INTER C.A.

– ADVANCED ACCOUNTING

CLASSWORK QUESTIONS

Question 1
AD Softex Ltd. has taken the assets on lease from ACS Impex Ltd. the information is given below:
Lease term = 4 years
Fair value at inception of lease = ` 16,00,000
Lease Rent = ` 5,00,000 p.a. at the end of year
Guaranteed Residual Value = ` 1,00,000
Expected Residual Value = ` 3,00,000
Implicit Interest Rate = 14.97%
Do the accounting in the books of lessee & lessor.

Question 2
Prakash Limited leased a machine to Badal Limited on the following terms:
(` in lakhs)
(i) Fair value of the machine 40.00
(ii) Lease term 5 years
(iii) Lease rental per annum 8.00
(iv) Guaranteed residual value 1.60
(v) Expected residual value 3.00
(vi) Internal rate of return 15%
Discounted rates for 1st year to 5th year are 0.8696, 0.7561, 0.6575, 0.5718, and 0.4972
respectively.
Ascertain Unearned Finance Income.

Question 3
Annual lease rents = ` 50,000 at the end of each year.
Lease period = 5 years;
Guaranteed residual value = ` 25,000
Unguaranteed residual value (UGR) = ` 15,000
Fair Value at the inception (beginning) of lease = ` 2,00,000
Calculate Interest rate implicit on lease:

Question 4
NDA Ltd. availed a lease from Induga Ltd. on following terms :
 A lease for a tenor of 3 years, in the beginning of year 2001 for equipment costing

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` 7,00,000 and which has an expected useful life of 5 years. The fair market value
is also ` 7,00,000.
 3 equal annual payments are made at end of each year.
 The property reverts back to the lessor on termination of the lease.
 The unguaranteed residual value is estimated at ` 75,000 at the end of year 2003
 IRR = 10%
 The present value of Re. 1 due at the end of 3rd year at 10% rate of interest is
0.7513
 The present value of annuity of Re. 1 due at the end of 3rd year at 10% IRR is
` 2.4868
(i) State with reason whether the lease constitute finance lease.
(ii) Calculate unearned finance income

Question 5
A Ltd. sold machinery having WDV of ` 40 lakhs to B Ltd. for ` 50 lakhs and the same
machinery was leased back by B Ltd. to A Ltd. The lease back is operating lease. Comment
if –
(a) Sale price of ` 50 lakhs is equal to fair value.
(b) Fair value is ` 60 lakhs.
(c) Fair value is ` 45 lakhs and sale price is ` 38 lakhs.
(d) Fair value is ` 40 lakhs and sale price is ` 50 lakhs.
(e) Fair value is ` 46 lakhs and sale price is ` 50 lakhs
(f) Fair value is ` 35 lakhs and sale price is ` 39 lakhs.

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HOMEWORK SECTION

Question 6
Write short note on Sale and Lease Back Transactions as per Accounting Standard19.
As per AS 19 on ‘Leases’, a sale and leaseback transaction involves the sale of an asset
by the vendor and the leasing of the asset back to the vendor. The lease payments and
the sale price are usually interdependent, as they are negotiated as a package. The
accounting treatment of a sale and lease back transaction depends upon the type of
lease involved.
If a sale and leaseback transaction results in a finance lease, any excess or deficiency
of sale proceeds over the carrying amount should be deferred and amortised over the
lease term in proportion to the depreciation of the leased asset. If sale and leaseback
transaction results in a operating lease, and it is clear that the transaction is established
at fair value, any profit or loss should be recognised immediately.
If the sale price is below fair value any profit or loss should be recognised immediately
except that, if the loss is compensated by future lease payments at below market price,
it should be deferred and amortised in proportion to the lease payments over the period
for which the asset is expected to be used. If the sale price is above fair value, the excess
over fair value should be deferred and amortised over the period for which the asset is
expected to be used.

Question 7
B & P Ltd. availed a lease from N & L Ltd. The conditions of the lease terms are as under:
(i) Lease period is 3 years, in the beginning of the year 2010, for equipment costing `
10,00,000 and has an expected useful life of 5 years.
(ii) The Fair market value is also ` 10,00,000.
(iii) The property reverts back to the lessor on termination of the lease.
(iv) The unguaranteed residual value is estimated at ` 1,00,000 at the end of the year
2012
(v) 3 equal annual payments are made at the end of each year.
Consider IRR = 10%.
The present value of ` 1 due at the end of 3rd year at 10% rate of interest is ` 0.7513.
The present value of annuity of ` 1 due at the end of 3rd year at 10% IRR is ` 2.4868.
State whether the lease constitute finance lease and also calculate unearned finance
income.

