Sale and Leaseback
A sale and leaseback transaction is executed by a Party A selling an asset to Party B and Party B simultaneously leasing out the same asset to Party A. It is used as a form of financing in which the seller/lessee gets immediate funds while the buyer/lessor obtains a collateral.
In accordance with IFRS 16, accounting for sale and leaseback transaction depends on whether the transaction is considered a sale in accordance with the applicable revenue recognition standards, such as IFRS 15.
If the transaction qualifies as a sale, the seller/lessee recognizes the right of use asset at an amount which corresponds to the proportionate carrying amount of the asset leased-back. Hence, a gain or loss is recognized only to the extent of carrying amount actually transferred to the buyer/lessor. The lessor shall apply the requirements of lessor accounting to the lease-back.
If the fair value for consideration received exceeds the fair value of the asset sold, the excess shall be considered additional financing provided by the lessor to the lessee. Similarly, if the consideration falls short of the fair value of asset, the difference is treated as a prepayment of lease payments. This determination is based either on (a) the difference between the two fair values or (b) the difference in present values of lease payments agreed and the lease payment at market rate, whichever is more readily available.
If the transaction does not qualify as a sale, the seller/lessee shall continue to keep the leased-back asset on its statement of financial position and recognize a financial liability for consideration received. Similarly, the buyer/lessor recognizes a financial asset in respect of the consideration transferred instead of a lease receivable.
Example: accounting and journal entries
Zharghun Utilities (ZU) has multiple power generation facilities. Due to the covid-19 crisis, it faced severe liquidity crisis. Its top management has decided to sale and leaseback two of its properties whose details are as under:
- Item A: A gas-fired 40MW mobile power unit to Jowzjan Power for $200 million. The fair value of the unit is $160 million and the carrying amount of the plant before the sale was $130 million.
- Item B: A 50-MW wind power facility for $120 million.
Assume that Item A meets the requirements of IFRS 15 for recognition as a sale while Item B does not.
Since no sale has occurred, Item B must be recognized as a financial liability as follows in the books of Zhargun Power:
In case of Item A, the seller/lessee shall recognize the right of use asset at the previous carrying amount. . However, any excess of the fair value of the consideration received over the fair value of asset transferred, amounting to $40 million (=$200 million - $160 million) must be accounting for as additional financing. Hence, the lease liability is restricted to the fair value of the asset leased-back.
At the time of sale, the following journal entry must be made:
|Right of use asset||$130M|
|Power Plant - PPE||$130M|