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I would appreciate much if you can clarify/explain the following please.
(a) why recording the legal form of a finance lease can be misleading to users? (i knw its commercial substance)
(b) effect on the Financial Statements of a finance lease being incorrectly treated as an operating lease?
i am able to identify the difference between a finance lease and an operating lease and also account for them but i am not 100% sure of the effects.
a)Basically if what is actually a finance lease is accounted for as an operating lease just because of its legal form it leads to non-faithful representation being presented to users of financial statements.Users generally need to see the economic reality of the positions and transactions of an economic entity.Furthermore,in addition, it leads to comparability and consistency issues for users.
b)If what is in substance a finance lease is incorrectly stated as operating lease in financial statements then return on capital employed will be overstated as asset will not be shown in statement of financial position.Also since liability on lease will not be shown then gearing will be understated.
Thank u Mr jon 🙂 i know the examiner would love to trick us with something like this in a MCQ so that you for that
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