.The present value of the unguaranteed residual value should be included in the lessors net investment in the lease unless the lease transfers title to the leased assets or there is a bargain purchase option.Executory costs, maintenance costs and any taxes on the leased item are not included in the calculation of the PV of the MLP. Any amounts paid by the lessee for these items will be expensed as they are incurred.(2) Record the lease liabilities on the balance by present value the future payments using either Incremental borrowing rate- discount rate the lessee would pay in the lending market to purchase the leased asset, or implicit rate if the rate is lower than the incremental borrowing rate AND the lessee knows the lessors implicit rateSubsequent Accounting(1) Depreciate the leased assetsThe students need to know the following how to consider depreciable life and salvage value for the leased assets.Capital lease criteriaDepreciable lifeSalvage valueTransfer of ownershipUseful life of the leased assetConsider salvage valueWritten BPOUseful life of the leased assetConsider salvage valuePV of minimum lease payments is 90% of FVLease termIgnore salvage value75% of useful livesLease termIgnore salvage value(2) Making lease paymentsFor the capital lease, again you need to understand the concept of the present value for the calculation of the interest expenses and reduction of the lease liability.Normally, the lease payment is made at the beginning of the year. So you need to know the present value of annuity due concept. The following is the amortization schedule based on page 442 Numerical example 5.Period EndedLease LiabilityEffective Interest RateInterest ExpensesLease Payments(Decrease)/Increasein Liabilities1/1/2010$144,290-50,000(50,000)1/1/2010(after lease payment)94,29010.0%9,429-9,42912/31/2010103,71950,000(50,000)1/1/2011(after lease payment)53,71910.0%5,3725,37212/31/201159,091-50,000(50,000)1/1/2011(after lease payment)9,09110.0%90990912/31/201210,000Journal EntryDisclosures by the lessee for the capital lease A description of the entitys leasing activities Gross amount of assets recorded under capital leases Minimum lease payments for each of the next 5 years and in the aggregateAccounting by lesser for capital leaseIf the lease meets one of the four criteria as mentioned above and BOTH of the following criteria, the lease is accounted by the lessor as either a sale-type lease or direct financing lease. If both criteria are not met, the lease is an operating lease by the lessor, but is still a capital leae by the lessee. The two criteria are:1) Collectability of the lease payments is reasonably assure2) There are no significant uncertainties regarding costs et to be incurred by the lessor under the lease In a sales-type lease the lessor makes two different profits: one from the sale of the asset and the second on the financing of the sale of the asset through interest. In a direct financing lease the only source of profit is on the interest because the PV (sales price of the asset) of the lease payments is equal to the carrying value of the asset to the lessor, and therefore there is no profit on the sale of the asset.Sales-type Lease for the lessor In a sales-type lease, the lessor has two profits from this transaction: 1) Gross profit or loss on the sale (lease) of the asset equal to the difference between the selling price (present value of the lease payments) and the carrying value of the asset on their books, and 2) Interest income over the life of the lease.The way in which the lessor records the lease in his or her books is slightly different from the way it is recorded by the lessee. The lessor is going to record a lease receivable for the cash value of all of the lease payments (including a bargain purchase option, any residual value guaranteed by a third party , or any unguaranteed residual value that goes back to the lessor at the end of the lease). The difference between the FMV of the MLP and the cash payments is recorded as unearned interest income at the time the lease is entered into. As the lease payments are received, the amount that was calculated as interest expense for the lessee will noThe journal entries are Dr Gross Lease receivable (= Total cash receipt amount+ guaranteed/ unguaranteed residual value) Cr Sales revenue (= PV of MLP+ PV of guaranteed residual value (not PV of unguaranteed residual value) Cr Unearned interest income (plug)Dr. Cost of goods soldCr. InventoryThe unearned interest income account is a contract account to gross lease receivable account and is amortized using the effective interest methodDirect Financing Lease for the lessor In a direct financing lease the method of accounting and the journal entries by the lessor are exactly the same as for a sales-type lease, except for the fact that a profit is not recognized on the sale. The lessor has only one profit from this transaction-Interest income over the life of the lease.The journal entries areDr Gross Lease receivable (= Total cash receipt amount+ guaranteed/ unguaranteed residual value) Cr Assets to be leased Cr Unearned interest income (plug)Lease Disclosures by Lessee In the notes to the financial statements, there are a number of specific items that must be disclosed by the lessee. The main ones that you need to know are: 1) A general description of the lease contracts and any restrictions that these contracts may place on dividends, debt or other leases. 2) The lessee must disclose six numbers related to the amount of future lease payments. These six numbers are the cash value of the lease payments (capital and operating) that need to be made in each of the next five years individually and the amount that will be made in total in all future years (including the next five years). These amounts should be identified as operating lease payments and capital lease payments (executory costs should be excluded from these amounts). 