Financial Services

Accounting Treatments for Non-Performing Leases

There is no information in the guidance note on lease accounting, 1995, for non-performing assets. The general accounting principles for non-performing assets is contained in accounting standard 9 on Revenue Recognition which is more or less on the lines of the International Accounting Standards on the issue.

The Standard provides that whereas, in general, incomes are to be recognized on the basis of accrual, in case of an uncertainty in the ultimate realization of an income, the treatment is as follows:

  • If the uncertainty is prevalent at the time of raising the claim for the income, the recognition of the income shall be postponed
  • If the uncertainty arises subsequent to the claim being made, there shall be a provision made to the extent of the uncertainty.
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Legal Aspects of Leasing

As there is no separate statue for equipment leasing in India, the provisions relating to bailment in the Indian Contract Act govern equipment leasing agreements as well section 148 of the Indian Contract Act defines bailment as:

“The delivery of goods by one person to another, for some purpose, upon a contract that they shall, when the purpose is accomplished, be returned or otherwise disposed off according to the directions of the person delivering them. The person delivering the goods is called the ‘bailor’ and the person to whom they are delivered is called the ‘bailee’.

Since an equipment lease transaction is regarded as a contract of bailment, the obligations of the lessor and the lessee are similar to those of the bailor and the bailee (other than those expressly specified in the least contract) as defined by the provisions of sections 150 and 168 of the Indian Contract Act.… Read the rest

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Some Variants of Leases

1. Direct Lease

A direct lease can be defined as any lease transaction which is not a “sale and leaseback” transaction. In other words, in a direct lease, the lessee and the owner are two different entities. A direct lease can be of two types: Bipartite Lease and Tripartite Lease.

Bipartite Lease

In a bipartite lease, there are two parties to the transaction – the equipment supplier cum-lessor and the lessee. The bipartite lease is typically structured as an operating lease with in-built facilities like up gradation of the equipment (upgrade lease) or additions to the original equipment configuration. The lessor undertakes to maintain the equipment and even replaces the equipment that is in need of major repair with similar equipment in working condition (swap lease).… Read the rest

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Operating Lease Definition

The International Accounting Standards Committee defines an Operating Lease as “any lease other than a finance lease”.

An Operating Lease has the following characteristics:

  • The lease term is significantly less than the economic life of the equipment.
  • The lessee enjoys the right to terminate the lease at short notice without any significant penalty.
  • The lessor usually provides the operating know-how, suppliers, the related services and undertakes the responsibility of insuring and maintaining the equipment in which case an operating lease is called a ‘wet lease’. An operating lease where the lessee bears the costs of insuring and maintaining the leased equipment is called a ‘dry lease’.
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Finance Lease – Definition and Features

A lease is defined as finance lease if it transfers a substantial part of the risks and rewards associated with ownership from the lessor to the lessee. According to the International Accounting Standards Committee (IASC), there is a transfer of a substantial part of the ownership-related risks and rewards if:

i. The lease transfers ownership of the asset to the lessee by the end of the lease term; (or)

ii. The lessee has the option to purchase the asset at a price which is expected to be sufficiently lower than the fair market value at the date the option becomes exercisable and, at the inception of the lease, it is reasonably certain that the option will be exercised; (or)

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The concept and history of leasing

Leasing as financial service is a contractual agreement where the owner (lessor) of equipment transfers the right to use the equipment to the user (lessee) for an agreed period of time in return for a rental. At the end of the lease period the asset reverts back to the lessor unless there is a provision for the renewal of the contract or there is a provision for the transfers of ownership to the lessee. If there is any such provision for transfer of ownership, the deal is treated as hire purchase. Therefore, a lease could be generally defined as –

“A contract where a party being the owner (lessor) of an asset (leased asset) provides the asset for use by the lessee at a consideration (rentals), either fixed or dependent on any variables, for a certain period (lease period), either fixed or flexible, with an understanding that at the end of such period, the asset, subject to the embedded options of the lease, will be either returned to the lessor or disposed off as per the lessor’s instructions”.… Read the rest

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