Accounting for Leases of Aircraft Fleet

Assets in the Global Airline Industry

T R A N S P O RT
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Introduction 3

General principles for lease accounting 4

Substance over form 4
Risks and rewards approach 5

Classification of leases 6
General requirements 6
Key considerations for the passenger airline industry 7

Sales and leaseback transactions 8

General requirements 8
Key considerations for the passenger airline industry 8

Defeasance of lease obligations 10

General requirements 10
Key considerations for the passenger airline industry 10

Disclosures 11

Appendix 1 Definitions of terms under IFRS 13

Appendix 2 Classification of a lease 16

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Introduction

With recent increasing aircraft orders and an upswing in the airline

industry over 2006, the aircraft leasing industry is booming.

Significant industry restructuring in North America and large aircraft orders

out of Asia and the Middle East requiring financing indicate that there should
be ongoing demand in the leasing industry in the near-term future.

Along with this increase in activity, comes the associated accounting issues
regarding lease classification, i.e. whether a lease is treated as an operating
lease or a finance lease and thus whether it is off or on balance sheet.

The extent to which the selection of a particular financing structure is

motivated by a desire to account for a leased asset off balance sheet is a
matter for debate. Undoubtedly, some airlines are keen to avail themselves
of structures which give rise to off balance sheet treatments for reasons
typically associated with balance sheet gearing, borrowing ratios, borrowing
limits and covenants. Despite this, it is widely recognised that when lenders
and analysts review an airline's financial statements for setting debt
covenants, they focus closely on the extent of long-term operating lease
commitments shown by way of footnote and adjust debt ratios accordingly.

The accounting standard setters have decided it is time to have another

look at the fundamental concepts behind lease accounting. The International
Accounting Standards Board (IASB) and the United States Financial Accounting
Standards Board (FASB) established an international working group in
December 2006 to jointly fundamentally revisit lease accounting. The
objective of the joint project is to reconsider the accounting requirements
for leasing arrangements. The resulting standard is expected to replace
IAS 17 Leases. A discussion paper is expected in the first half of 2008.