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Computation of annual lease payment to the lessor `

Cost of equipment 10,00,000
Unguaranteed residual value 1,00,000
Present value of residual value after third year @ 10%
(` 1,00,000 × 0.7513) 75,130
Fair value to be recovered from lease payments
(10,00,000 – ` 75,130) 9,24,870
Present value of annuity for three years is 2.4868
Annual lease payment = ` 9,24,870 / 2.4868 3,71,911.70
The present value of lease payment i.e., ` 9,24,870 equals 92.48% of the fair market
value i.e., ` 10,00,000. As the present value of minimum lease payments substantially
covers the initial fair value of the leased asset and lease term (i.e. 3 years) covers the
major part of the life of asset (i.e. 5 years). Therefore, it constitutes a finance lease.
Computation of Unearned Finance Income
Total lease payments (` 3,71,911.70 x 3) 11,15,735
Add: Unguaranteed residual value 1,00,000
Gross investment in the lease 1,215,735
Less: Present value of investment
(lease payments and residual value) (75,130+9,24,870) (10,00,000) Unearned finance
2,15,735

Question 8
X Ltd. sold JCB Machine having WDV of ` 50 Lakhs to Y Ltd for ` 60 Lakhs and thesame
JCB was leased back by Y Ltd to X Ltd. The lease is operating lease
Comment according to relevant Accounting Standard if
(i) Sale price of ` 60 Lakhs is equal to fair value
(ii) Fair Value is ` 50 Lakhs and sale price is `45 Lakhs.
(iii) Fair value is ` 55 Lakhs and sale price is ` 62 lakhs
(i) Fair value is ` 45 Lakhs and sale price is ` 48 Lakhs.
According to AS 19, following will be the treatment in the given situations:
(i) When sales price of ` 60 lakhs is equal to fair value, X Ltd. should immediately
recognize the profit of `10 lakhs (i.e. 60 – 50) in its books.
(ii) When fair value of leased JCB machine is ` 50 lakhs & sales price is ` 45 lakhs,
then loss of ` 5 lakhs (50 – 45) to be immediately recognized by X Ltd. in its books
provided loss is not compensated by future lease payments.
(iii) When fair value is ` 55 lakhs & sales price is ` 62 lakhs, profit of ` 5 lakhs (55 - 50)

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to be immediately recognized by X Ltd. in its books and balance profit of ` 7 lakhs

(62-55) is to be amortised/deferred over lease period.
(iv) When fair value is ` 45 lakhs & sales price is ` 48 lakhs, then the loss of ` 5 lakhs
(5045) to be immediately recognized by X Ltd. in its books and profit of ` 3 lakhs
(48-45) should be amortised/deferred over lease period.

Question 9
Explain the types of lease as per AS 19.
For the purpose of accounting AS 19 ‘Leases’ classify the lease into two categories as
follows:
(i) Finance Lease
(ii) Operating Lease
Finance Lease: It is a lease, which transfers substantially all the risks and rewards incidental
to ownership of an asset to the lessee by the lessor but not the legal ownership. As per
para 8 of the standard, in following situations,
• the lease transactions are called Finance lease:
• The lessee will get the ownership of leased asset at the end of the lease term.
• The lessee has an option to buy the leased asset at the end of the lease term at
price, which is lower than its expected fair value at the date on which option will be
exercised.
• The lease term covers the major part of the life of asset even if title is not transferred.
• At the beginning of lease term, present value of minimum lease rental covers the
initial fair value.
• The asset given on lease to lessee is of specialized nature and can only be used by
the lessee without major modification
Operating Lease: It is lease, which does not transfer all the risks and rewards incidental
to ownership. Lease payments under an operating lease should be recognised as an
expense in the statement of profit and loss on a straight line basis over the lease term
unless another systematic basis is more representative of the time pattern of the user’s
benefit.

Question 10
Define the term Finance Lease. State any three situations when a lease would beclassified
as finance lease
As per AS 19 ‘Leases’, a finance lease is a lease that transfers substantially all the risks
and rewards incident to ownership of an asset.

