Lease Document: The Main Points Essay

The above is a lease document written to the owner outlining the how the information contained in the FASB standards on leases; may change the initial recognition of the leased assets; as well as the obligations it may exert on the lessee’s financial records, in the case it is used as a financial accounting standard. This lease document will also address how subsequent measurements may be recognized.

From the FASB discussion paper it should be noted that the initial recognition of leased assets will change; as the lessee will have to recognize the asset and the liability components arising from the lease of the asset. First the lessee will have to classify the lease contract to either an operating lease or a finance lease. Under this approach he will give consideration to the asset as a source of business asset; source of business liabilities and these automatically amount to material rights and obligations. From the onset of the lease contract; the lessee should recognize the asset as a business asset that he has the right to use without any limitation as based on the lease terms and agreement. In this case the lessee is rather recognizing the contract as one for service rather than one giving him right of use to the asset. This is because he should account for both the assets and liabilities arising from the contract. In the case that the lessee recognizes the lease as an operating lease; then the lessee will have to recognize the asset in calculating profits or losses, as the lease payment will be accounted for in a straight line basis.

From any lease contract there is an associated asset and liability component introduced into the accounts of the lessee; therefore the treatment of the lease payments and service charges will greatly impact on and place obligations on the lessee’s accounts. From the lease contract; the lessee will obtains the valuable right to the use of the leased asset, while on the other hand the obligation to pay the rentals due or pre-paid, will affect the financial accounts of the lessee as they act as operating expenses. These in the long run determine the profit or loss situation of the business. The lease contract further affects the current and fixed assets available for use by the business; as the leased asset is treated like a business asset though not long-term; therefore impacting on the lessee’s financial accounts. However in the case that the lease is classified as an operating one; the lessee will only consider or recognize the accrual of rentals either due or pre-paid; and not assets or liabilities. The lease may further demand that the lessee maintain the asset in a specified state; which would mean that the lessee incurs further expenses on maintenance that will impact and place obligations on his financial records and status. The lessee may be obligated to incur expenses involved in returning the leased item to the lesser; which will place demands on his financial records and status. Other expenses that may place obligations on the financial records include dismantling costs and carriage costs that may arise from the practice of returning the asset to the owner. In general, the right to use a leased asset is an asset while the obligation to pay rentals is a liability in consideration under financial accounting. In the case of more complex contracts; the lessee’s financial accounts may be obliged to the payment of inconsistent or contingent rentals. The lessee’s financial accounts may also be engaged in the payment of compensations associated with decline in values of the leased asset; commonly referred to as ‘residual worth guarantees’.

In this case subsequent measures are to be recognized which are meant to ascertain the lessee’s right-of- using the asset, and the resultant obligations to pay the rentals. In making subsequent measurements; the link between the obligation to pay rentals and the right to use the assets is to be established. However the fundamental difference between the treatments of an operating lease from a finance lease is to be recognized. This is the case because finance leases may be accounted for as purchases; where recognition is given to interest expense on the obligation to pay rentals. Mortgage-based amortization may be used which provides that the obligations reduce more in the afterward years of the lease than during the earlier years. Another approach is amortizing the right to use the asset through mortgage-based amortization; which results in intervallic amortization fees that rise during the lease contract term. The other approach is basing the amortization of the liability and asset obligations on the lessee’s advancing borrowing rate. The effect of this approach is that the amortization of the asset and liability taken into account will net to zero in the proceeds statements. Another approach is where rental payments are included in the calculation of expenses within the proceeds statements; based on a straight-line starting point, across the lease term.

In ascertaining the obligations of the lessee to pay rentals two approaches may be used that include the fair value approach; as it provides and reflects the current market conditions and prices thus giving a more relevant view of the lease status. The other approach is the amortized cost-based approach which is based on that the lessee accrues interest on the outstanding requirement to reimburse the rentals.

Work cited

Messina, John. “California Commercial Lease Option Purchase Agreements Line by Line”. Bangalore: Thomson West. (2009): 15-120