The principal objective of this publication is to outline accounting

considerations for lessees of aircraft under International Financial Reporting
Standards (IFRS) based on existing IFRS lease accounting standards as at
January 2007. The publication has not sought to specifically address the initial
issues being considered in the IASB and FASB working group meetings in
the first half of 2007 given the early stage of the project.
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General principles
for lease accounting
IAS 17 Leases sets out accounting
treatment and
disclosure requirements for lessors
and lessees. SIC-27 Evaluating the
substance of transactions involving
the legal form of a lease is an
interpretation underlining the
substance over form principle.
IFRIC 4 Determining whether an
Arrangement contains a Lease
provides guidance as to whether
arrangements are or contain leases
that should be accounted for in
accordance with IAS 17 even though
the agreement is not in the legal
form of a lease. As per IFRIC 4
paragraph 6 the assessment of the
substance of agreements depends
on whether:
• fulfilment of the arrangement is
dependent on the use of a
specific asset or assets; and
• the arrangement conveys a right
to use the asset(s).
However lease agreements in the
airline industry are predominantly
in the legal form of a lease.
Substance over form
The IASB Framework for the
Preparation and Presentation of
Financial Statements provides a
broad discussion of the basis of
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preparing financial statements. It
establishes a general requirement
to account for transactions in
accordance with their substance
and economic reality and not merely
their legal form. The substance of
transactions or other events is not
always consistent with that which is
apparent from their legal or contrived
form. For example, accounting for a
transaction in the legal form of a
lease should reflect its economic
substance; and IAS 17 Leases
applies when an arrangement
conveys a right to use an asset for
a specified period of time, regardless
of whether the contract is structured
legally as a lease.
A lease is an agreement whereby
the lessor conveys to the lessee the
right to use an asset for an agreed
period of time in return for a payment
or series of payments. The definition
of a lease includes contracts that
are sometimes referred to as hire
or hire-purchase contracts. While
legal definitions of a lease, hire or
hire-purchase agreements may vary
between different legal jurisdictions,
IFRSs focus on the economic
substance of the agreement.
Therefore lease accounting is
applicable to contracts that meet
the definition of a lease under IFRSs
and that are not exempt from IAS 17,
regardless of their legal name or
definition (IAS 17.4, 17.6). Under IFRS,
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each lease is classified as either a
finance lease or an operating lease;
the classification determines the
accounting treatment to be followed
by the lessor and the lessee.
A series of linked transactions that
are in the legal form of a lease
should be accounted for in
accordance with their economic
substance. This situation may occur,
for example, when a transaction is in
the form of a lease but does not
transfer the right of use of the asset
from the lessor to the lessee. These
transactions may be entered into in
order to generate a tax saving (often
cross-border) or to generate fees.
Transactions in the legal form of a
lease are considered to be 'linked'
when the individual transactions
cannot be understood without
reference to the series as a whole.
In this case, the series of
transactions should be accounted for
as one transaction. Therefore the net
effect of the transaction is accounted
for, rather than accounting separately
for each component of the
transaction (SIC-27).
For example, entity P purchased an
airplane from entity L and leases it
back to L under a finance lease.
The payment to L for the airplane
has been paid into a trust account
securing lease payments to be made
by entity L for the lease payments.
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Entity P is entitled to significant tax
deductions due to accelerated tax
depreciation on the airplane. P has
no residual or credit risks arising
from the lease transaction as the
lease payment is secured by the
trust accounts. Therefore the risk
and rewards of the leased assets
have in substance not been
transferred to P; the reason for the
transaction is merely to achieve a tax
benefit since in substance P pays a
fee to the lessee to obtain tax
benefits. Therefore the transaction is
included in the scope of SIC-27
Evaluating the Substance of
Transactions Involving the Legal
Form of a Lease and the indicators
mentioned above demonstrate that
the arrangement may not, in
substance, involve a lease under
IAS 17. The accounting should reflect
the substance of the arrangement.
Risks and rewards
approach
The accounting treatment of a
lease under IFRS does not depend
on which party has legal ownership
of the leased asset, but rather on
which party bears the risks and
rewards incidental to ownership
of the leased asset.
A lease is considered to be a finance
lease when substantially all of the
risks and rewards incidental to
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ownership of the leased asset are
transferred from the lessor to the
lessee by the agreement. Typical
indicators assessed to determine
whether substantially all of the risks
and rewards are transferred include:
• the present value of the minimum
lease payments that the lessee is
required to make relative to the
fair value of the leased asset at
the inception of the lease
• the duration of the lease relative
to the economic life of the
leased asset
• the existence of a bargain
purchase option for the lessee
• the transfer of ownership of the
leased asset to the lessee.
Ultimately, lease classification
depends on the substance of the
transaction rather than the form
of the contract.
The broad objective of the risks
and rewards approach is to bring
'in substance purchase transactions'
on the balance sheet as finance
leases and account for them as
if they were purchased assets.
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For finance leases, the following
accounting arises:
• the asset and lease liability are
included on the balance sheet,
typically measured by reference
to the present value of the
minimum lease payments over
the lease term
• the interest and principal
inherent in the lease payments
are identified, the former being
charged to the income statement,
the latter reducing the lease liability
• the asset is depreciated in line
with policies applied to similar
purchased assets, having regard
to the lease term.
The accounting treatment arising
from operating leases is entirely
different; neither the asset nor
the lease liability are included on
the balance sheet and the lease
payments are charged evenly to
the income statement over the lease
term. Under an operating lease, both
lessee and lessor treat the lease as
an executory contract.
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Classification of leases

General requirements
The definitions in IAS 17 are important
in determining classification as a
finance lease or as an operating
lease. This classification is the basis
for all subsequent accounting for the
lease by both the lessee and lessor.
A detailed definition of terms is
attached as Appendix 1.