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As per para 8 of the standard, classification of lease into a finance lease or an operating
lease depends on the substance of the transaction rather than its form. Three situations
which would normally lead to a lease being classified as a finance lease are:
(a) the lessor transfers ownership of the asset to the lessee by the end of the lease
term;
(b) the lessee has the option to purchase the asset at a price which is expected to be
sufficiently lower than the fair value at the date the option becomes exercisable
such that, at the inception of the lease, it is reasonably certain that the option will
be exercised;
(c) the lease term is for the major part of the economic life of the asset even if title is
not transferred.

Question 11
An equipment having expected useful life of 5 years, is leased for 3 years. Both the cost
and the fair value of the equipment are ` 6,00,000. The amount will be paid in 3 equal
installments and at the termination of lease, lessor will get back the equipment. The
unguaranteed residual value at the end of 3rd year is ` 60,000. The IRR of the investment
is10%. The present value of annuity factor of ` 1 due at the end of 3rd year at 10% IRR
is 2.4868. The present value of ` 1 due at the end of 3rd year at 10% rate of interest is
0.7513.
State with reason whether the lease constitutes finance lease and also compute the
unearned finance income.
(i) Determination of Nature of Lease
It is assumed that the fair value of the leased equipments is equal to the present
value of minimum lease payments.
Present value of residual value at the end of 3rd year = ` 60,000 x 0.7513
= ` 45,078
Present value of lease payments = ` 6,00,000 – ` 45,078
= ` 5,54,922
The percentage of present value of lease payments to fair value of the equipment is
(5,54,922 / ` 6,00,000) x 100 = 92.487%.
Since, it substantially covers the major portion of the lease payments, the lease
constitutes a finance lease.

(ii) Calculation of Unearned Finance Income

Annual lease payment = ` 5,54,922 / 2.4868 =` 2,23,147 (approx)

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Gross investment in the lease = Total minimum lease payment + unguaranteed

residual value
= (` 2,23,147 × 3) + ` 60,000 = ` 6,69,441 + ` 60,000 = ` 7,29,441
Unearned finance income = Gross investment - Present value of minimum lease
payments and unguaranteed residual value
= ` 7,29,441 – ` 6,00,000 = ` 1,29,441

Question 12
Lessee Ltd. took a machine on lease from Lessor Ltd., the fair value being ` 7,00,000.
The economic life of machine as well as the lease term is 3 years. At the end of each year
Lessee Ltd. pays ` 3,00,000. The Lessee has guaranteed a residual value of ` 22,000 on
expiry of the lease to the Lessor. However Lessor Ltd., estimates that the residual value
of the machinery will be only ` 15,000. The implicit rate of return is 15% p.a. and present
value factors at 15% are 0.869, 0.756 and 0.657 at the end of first, second and third
years respectively.
Calculate the value of machinery to be considered by Lessee Ltd. and the finance charges
in each year.
As per para 11 of AS 19 “Leases”, the lessee should recognize the lease as an asset and
a liability at the inception of a finance lease. Such recognition should be at an amount
equal to the fair value of the leased asset at the inception of lease. However, if the fair
value of the leased asset exceeds the present value of minimum lease payment from the
standpoint of the lessee, the amount recorded as an asset and liability should be the
present value of minimum lease payments from the standpoint of the lessee.
Value of machinery
In the given case, fair value of the machinery is ` 7,00,000 and the net present value of
minimum lease payments is ` 6,99,054. As the present value of the machine is less than
the fair value of the machine, the machine will be recorded at value of ` 6,99,054.
Calculation of finance charges for each year
Year Finance charge Payment Reduction in Outstanding
` ` outstanding liability `
liability `
1st year beginning - - - 6,99,054
End of 1st year 1,04,858 3,00,000 1,95,142 5,03,912
End of 2nd year 75,587 3,00,000 2,24,413 2,79,499
End of 3rd year 41,925 3,00,000 2,58,075 21,424

