Posted: April 6th, 2016
There are two basic forms of leases: operating and capital leases. An operating lease involves only the right to use an asset for a period of time, where the asset is returned at the termination of the lease. With a capital lease, the lessee usually makes arrangements with the lessor with an option to acquire the asset at the end of the lease period. Because capital leases must be reflected on the balance sheet or statement of financial position, there has been a tendency for companies to simply classify all leases as operating, as this would allow them to defer expenses and report a lower debt amount. Such actions are often referred to as off-balance sheet reporting and can materially misrepresent the financial position of a company. The development of IAS 17 has created guidelines for determining how to classify and report a lease and reduce the amount of controversy involved. The intent is to stop off-balance sheet techniques for lease accounting to provide stakeholders with a more accurate representation of a company’s financial position. Once published, these new leasing rules will have a major impact on many companies.
Write a guide for a 2- to 4-page paper comparing capital and operating leases (similarities and differences) and explain how each are classified on financial statements. Explain how their classification and the changes in how they were reported over time impacted accounting practice.
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