Appendix 2 contains a chart to assist

in determining whether substantially
all the risks and rewards have been
transferred and whether a lease is
a finance lease.

Amounts owed by a lessee to

a lessor may include charges for
repairs and maintenance or other
services. Similarly, payments due
under a lease may include charges
that represent reimbursements for
expenditures paid by the lessor on
behalf of the lessee (e.g. taxes,
insurance). When there are service
elements or other reimbursements
included in a single payment, these
elements must be separated from
the minimum lease payments that
relate to the right of use of the
leased asset. When calculating the
present value of minimum lease
payments to evaluate lease
classification, such service charges
and reimbursements are excluded as
they are not considered part of the
minimum lease payments. The
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accounting treatment of aircraft
maintenance obligations is another
complex area, however it is not
included in this publication.
Key considerations for
the passenger airline
industry
In assessing the balance of risks
and rewards between the lessor and
lessee many lease structures are
straightforward and classifying them
as operating or financing leases may
be relatively simple. Many operating
leases are of a conventional nature,
designed to provide the airline with
the flexibility to return the aircraft to
the lessor in order to facilitate fleet
planning and optimise aircraft
utilisation. Such leases are typically
relatively short term (or have periodic
break points). However, there are a
range of other lease structures
where the balance of risk and
rewards between lessor and lessee
is less easy to assess. These may
include the length of the lease and/or
a desire on the part of the airline to
have an option to acquire the aircraft
either at the end of the lease or at
break points throughout the lease.
The use of optional lease extension
periods, with fixed price rentals,
is common in the aircraft leasing
market. Consideration must then be
given to current market conditions and
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lessee operating intentions to
determine whether these fixed price
extension periods should be included
within the assessment of lease
classification.
Any assessment of the balance of
risks and rewards may be complicated
by the fact that the airline has sought
to negotiate some 'upside' in the
lease arrangements by obtaining an
option whilst managing the downside
risk by retaining the flexibility to return
the aircraft to the lessor at certain
points during the lease term.
Each transaction has to be judged on
its merits, although in cases where
the option represents a bargain
purchase option, its exercise should
be presumed and a finance lease
treatment would be appropriate.
Judgement will be required for other
fixed price options, and the extent to
which the option is 'in the money'
such as to indicate a finance lease
treatment. The position may also
be influenced by the existence of
termination penalties, or other
alternatives to purchase options,
which might be triggered if options
are not exercised. We do note
however many leases structured as
operating leases contain market value
options to purchase the aircraft at
specific breakpoints. A failure to
exercise the option or extend the
lease will often result in the payment
of a termination sum. It is possible
to envisage circumstances when the
probability of exercise is low and the
termination payment is not prohibitive
and so the lease is classified as an
operating lease. In that eventuality it is
considered that termination payments
should be accrued for over the period
of the lease as this amount forms part
of the minimum lease payments.
It is not practicable to put forward
categorical rules for determining
the appropriate classification in such
circumstances. In practice there can
be a real commercial tension between
the lessor and the lessee, as a result
of which the balance of risk and
rewards is not always clear cut.
This may even be influenced by each
party's views on prospective market
conditions, aircraft values etc.
The classification of the lease
should be determined at inception
but should be reviewed at intervals
such as break points or option
exercise points. Where a decision
to extend the period of the lease
term results in a reclassification from
an operating lease to finance lease,
the asset should be capitalised at the
present value of the minimum lease
payments at the market rate at the
date of reclassification.
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Sales and leaseback
transactions
General requirements
The sale and leaseback of aircraft is
commonplace amongst airlines. The
primary reason for entering into such
transactions is to realise economic
gains, generate cashflows, increase
fleet flexibility and alter the balance
sheet treatment of the aircraft by
leasing back under operating lease.
IAS 17 requires that any profit or