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Question 13
What do you understand by the term "Interest rate implicit on lease"?
Calculate the interest rate implicit on lease from the following details:
Annual Lease Rent ` 80,000 at the end of each year
Lease Period 5 Years
Guaranteed Residual Value ` 40,000
Unguaranteed Residual Value ` 24,000
Fair Value at the inception of the lease ` 3,20,000
Discounted rates for the first 5 years are as below:
At 10% 0.909, 0.826, 0.751, 0.683, 0621
At 14% 0.877, 0.769, 0.675, 0.592, 0.519
As per para 3 of AS 19 ‘ Leases’ the interest rate implicit in the lease is the discount rate
that, at the inception of the lease, causes the aggregate present value of
(a) the minimum lease payments under a finance lease from the standpoint of the
lessor; and
(b) any unguaranteed residual value accruing to the lessor, to be equal to the fair value
of the leased asset.
Present value at discount rate of 10%
Year Lease Payments (`) Disc. Factor (10%) Present Value (`)
1 80,000 0.909 72,720
2 80,000 0.826 66,080
3 80,000 0.751 60,080
4 80,000 0.683 54,640
5 80,000 0.621 49,680
5 40,000 0.621 24,840
5 24,000 0.621 14,904
Total 3,42,944

Present value at discount rate of 14%

Year Lease Payments (`) Disc. Factor (10%) Present Value (`)
1 80,000 0.877 70,160
2 80,000 0.769 61,520
3 80,000 0.675 54,000
4 80,000 0.592 47,360
5 80,000 0.519 41,520
5 40,000 0.519 20,760

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5 24,000 0.519 12,456

3,07,776

Interest Rate Implicit on lease = 10% +

*(3,42,944 – 33,20,000) = 12.61%

Question 14
A machine having expected useful life of 6 years, is leased for 4 years. Both the cost and the
fair value of the machinery are ` 7,00,000. The amount will be paid in 4 equal instalments
and at the termination of lease, lessor will get back the machinery. The unguaranteed
residual value at the end of the 4th year is ` 70,000. The IRR of the investment is 10%.
The present value of annuity factor of ` 1 due at the end of 4th year at 10% IRR is 3.169.
The present value of ` 1 due at the end of 4th year at 10% rate of interest is 0.683.
State with reasons whether the lease constitutes finance lease and also compute the
unearned finance income.
(i) Determination of nature of lease Fair value of asset ` 7,00,000
Unguaranteed residual value ` 70,000
Present value of residual value at the end of 4th Year = ` 70,000 x 0.683 = ` 47,810
Present value of lease payment recoverable = ` 7,00,000 - ` 47,810
= ` 6,52,190
The percentage of present value of lease payment to fair value of the asset is
= (` 6,52,190/`7,00,000)x100
= 93.17%
Since it substantially covers the major portion of lease payments and life of the
asset, the lease constitutes a finance lease.
(ii) Calculation of Unearned finance income
Annual lease payment =` 6,52,190 / 3.169
= ` 2,05,803 (approx.)
Gross investment in the lease = Total minimum lease payments + unguaranteed
residual value.
= (` 2,05,803 x 4) + `70000
= ` 8,23,212 + `70,000 = ` 8,93,212
Unearned finance income = Gross investment – Present value of minimum lease
payment and unguaranteed residual value.
= ` 8,93,212 – ` 7,00,000 (` 6,52,190 + ` 47,810) = ` 1,93,212

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PAST PAPER SECTION

Question 15
What do you understand by the term "Interest rate implicit on lease"? Calculate the
interest rate implicit on lease from the following details:
Annual Lease Rent : ` 80,000 at the end of each year
Lease Period : 5 Years
Guaranteed Residual Value : ` 40,000
Unguaranteed Residual Value : ` 24,000 Fair Value at the inception of the
lease : ` 3,20,000 Discounted rates for the first 5 years are as below:
At 10% 0.909, 0.826, 0.751, 0.683, 0.621
At 14% 0.877, 0.769, 0.675, 0.592, 0.519
(May’14)
Answer
As per para 3 of AS 19 ‘ Leases’ the interest rate implicit in the lease is the discount rate
that, at the inception of the lease, causes the aggregate present value of
(a) the minimum lease payments under a finance lease from the standpoint of the
lessor; and
(b) any unguaranteed residual value accruing to the lessor, to be equal to the fair value
of the leased asset.

