BLM15605 - Lease accounting: finance lease accounting: finance lessees: example 2: back-loaded rental structure

TradCo enters into a lease with BankCo under which it hires an asset (which TradCo itself had identified and had arranged for the bank to buy at cost £50,000). The asset is estimated to have a useful life of 20 years. The terms of the lease are that

• rent of £1,000 per annum is payable in each year 1-3
• rent of £34,000 per annum is payable in each year 4-5
• rent of £50 per annum is payable in each year 6-25
• in the event that the lessee wishes to terminate the lease then, net of any amounts outstanding on the financing arrangements, the lessee will receive a rebate of rentals equivalent to 97% of net sale proceeds.

The facts are exactly the same as in Example 1 (see BLM15505),

except that the ‘profile’ of the rents in the primary lease period is different. And, because the amount borrowed is effectively outstanding for a longer period, this is reflected in larger overall repayments, or rent.

Issues to consider from an accountancy point of view, as with Example 1, are

• the apportionment of the rentals between ‘interest’ and ‘capital’ elements, see BLM15610
• allocating the ‘interest element’ of the rentals over the lease period, using the effective interest method see BLM15615.