loss arising from such transactions
is treated as follows:
Sale and finance leaseback
If a sale and leaseback transaction
results in a finance lease, any profit
or loss should not be recognised
immediately through income but
should be deferred and amortised
over the lease term.
Sale and operating leaseback
If a sale and leaseback transaction
results in an operating lease and it
is clear that the transaction is
established at fair value, any
profit or loss should be recognised
immediately. If the sale price is
below fair value any profit or loss
should be recognised immediately
except if a loss is compensated by
future rentals at below market price.
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Then it should be deferred and
amortised in proportion to the rental
payments over the period for which
the asset is expected to be used. If
the sale price is above the fair value,
the excess over fair value should be
deferred and amortised over the
period for which the asset is expected
to be used. If the fair value at the
time of a sale and leaseback
transaction is less than the carrying
amount of the asset, a loss equal to
the amount of the difference between
the carrying amount and fair value
should be recognised immediately.
For finance leases no such
adjustment is necessary unless there
has been an impairment in value, in
which case, the carrying amount is
reduced to the recoverable amount.
Key considerations for
the passenger airline
industry
Varying financing structures (some of
which are tax driven) are put in place
to help airlines finance aircraft orders
from manufacturers and refinance
existing aircraft. These transactions
may occur prior to or post delivery.
If the financing is structured as a
sale and leaseback, then the lease
arrangement may be classified as a
finance or operating lease. The key
accounting implications include:
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• timing of the recognition of gain
or loss on sale (i.e. at the point
of sale or deferred over the life
of the lease)
• whether the aircraft and/or related
deposits and capitalised costs
can be derecognised from the
balance sheet
• whether there is a requirement
to consolidate any special purpose
leasing entities
• the cashflow disclosures required.
In KPMG's experience there are a
number of issues in analysing and
accounting for lease transactions.
These include:
• Has there been a sale of the
aircraft? An analysis of whether
the risks and benefits have been
transferred to the lessor is
required. One of the primary risks
of aircraft financing is who bears
the residual aircraft value risk.
• At what date was there a sale?
This impacts the timing of any
profit recognition and balance
sheet impact. It also affects
cashflow statement disclosures,
as a sale pre-delivery may remove
the final delivery payment to the
aircraft manufacturer from an
airline's cashflow statement as
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it is made by the lessor. If there
is an intention to sell the aircraft
prior to delivery, the classification
of the security deposits also
requires consideration.
• Are the sale proceeds at fair
value? Aircraft fair values are often
difficult to determine owing to the
significant discounts to list prices
given to large aircraft orders.
Assessments of fair values
are often complicated by the
capitalisation of interest costs,
hedging gains or losses, and other
costs into the cost of the aircraft
by airlines. When these costs are
totalled do they represent an
appropriate fair value to be
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analysed against the lessor's
upfront payment in a sale and
leaseback? When the transaction
involves older aircraft this
determination of appropriate fair
values is more complex as there
may be a lack of recent relevant
sales information. Whilst third
party 'desktop' valuations are a
useful starting point to assess
the fair value of an aircraft, other
important factors to be considered
include an analysis of the nature
of costs capitalised into the
aircraft value; benchmarking of
lease rates; and understanding the
economic rationale for any gain or
loss on disposal.
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• Is there a requirement to
consolidate any special purpose
leasing entities? SIC-12
Consolidation – Special Purpose
Entities and IAS 27 Consolidated
and Separate Financial Statements
contain technical guidance in
regards to determining whether
the special purpose leasing entity
is controlled. For example, an
assessment needs to be performed
on who obtains the benefit of
leasing an aircraft and who has
the majority exposure to risk.
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Defeasance of lease
obligations
General requirements • the debtor discharges the liability
by paying the creditor, normally
As per IAS 39 Financial Instruments: with cash, other financial assets,
Recognition and Measurement or goods or services.
paragraph 39 derecognition of a
financial liability (e.g. lease liability) • the debtor is legally released
