Hi,
In a finance lease, we begin (and end) with equal amounts of assets & liabilities (equal to the PV of future lease payments) on the balance sheet. Can anyone clarify the missing links in the balance sheet when the assets & liabilities have different values (owing to a specific rate of depreciation on the assets side and a regular amortization mechanism on the libilities’ side) ? The point being that I am pondering over the reconciliation of the balance sheet in subsequent years when the values on the assets & liabilities won’t match. Thanks in advance for your help !
I wrote a series of articles on leases that may be of some help, starting here: http://financialexamhelp123.com/leases-general/
There is no missing link and seems you are a bit confused between:
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regular financial lease shown in BS (A/L)
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simulation or analytical adjustement of operating lease OBS liabilty in case discounted future lease payments are used. It is important to mention that new IFRS 16 does no longer distuingish financial and operating lease liability and in the future both will be shown on BS. As I know FASB and IASB have been agreed same approach.
Thus, current treatment of an asset purchase by finacial lease:
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Asset DR + 1000
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Liability (principal debt to lessor) CR + 1000
Interest are expensed as occur (with only exception of interest occured until bringing an asset to use which may be capitalized under IFRS).
P/L
an asset depreciation + interest in lease annuity
Operating lease
current treatment at lessee
BS - asset is not shown in BS
P/L lease expense (determined as an original asset depreciation at lessor’s BS + lessor margin)
Adjusment of operating lease as On Balance financing
Operating lease should be recognized as discounted asset and liablity in BS thus an asset depreciation and interest payment should be also recognized in P/L.
There is no mismatch because differences are offset in P/L and affect the earnings of current period.