874 SECTION 3 Financial Instruments and Liabilities essential characteristic of a BPO is that it’s expected to be exercised. So, when it is exercised, title to the leased asset passes to the lessee and, with title, any residual value. When that happens, the residual value cannot be considered an additional lease payment to the lessor, and it therefore is not incorporated into the computation of lease payments. Unguaranteed residual value. The previous example demonstrates that when the residual value is guaranteed, the lessee views it as a component of minimum lease payments. But what if the lessee does not guarantee the residual value? In that case, the lessee is not obligated to make any payments other than the periodic rental payments. As a result, the present value of the minimum lease payments—recorded as a leased asset and a lease liability—is simply the present value of periodic rental payments ($445,211). The same is true when the residual value is guaranteed by a third-party guarantor. (Insurance companies sometimes assume this role.) Effect on the Lessor of a Residual Value Guaranteed residual value. When the residual value is guaranteed, the lessor as well as the lessee views it as a component of minimum lease payments. If CompuDec retains title to the asset at the end of the lease term, then it would anticipate receiving the $60,000 residual value at the conclusion of the lease term. That amount would contribute to the total amount to be recovered by the lessor and would reduce the amount needed to be recovered from the lessee through periodic rental payments. The amount of each payment would be reduced from $100,000 to $92,931, calculated in Illustration 15–12B . The lessor subtracts the PV of the residual value to determine rental payments, but includes it in the lease receivable. Amount to be recovered (fair value) $479,079 Less: Present value of the residual value ($60,000 3 .56447 * ) (33,868 ) Amount to be recovered through periodic rental payments $445,211 Rental payments at the beginning of each of the next six years: ($445,211 ÷ 4.79079 † ) $ 92,931 *Present value of $1: n 5 6, i 5 10%. †Present value of an annuity due of $1: n 5 6, i 5 10%. You should notice that the lessor’s calculation of periodic rental payments is precisely the same as when we had the $60,000 BPO price in a previous section. It also is precisely the reverse of the lessee’s calculation of the amount to capitalize when the residual value is guaranteed. This is because when the residual value is guaranteed, both view it as an additional lease payment. In accordance with GAAP, the guaranteed residual value is a component of the minimum lease payments for both the lessor and lessee. 22 In fact, the amortization schedule is precisely the same as in Illustration 15–11A on page 871 when we had a BPO. If CompuDec had acquired the equipment for the $479,079 “selling price,” it would be a direct financing lease recorded as follows: Lease receivable (present value of minimum lease payments) ............... 479,079 Inventory of equipment (lessor’s cost) .............................................. 479,079 Illustration 15–12 , though, states that CompuDec manufactured it at a cost of $300,000, making it a sales-type lease. In Illustration 15–12C , we see the lessor’s entries for this salestype lease along with the lessee’s entries for comparison. Only the lessor’s initial entry on January 1, 2016, is different. All other entries in Illustration 15–12C are the same whether it’s a sales-type lease or a direct financing lease. 22 Later you will see that when the residual value is not guaranteed, it is not considered a component of minimum lease payments for either the lessor or the lessee; but it still affects the amount of periodic lease payments. Illustration 15–12B Lessor’s Calculation of Rental Payments When Lessor Retains Residual Value
Spiceland_Inter_Accounting8e_Ch15
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