occurs when, and only when, it is from primary responsibility for the
extinguished, i.e. when the obligation liability (or part thereof) either by
specified in the contract is process of law or by the creditor.
discharged, cancelled or expires.
This condition is met when one As per IAS 32 paragraph 42 financial
of the following occurs: assets and liabilities should be offset
and the net amount reported in the
balance sheet only if both of the
following conditions are met:
• there is a legally enforceable
right to set off the recognised
amounts; and
• there is the intention to
settle on a net basis or to
realise the asset and settle
the liability simultaneously.
The extinguishment and set-off of
debt should be approached with
caution. Where lease structures give
rise to a legal defeasance, it may in
certain circumstances, be possible to
extinguish the debt. It is not possible
for an entity to extinguish a liability
through an in-substance defeasance
of its debt as the entity is not legally
released from the obligation, and
therefore derecognition of the liability
would be inappropriate. An entity may
arrange for a third party to assume the
primary responsibility for the obligation
for a fee while continuing to make the
contractual payments on behalf of the
third party. In order for the entity to
derecognise its liability, it must obtain
legal release from its creditor whereby
the creditor agrees to accept the third
party as the new primary obligor.
Key considerations for
the passenger airline
industry
Certain aircraft financing structures
give rise to the defeasance of
lease obligation, which is typically
achieved by:
• a lease assignment
• a payment made to a third party
to assume the airline's obligation
to repay the debt element of the
lease financing
• equity investors under a leveraged
lease agreeing to accept a security
in full settlement of the debt.
Defeasance is a complex issue
subject to different legal interpretation
in different jurisdictions and therefore
requires review of the specific
facts and circumstances of
each lease transaction.
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Disclosures
As per IAS 17 lessees shall make
the following disclosures for finance
leases in addition to meeting the
requirements of IFRS 7 Financial
Instruments: Disclosures if IFRS 7
is early adopted (otherwise IAS 32
Financial Instruments: Disclosure
and Presentation):
• for each class of asset, the net
carrying amount at the balance
sheet date;
• a reconciliation between the total
future minimum lease payments
at the balance sheet date, and
their present value;
• the total future minimum lease
payments at the balance sheet
date, and their present value for
each of the following periods:
(i) not later than one year;
(ii) later than one year and not
later than five years; and
(iii) later than five years;
• contingent rents recognised
as expense in the period;
• the total future minimum sublease
payments expected to be received
under noncancellable subleases at
the balance sheet date; and
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• a general description of the
lessee's material leasing
arrangements including, but not
limited to:
(i) the basis on which contingent
rent payable is determined
(ii) the existence and terms of
renewal or purchase options
and escalation clauses
(iii) restrictions imposed
by lease arrangements,
such as those concerning
dividends, additional debt
and further leasing.
As per IAS 17 lessees shall make
the following disclosures for operating
leases in addition to meeting the
requirements of IFRS 7 Financial
Instruments: Disclosures if IFRS 7
is early adopted (otherwise IAS 32
Financial Instruments: Disclosure
and Presentation):
• the total future minimum lease
payments under non-cancellable
operating leases for each of the
following periods:
(i) not later than one year
(ii) later than one year and not
later than five years
(iii) later than five years
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• the total future minimum sublease
payments expected to be received
under noncancellable subleases at
the balance sheet date
• lease and sublease payments
recognised as an expense in the
period, with separate amounts
for minimum lease payments,
contingent rents, and sublease
payments
• a general description of the
lessee's significant leasing
arrangements including, but not
limited to:
(i) the basis on which contingent
rent payments are determined
(ii) the existence and terms of
renewal or purchase options
and escalation clauses
(iii) restrictions imposed by lease
arrangements, such as those
concerning dividends,
additional debt and further
leasing
• for the purpose of applying the
requirements of IAS 17, payments
and other consideration required
by an arrangement containing a
lease are separated into those
for the lease and those for other
elements on the basis of their
relative fair values. If a purchaser
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concludes that it is impracticable

