Accounting Treatment for lease transaction

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Parvej akhtar

Professional

105 Points Posted on 08 October 2021

Hi Everyone,

We're about to lease one of our properties. The term of the lease is 10 years with annual rent of Rs. 52,000. However, there is also an option to buy the property which affects the first two years – this can be at any time within those two years. The option is for Rs. 900,000.00, . The lessee told us he would do everything he can to execute the option ASAP.

The question is: how should we account for this arrangement?

I'm not sure how to interpret the above and how to account for a lease I know will be most probably less than 12 months due to execution of a purchase option.

Any ideas?

Thank you

Replies (2)

Kev Men

790 Points Posted on 08 October 2021

As per AS 19, if the substantial risk rewards are transferred then it is considered a finance lease, if not then it is an operating lease. The cash flows are a good indicator to determine the same. In the presnt case, the total lease rentals receivable = Rs. 52000 *10 years i.e. 520000 whereas the value of the property seems to be around Rs. 900000 since the lessee is willing / has an option to buy it within 2 years. The total lease rentals are not near the fair value / do not depict an element of financing. Also, the lessee may not buy the property since he has a 'option' and it's not a guarantee. Hence it is a 'operating lease'. You will need to show the asset in your balance sheet and charge depreciation. The lease rentals received will be shown as income in your profit & loss A/c.