Present value at discount rate of 10%

Year Lease Payments (`) Disc. Factor (10%) Present Value (`)
1 80,000 0.909 72,720
2 80,000 0.826 66,080
3 80,000 0.751 60,080
4 80,000 0.683 54,640
5 80,000 0.621 49,680
5 40,000 0.621 24,840
5 24,000 0.621 14,904
Total 3,42,944

Present value at discount rate of 14%

Year Lease Payments (`) Disc. Factor (10%) Present Value (`)
1 80,000 0.877 70,160
2 80,000 0.769 61,520

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3 80,000 0.675 54,000

4 80,000 0.592 47,360
5 80,000 0.519 41,520
5 40,000 0.519 20,760
5 24,000 0.519 12,456
Total 3,07,776

Interest Rate Implicit on lease = 10% + x (3,42,944 – 3,20,000)

= 10% + 2.609% = 12.609% or say 12.61%

Question 16
ABC Ltd. took a machine on lease from XYZ Ltd., the fair value being ` 10,00,000.
The economic life of the machine as well as the lease term is 4 years. At the end of each
year, ABC Ltd. pays ` 3,50,000. The lessee has guaranteed a residual value of ` 50,000
on expiry of the lease to the lessor. However, XYZ Ltd. estimates that the residual value
of the machinery will be ` 35,000 only. The implicit rate of return is 16% and PV factors
at 16% for year 1, year 2, year 3 and year 4 are 0.8621, 0.7432, 0.6407 and 0.5523
respectively. You are required to calculate the value of machinery to be considered by ABC
Ltd. and the finance charges for each year.
(May’17)
Answer
As per AS 19 “Leases”, the lessee should recognize the lease as an asset and a liability at
the inception of a finance lease. Such recognition should be at an amount equal to the
fair value of the leased asset at the inception of lease. However, if the fair value of the
leased asset exceeds the present value of minimum lease payment from the standpoint
of the lessee, the amount recorded as an asset and liability should be the present value
of minimum lease payments from the standpoint of the lessee.
Value of machinery
In the given case, fair value of the machinery is ` 10, 00,000 and the net present value
of minimum lease payments is ` 10, 07,020. As the present value of the machine is more
than the fair value of the machine, the machine and the corresponding liability will be
recorded at value of `10,00,000.

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Calculation of finance charges for each year

Year F i n a n c e Payment Reduction in O u t s t a n d i n g
charge outstanding liability liability
` ` ` `
1st year beginning - - - 10,00,000
End of 1st year 1,60,000 3,50,000 1,90,000 8,10,000
End of 2nd year 1,29,600 3,50,000 2,20,400 5,89,600
End of 3rd year 94,336 3,50,000 2,55,664 3,33,936
End of 4th year 53,430 3,50,000 2,96,570 37,366

Working Note:
Present value of minimum lease payments
Annual lease rental x PV factor
` 3,50,000 x (0.8621 + 0.7432 + 0.6407+ 0.5523) ` 9,79 ,405
Present value of guaranteed residual value
` 50,000 x (0.5523) ` 27,615
` 10,07,020

Question 17
A Ltd. sold JCB having WDV of ` 20 lakhs to B Ltd. for ` 24 lakhs and the same JCB was
leased back by B Ltd. to A Ltd. The lease is operating lease. In context of Accounting
Standard 19 "Leases" explain the accounting treatment of profit or loss in the books of A
Ltd. if
(i) Sale price of ` 24 lakhs is equal to fair value.
(ii) Fair value is ` 20 lakhs and sale price is ` 24 lakhs.
(iii) Fair value is ` 22 lakhs and sale price is ` 25 lakhs.
(iv) Fair value is ` 25 lakhs and sale price is ` 18 lakhs.
(v) Fair value is ` 18 lakhs and sale price is ` 19 lakhs. (May’18)

Answer
Following will be the treatment in the given cases:
• When sale price of ` 24 lakhs is equal to fair value, A Ltd. should immediately
recognise the profit of `4 lakhs (i.e. 24 – 20) in its books.
• When fair value is ` 20 lakhs & sale price is ` 24 lakhs then profit of ` 4 lakhs is to
be deferred and amortised over the lease period.
• When fair value is ` 22 lakhs & sale price is ` 25 lakhs, profit of ` 2 lakhs (22 - 20)

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to be immediately recognised in its books and balance profit of `3 lakhs (25-22) is

to be amortised/deferred over lease period.
• When fair value of leased machinery is ` 25 lakhs & sale price is ` 18 lakhs, then loss
of ` 2 lakhs (20 – 18) to be immediately recognised by A Ltd. in its books provided
loss is not compensated by future lease payment.
• When fair value is ` 18 lakhs & sale price is ` 19 lakhs, then the loss of ` 2 lakhs
(20-18) to be immediately recognised by A Ltd. in its books and profit of ` 1 lakhs
(19-18) should be amortised/deferred over lease period.