3) The gross amount of assets recorded as capital leases, and their related accumulated depreciation. 4) Rental expense from operating leases for each period for which an income statement was presented. 5) The amount of interest that is necessary to be imputed in order to reduce the future lease payments to their present value. Also the amount that should be classified as current liability is equal to the amount of the payments that will be made in the next 12 months that will be treated as a reduction of the principal. This means that the actual lease payment less the amount of interest expense in the following year will be reported as a current liability. Lease Disclosures by Lessor The disclosures that the lessor needs to make include: 1)For sales-type and direct financing type leases, the lessor should disclose the following components of the net investment: a. Future minimum lease payments receivable (excluding executory amounts), b. Unguaranteed residual values accruing to the lessor, c. Unearned revenue, and d. For direct financing leases, the initial direct costs. Future minimum lease payments to be received in each of the next five years, 3) The cost of assets that are leased under operating leases and the amount of accumulated depreciation on these assets, 4) A general description of the lessors leases.Accounting for direct costs by LessorThis section looks at how the costs incurred in the creation and execution of a lease are accounted for by the lessor. First, we need to look at the types of costs and what is included in each type. There are two types of costs: direct and indirect. Direct costs include legal fees for negotiating and closing of the lease, the inspection and valuation of collateral and security deposits, the preparation of lease documents, and finders fees (commission). These are essentially the costs that are related to a specific lease. Indirect costs include advertising, the servicing of an existing lease, the establishing and monitoring of credit policies, and administrative costs. These are the costs that are connected to the leasing activity in general. The following table shows how the costs are treated for the different types of leases: Operating leaseSale type leaseDirect financing leaseDirect costsCapitalize and amortized in proportion to the recognition of rental revenueExpensedCapitalized in the net investment in the lease and amortize to income over the lease term using effective interest rate methodIndirect costsExpensedExpensedExpensedSale-leasebackThe property owner sells the property, then immediately leases all or part of it bac from the new owner. It is considered as two separate and distinct transactions. The leaseback can either be an operating lease or capital lease (checking the 4 criteria as discussed)Wileys book page 445 has listed a decision tree in terms of when to defer the gain or loss.To summarize, the following are the general rules:Capital leasebackGains and losses (other than the real economic losses) are deferred and amortized over the period used for depreciating the asset as a reduction of depreciation expenses. The deferred gain is reported as an asset valuation allowance to the leased asset account Artificial losses are deferred and amortized as prepaid rent if the carrying value of the asset sold is greater than the sales price, but the fair value exceeds the carrying amount. A real economic loss is recognized immediately if the carrying amount is greater than the fair value. If the fair value is greater than the sale price, the difference between the FMV and sale price is deferred, and the difference between the carrying value and fair value is recognized immediately.Operating leaseback Gain or losses (other than the real economic losses) are deferred and amortized over the term of the lease as a reduction of the rental expense. The deferred gain is considered as deferred credit.The following is a good summary of when to defer gain or loss regarding the the sale-leaseback In accordance with FAS 145, a modification of a capital lease that converts it into an operating lease is treated as a sale-leaseback.Study Notes- FAR M11 (Bonds)Types of Bonds There are various kinds of bonds that you need to be familiar with in order to answer a question regarding the total value of a classification of bonds. Term Bonds vs. Serial BondsTerm bonds are bonds that are all due at the same time. Serial bonds mature at different times. Debenture Bonds vs. Guaranteed Bonds A debenture bond does not have any specific asset supporting the bond as collateral. The bondholders of debenture bonds have a standing equal to general creditors in the case of bankruptcy of the bond issuer. Other types of bonds are guaranteed in that they have some sort of collateral related to the bonds. This way, if the issuer of the bonds fails to pay the bonds upon maturity, the holders of the bonds can obtain the collateral in settlement of the amount owed to them. Some of these types of bonds are: Collateral bonds have a specific asset set up as collateral. If the issuer defaults on the interest payment or the repayment of the principal, the bondholders can pursue legal action to obtain the collateral. Guaranty bonds are guaranteed by a third party. For example, a parent company guarantees the bonds that are issued by a subsidiary. In the case of the default by the subsidiary, the parent company has guaranteed performance of the bonds. Mortgage bonds are ba