Accounting for Leases - Ias 17 Leases

Introduction

IAS 17 Leases sets out the treatment for reporting lease transactions in the

financial statements. Leases are a major source of finance to a business and it is

important that the financial statements disclose sufficient information to the

readers of the financial statements. IAS 17, paragraph 10, states, "whether a

lease is a finance lease or an operating lease depends on the transaction rather

than the form of contract".

Substance over form

Information in the financial statements should represent transactions in

accordance with their commercial substance not merely their legal form. The

accounting for leases is the application of this concept, as the classification of a

lease as either a finance lease or an operating lease, depends on the substance

of the transactions rather than the legal form of the contract.

IAS 17 distinguishes between two types of lease transactions:

? A finance lease and an

? Operating lease

A finance lease "is a lease that transfers substantially all the risks and rewards

inherent to ownership of the asset". An operating lease is a lease other than a

finance lease. The classification of a lease is crucial, as different accounting,

approaches are required for the different types of leases.

Indicators to be considered, individually or in combination, when classifying a

lease as a finance lease includes:

1. If a lease transfers substantially all the risks and rewards, associated with

ownership of an asset the lease should be classified as a finance lease.

Risks involve meeting the costs of maintaining the asset or suffering the

fall in value of the asset through technological obscelecence. Rewards

include using the asset for substantially the whole of its useful life, and

accruing the profits from the use of the asset.

2. Ownership of the asset will pass to the lessee at the end of the lease.

3. The lessee has an option to purchase the asset at a cost significantly