Question 18
Ram Ltd. sold a machine having WDV of ` 125 lakhs to Shyam Ltd. for ` 150 lakhs and the
same machine was leased back by Shyam Ltd. to X Ltd. under Operating lease system :
Comment according to relevant Accounting Standard if:
(i) Sale price of ` 150 lakhs is equal to fair value.
(ii) Fair value is ` 125 lakhs and Sale price is ` 112.50 lakhs.
(iii) Fair value is ` 137.50 lakhs and Sale price is ` 155 lakhs.
(iv) Fair value is ` 112.50 lakhs and Sale price is ` 120 lakhs.
(May’18)
Answer
According to AS 19, following will be the treatment in the given situations:
(i) When sales price of ` 150 lakhs is equal to fair value, Ram Ltd. should immediately
recognize the profit of `25 lakhs (i.e. 150 – 125) lakhs in its books.
(ii) When fair value of leased machine is ` 125 lakhs & sales price is ` 112.50 lakhs, then
loss of ` 12.5 lakhs (125 – 112.50) lakhs to be immediately recognized by Ram Ltd.
in its books provided loss is not compensated by future lease payments.
(iii) When fair value is ` 137.5 lakhs & sales price is ` 155 lakhs, profit of ` 12.5 lakhs
(137.5- 125) lakhs to be immediately recognized by Ram Ltd. in its books and
balance profit of ` 17.5 lakhs (155-137.50) lakhs is to be amortised/deferred over
lease period.
(iv) When fair value is ` 112.5 lakhs & sales price is ` 120 lakhs, then the loss of ` 12.5
lakhs (125-112.5) lakhs to be immediately recognized by Ram Ltd. in its books and
profit of ` 7.5 lakhs (120-112.5) lakhs should be amortised/deferred over lease
period.

Question 19
A machine was given on 3 years operating lease by a dealer of the machine for equal

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annual lease rentals to yield 30% profit margin on cost ` 1,50,000. Economic life of the
machine is 5 years and outputs from the machine are estimated as 40,000 units, 50,000
units, 60,000 units, 80,000 units and 70,000 units consecutively for 5 years. Straight line
depreciation in proportion of output is considered appropriate. Compute the following:
(i) Annual Lease Rent
(ii) Lease Rent income to be recognized in each operating year and
(iii) Depreciation for 3 years of lease. (Nov’18)

Answer
(b)
(i) Annual lease rent
Total lease rent
= 130% of ` 1, 50,000 x Output during lease period
Total output
= 130% of ` 1,50,000 x (40,000 +50,000+ 60,000)/(40,000 + 50,000 + 60,000 +
80,000 + 70,000)
= 1,95,000 x 1,50,000 units/3,00,000 units = ` 97,500
Annual lease rent = ` 97,500 / 3 = ` 32,500
(iii) Lease rent Income to be recognized in each operating year
Total lease rent should be recognised as income in proportion of output during
lease period, i.e. in the proportion of 40 : 50 : 60.
Hence income recognised in years 1, 2 and 3 will be as:
Year 1 ` 26,000,
Year 2 ` 32,500 and
Year 3 ` 39,000.
(iv) Deprecation for three years of lease
Since depreciation in proportion of output is considered appropriate, the depreciable
amount ` 1,50,000 should be allocated over useful life 5 years in proportion of
output, i.e. in proportion of 40 : 50 : 60 : 80 : 70 .
Depreciation for year 1 is ` 20,000, year 2 = 25,000 and year 3 = 30,000.

Question 20
Jaya Ltd. took a machine on lease from Deluxe Ltd., the fair value being ` 11,50,000.
Economic life of the machine as well as lease term is 4 years. At the end of each year,
lessee pays ` 3,50,000 to lessor. Jaya Ltd. has guaranteed a residual value of ` 70,000
on expiry of the lease to Deluxe Ltd., however Deluxe Ltd. estimates that residual value

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will be only ` 25,000. The implicit rate of return is 10% p.a. and present value factors
at 10% are : 0.909, 0.826, 0.751 and 0.683 at the end of 1st, 2nd, 3rd and 4th year
respectively.
Calculate the value of machinery to be considered by Jaya Ltd. and the value of the lease
liability as per AS-19. (5 Marks – May 2019 – IPCC) (May’ 19)

