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Leases, low value and short life exemption – ACCA Financial Reporting (FR)

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  2. Hi Sir,
    Thank you for your great lectures firstly. I have a question regarding a question on Kaplan workbook. The question is;
    On April 20×6 Taggarts acquires telephones for its sales force under a two-year lease agreement. The terms of the lease require an initial payment on $2000, followed by two payments of $8000 each on 31 March 20×7 and 31 March 20×8.

    My answer is;
    Year1
    DR expense 6750
    CR accruals 4750
    CR bank 2000

    Year2
    DR expense 2250
    DR accruals 5750
    CR bank 8000

    Year3
    DR expense 9000
    CR accruals 1000
    CR bank 8000

    SPL. Year1. Year2 Year3
    Expense. 6750. 2250. 9000

    SFP.
    Accruals. 4750. (1000). NIL

    Is my answer correct? can accruals be negative on year 2?
    Thank you for your help in advance!

    • My potential other answer is;
      Year1
      DR expense 6750
      CR accruals 4750
      CR bank 2000

      Year2
      DR expense 2250
      DR accruals 4750
      DR prepayment 1000
      CR bank 8000

      Year3
      DR expense 9000
      CR prepayment 1000
      CR bank 8000

      SPL. Year1. Year2. Year3
      Expense. 6750. 2250. 9000

      SFP.
      Accruals. 4750. NIL. NIL
      Prepayment – 1000. NIL

      Please help me out, which one is the correct way to do it?

    • In the same way. You look at the total payments and divide by the number of lease periods to work out the annual rental expense and then proceed from there. A rent free period in the second year isn’t really an likely situation anyway.

      Thanks

      • Hello Sir,
        What if there is no rent-free period, in that case, will we Dr. the SPL A/c and Cr. the Bank A/c with $2,000 for the 4 yrs and only the Rental expense be shown in the SPL?

        Thanks
        Jatin

    • Why should year 1 results benefit from the use of that asset yet show no expense? The accepted accounting treatment is to show the true cost of the lease of the asset and charge it over those accounting periods that benefit from the use of that leased asset

  5. hello,

    it is said that payable in arrears which also means pay in next year.
    so, the first year is rent-free, meaning we dont have to pay anything in yr2.
    but for yr2 payment, shouldnt it be paid in yr3?
    therefore we should not credit bank 2000 in yr2?

    correct me if im wrong

  6. Hello Chris,
    I was doing one example for low value asset from Kaplan P-185. Solution is also provided there but for one year only. I have tried to do next two year with journal as well. Would you please let me know if my entry is correct if not please let me what would be the correct treatment.
    Thanks.
    Mohammad Alam

    Example- On 1 April 20X6 Taggart acquires telephones for its sales force under a two-year lease agreement. The terms of the lease require an initial payment of $2,000, followed by two payments of $8,000 each on 31 March 20X7 and 31 March 20X8.

    Required- Show the impact of this lease arrangement on the financial statements of Taggart for the year ended 31 December 20X6.

    Solution-
    Annual Lease rental= (Total Rental Payable/ Total Lease Period)
    =($2,000+$8,000+$8,000) / 2 = $9,000 per Annum

    Expense to 31 December 20X6 = $9,000 × 9/12 = $6,750

    Double Entry-
    Year 20X6
    Dr Statement of Profit and Loss (Expense Increase) $6,750
    Cr Accruals $4,750
    Cr Bank $2,000

    Year 20X7
    Dr Statement of Profit and Loss (Expense Increase) $9,000
    Dr Accruals $4,750
    Cr Accruals $5,750
    Cr Bank $8,000

    Year 20X8
    Dr Statement of Profit and Loss (Expense Increase) $2,750
    Dr Accruals $5,750
    Cr Bank $8,000

    Financial statements extract:
    Statement of Profit or Loss for the year ended 31 December
    Lease rental Expense
    20X6 ($6,750)
    20X7 ($9,000)
    20X8 ($2,250)

    Statement of Financial Position as at 31 December
    Current Liabilities- Accrual
    20X6 $4,750
    20X7 $5,750
    20X8 Nil

    Thanks

    • Hi,

      A provision is essentially accounting for uncertainty and is a liability of uncertain timing or amount. Here we know the amount and the timing of the payment hence why it is not a provision.

      Thanks

  12. Hi Sir, when we didn’t pay the 1st year rental then the liability which is recording of $1,500 is the next year payable amount or something else? Secondly, Per annum rental is $1,500 then in the 2nd year why we we record accrual $ 500 ?

    Suppose that if any year payment couldn’t pay then what is the treatment of that year payment?

    • Hi,

      The $1,500 recorded in the first year is an accrual and is released over the remaining years of the lease, so three year in this instance.

      As you can see in the response to the post below, the accrual is reduced each year by $500.

      If we couldn’t pay then we would record a payable for the $2,000 due, but still record the expense and reduction in the accrual.

      Thanks

  13. hi sir, when we credited accrual in 1st yr after that we cr cash by 2000 if we didnt pay the lessor in first yr for the expense where did the 500 goes ?

    • Hi,

      So in the first year we don’t pay any cash, but in the second year we will pay the $2,000 and process the following entry:

      DR Expense 1,500
      DR Accrual 500 (balancing figure)
      CR Bank 2,000

      So for each of the following years after the first year we are releasing the accrual.

      Thanks

      • Hello,
        This entry:

        DR Expense 1,500
        DR Accrual 500 (balancing figure)
        CR Bank 2,000

        Will it be the same (identical) for year 3 and 4?
        Also, in the financial statement extract you did for SFP, you didn’t include any accounting for bank/cash. Why?

      • Hi,

        Yes, it will be the same for the final two years (year 3 and 4).

        We’ve not included and accounting for cash as we’ve not got any cash balance in the question to be able to adjust.

        Thanks

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