Sale and finance leaseback – accounting for the excess sale proceeds
An asset that has a carrying value of €700 and a remaining useful life of 7 years is sold for €1,200 and leased back on a finance lease. This is accounted for as a disposal of the original asset and the acquisition of an asset under a finance lease for €1,200. The excess of sales proceeds of €500 over the original carrying value should be deferred and amortised (i.e. credited to profit or loss) over the lease term.
The net impact on income of the charge for depreciation based on the carrying value of the asset held under the finance lease of €171 and the amortisation of the deferred income of €71 is the same as the annual depreciation of €100 based on the original carrying amount.
In 2007 the Interpretations Committee considered the related area of sale and repurchase options, concluding that IAS 17 itself contains ‘the more specific guidance with respect to sale and leaseback transactions’. However, many still consider that there is an alternative treatment which is more consistent with the substance of the arrangement and with the approach in SIC-27 described at above, which deals with transactions that have the form but not the substance of leases. It follows the standard’s description of the transaction as ‘a means whereby the lessor provides finance to the lessee, with the asset as security’. [IAS 17.60]. The previous carrying value is left unchanged, with the sales proceeds being shown as a liability to be accounted for under IAS 39. The creditor balance represents the finance lease liability under the leaseback. This is consistent with IAS 18 which states that a transaction is not a sale and revenue is not recognised if the entity retains significant risks of ownership. [IAS 18.16]. By definition the entity will have retained the significant risks and rewards, because it now holds the asset under a finance lease.
Both methods of accounting for sale and leaseback transactions are seen in practice. Therefore, an entity should select a treatment as a matter of accounting policy and apply it consistently.
If the sales value is less than the carrying amount then the apparent ‘loss’ need not be taken to income unless there has been an impairment under IAS 36. [IAS 17.64]. There may be an obvious reason why the sales proceeds are less than the carrying value; for example, the fair value of a second-hand vehicle or item of plant and machinery is frequently lower than its book value, especially soon after the asset has been acquired by the entity. This fall in fair value after sale has no effect on the asset’s value-in-use. What this means, of course, is that in the absence of impairment, a deficit (sales proceeds lower than carrying value) will be deferred in the same manner as a profit and spread over the lease term.