Answer
According to para 11 of AS 19 “Leases”, the lessee should recognise the lease as an asset
and a liability at an amount equal to the fair value of the leased asset at the inception
of the finance lease. However, if the fair value of the leased asset exceeds the present
value of the minimum lease payments from the standpoint of the lessee, the amount
recorded as an asset and a liability should be the present value of the minimum lease
payments from the standpoint of the lessee.
In calculating the present value of the minimum lease payments the discount rate is
the interest rate implicit in the lease. Present value of minimum lease payments will be
calculated as follows:
Year Minimum Lease Internal rate of return Present value `
Payment ` (Discount rate @10%)
1 3,50,000 0.909 3,18,150
2 3,50,000 0.826 2,89,100
3 3,50,000 0.751 2,62,850
4 4,20,000* 0.683 2,86,860
Total 14,70,000 11,56,960
Present value of minimum lease payments ` 11,56,960 is more than fair value at the
inception of lease i.e. ` 11,50,000, therefore, the lease liability and machinery should be
recognized in the books at ` 11,50,000 as per AS 19.

Question 21
Sun Limited leased a machine to Moon Limited on the following terms:
(Amount in `)
Fair value at inception of lease 50,00,000
Lease Term 4 Years
Lease Rental per annum 16,00,000
Guaranteed residual value 3,00,000
Expected residual value 4,50,000
Implicit Interest rate 15%

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Discounted rates for 1st year, 2nd year, 3rd year and 4th year are 0.8696, 0.7561,
0.6575 and 0.5718 respectively.
Calculate the value of Lease Liability and ascertain Unearned Finance Income as per AS-
19.

Answer
According to para 11 of AS 19 “Leases”, the lessee should recognise the lease as an
asset and a liability at an amount equal to the fair value of the leased asset at the
inception of the finance lease. However, if the fair value of the leased asset exceeds the
present value of the minimum lease payments from the standpoint of the lessee, the
amount recorded as an asset and a liability should be the present value of the minimum
lease payments from the standpoint of the lessee. In calculating the present value of
the minimum lease payments the discount rate is the interest rate implicit in the lease.
Present value of minimum lease payments will be calculated as follows:

Year Minimum Lease Payment Internal rate of return Present value `

` (Discount rate @15%)
1 16,00,000 0.8696 13,91,360
2 16,00,000 0.7561 12,09,760
3 16,00,000 0.6575 10,52,000
4 19,00,000 0.5718 10,86,420
Total 67,00,000 47,39,540

Present value of minimum lease payments i.e. ` 47,39,540 is less than fair value at the
inception of lease i.e. ` 50,00,000, therefore, the value of lease is ` 47,39,540 and lease
liability should be recognized in the books at ` 47,39,540 as per AS 19.

Calculation of Unearned Finance Income

As per AS 19 on Leases, unearned finance income is the difference between (a) the gross
investment in the lease and (b) the present value of minimum lease payments under a
finance lease from the standpoint of the lessor; and any unguaranteed residual value
accruing to the lessor, at the interest rate implicit in the lease.
Where:
(a) Gross investment in the lease is the aggregate of (i) minimum lease payments from
the stand point of the lessor and (ii) any unguaranteed residual value accruing to
the lessor.

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Gross investment = Minimum lease payments + Unguaranteed residual value = [Total

lease rent + Guaranteed residual value(GRV)] + Unguaranteed residual value
(URV)
= [(` 16,00,000 4 years) + ` 3,00,000] + ` 1,50,000 = ` 68,50,000

(b) Present value of minimum lease payment from Lessor’s view point lease liability
` 47,39,540 + present value of (URV) unguaranteed residual value (` 1,50,000 x
0.5718) = ` 48,25,310
Unearned Finance Income = (a) – (b) = ` 68,50,000 – ` 48,25,310= ` 20,24,690

Question 22
Classify the following into either operating lease or finance lease with reason:
(1) Economic life of asset is 10 years, lease term is 9 years, but asset is not acquired at
the end of lease term.
(2) Lessee has option to purchase the asset at lower than fair value at the end of lease
term.
(3) Lease payments should be recognized as an expense in the statement of Profit &
Loss of a lessee.
(4) Present Value (PV) of Minimum Lease Payment (MLP) = "X". Fair value of the asset is
"Y". And X = Y.
(5) Economic life of the asset is 5 years, lease term is 2 years, but the asset is of special
nature and has been procured only for use of the lessee.
(Nov’ 19)
Answer
(i) The lease will be classified as a finance lease, since a substantial portion of the life
of the asset is covered by the lease term.
(ii) If it becomes certain at the inception of lease itself that the option will be exercised
by the lessee, it is a Finance Lease.
(iii) It is an operating lease under which lease payments are recognized as expense
in the profit and loss account of lessee to have better matching between cost and
revenue.
(iv) The lease is a finance lease if X = Y, or where X substantially equals Y.
(v) Since the asset is of special nature and has been procured only for the use of lessee,
it is a finance lease.

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Question 23
From the following information, compute unearned finance income as per AS-19.
Fair value of Machine ` 65 lakh
Lease Term 5 years
Lease Rent ` 10 lakh per annum
Guaranteed Residual Value ` 1.4 lakh
Expected Residual Value ` 2.3 lakh
Internal Rate of Return 10%
Discount rates from 1st to 5th year are 0.909, 0.826, 0.751, 0.683 and 0.621
respectively. (Nov’ 19)

Answer
As per AS 19 on Leases, unearned finance income is the difference between (a) the gross
investment in the lease and (b) the present value of minimum lease payments under a
finance lease from the standpoint of the lessor; and any unguaranteed residual value
accruing to the lessor, at the interest rate implicit in the lease.
Where:
(a) Gross investment in the lease is the aggregate of (i) minimum lease payments from the
stand point of the lessor and (ii) any unguaranteed residual value accruing to the lessor.
Gross investment = Minimum lease payments + Unguaranteed residual value = [Total
lease rent + Guaranteed residual value (GRV)] + Unguaranteed residual value (URV)
= [(` 10,00,000 x 5 years) + ` 1,40,000] + ` 90,000 = ` 52,30,000 (a)
(b) Table showing present value of
(i) Minimum lease payments (MLP) and
(ii) Unguaranteed residual value (URV).
Year MLP inclusive of URV Internal rate of return Present Value
` (Discount factor @ 15%) `
1 10,00,000 0.909 9,09,000
2 10,00,000 0.826 8,26,000
3 10,00,000 0.751 7,51,000
4 10,00,000 0.683 6,83,000
5 10,00,000 0.621 6,21,000
(GRV)1,40,000 0.621 86,940
51,40,000 (i) 38,76,940
(URV)90,000 0.621 (ii) 55,890
52,30,000 (i)+ (ii) 39,32,830 (b)

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Question 24
A machine was given on 3 years operating lease by a dealer of the machine for equal
annual lease rentals to yield 30% profit margin on cost of ` 2,25,000. Economic life of
the machine is 5 years and output from the machine is estimated as 60,000 units, 75,000
units, 90,000 units, 1,20,000 units and 1,05,000 units consecutively for 5 years. Straight
line depreciation in proportion of output is considered appropriate. You are required to
compute the following as per AS-19.
(i) Annual Lease Rent
(ii) Lease Rent income to be recognized in each operating year and
(iii) Depreciation for 3 years lease
(Dec’ 21)

Question 25
X Ltd. sold machinery having WDV of ` 300 lakhs to Y Ltd. for ` 400 lakhs and the same
machinery was leased back by Y Ltd. to X Ltd. The lease back arrangement is operating
lease. Give your comments in the following situations:
(i) Sale price of ` 400 lakhs is equal to fair value.
(ii) Fair value is ` 450 lakhs.
(iii) Fair value is ` 350 lakhs and the sale price is ` 250 lakhs.
(iv) Fair value is ` 300 lakhs and sale price is ` 400 lakhs.
(v) Fair value is ` 250 lakhs and sale price is ` 290 lakhs.
(Jan’ 21)

Question 26
What are the disclosures requirements for operating leases by the lessee as per AS-19?
(May’ 22)

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REVISION QUESTIONS

Question 27
S. Square Private Limited has taken machinery of finance lease from S.K. Ltd. The
information is as under:
Lease term = 4 years
Fair value at inception of lease = ` 20,00,000
Lease rent = ` 6,25,000 p.a. at the end of year
Guaranteed residual value = ` 1,25,000
Expected residual value = ` 3,75,000
Implicit interest rate = 15%
Discounted rates for 1st year, 2nd year, 3rd year and 4th year are 0.8696, 0.7561, 0.6575
and 0.5718 respectively.
Calculate the value of the lease liability as per AS-19.

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