to separate the payments reliably,
in the case of an operating lease it
treats all payments under the
arrangement as lease payments
for the purposes of complying
with the disclosure requirements
of IAS 17:

(i) disclose those payments

separately from minimum
lease payments of other
arrangements that do not
include payments for
non-lease elements

(ii) state that the disclosed

payments also include
payments for non-lease
elements in the arrangement.

Airlines generally split the lease

disclosures between aircraft and
non aircraft leases as financial
analysts and debt providers often
use these disclosures to determine
airline indebtedness after the
notional capitalisation of aircraft
operating lease commitments. As
a consequence, the disclosures for
aircraft leases need to be clear.
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Appendix 1
Definitions of terms under IFRS
A lease is an agreement whereby
the lessor conveys to the lessee in
return for a payment or series of
payments the right to use an asset
for an agreed period of time.
A finance lease is a lease that
transfers substantially all the risks
and rewards incidental to ownership
of an asset. Title may or may not
eventually be transferred.
An operating lease is a lease other
than a finance lease.
A non-cancellable lease is a lease
that is cancellable only:
a) upon the occurrence of some
remote contingency;
b) with the permission of the lessor;
c) if the lessee enters into a
new lease for the same or an
equivalent asset with the same
lessor; or
d) upon payment by the lessee of
such an additional amount that,
at inception of the lease,
continuation of the lease is
reasonably certain.
The inception of the lease is the
earlier of the date of the lease
agreement and the date of
commitment by the parties to the
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principal provisions of the lease. As (a) for a lessee, any amounts
at this date: guaranteed by the lessee or by a
party related to the lessee; or
a) a lease is classified as either an
operating or a finance lease; and (b) for a lessor, any residual value
guaranteed to the lessor by:
b) in the case of a finance lease, the
amounts to be recognised at the (i) the lessee;
commencement of the lease term
are determined. (ii) a party related to the lessee; or
The commencement of the lease (iii) a third party unrelated to
term is the date from which the the lessor that is financially
lessee is entitled to exercise its right capable of discharging
to use the leased asset. It is the the obligations under
date of initial recognition of the lease the guarantee.
(i.e. the recognition of the assets,
liabilities, income or expenses resulting However, if the lessee has an option
from the lease, as appropriate). to purchase the asset at a price that
is expected to be sufficiently lower
The lease term is the non-cancellable than fair value at the date the option
period for which the lessee has becomes exercisable, for it to be
contracted to lease the asset together reasonably certain, at the inception
with any further terms for which the of the lease, that the option will be
lessee has the option to continue to exercised, the minimum lease
lease the asset, with or without payments comprise the minimum
further payment, when at the payments payable over the lease
inception of the lease it is reasonably term to the expected date of
certain that the lessee will exercise exercise of this purchase option and
the option. the payment required to exercise it.
Minimum lease payments are the Fair value is the amount for which
payments over the lease term that an asset could be exchanged,
the lessee is or can be required to or a liability settled, between
make, excluding contingent rent, knowledgeable, willing parties in
costs for services and taxes to be an arm's length transaction.
paid by and reimbursed to the lessor,
together with:
10404-Accounting for Lease of Aircraft Inside
1 4 Ac c o u n t i n g fo r Le a s e s o f A i r c r a ft F l e e t As s e t s i n t h e G l o b a l A i r l i n e I n d u s t r y
Economic life is either:
a) the period over which an asset
is expected to be economically
usable by one or more users; or
b) the number of production or
similar units expected to be
obtained from the asset by
one or more users.
Useful life is the estimated remaining
period, from the commencement of
the lease term, without limitation
by the lease term, over which the
economic benefits embodied in the
asset are expected to be consumed
by the entity.
Guaranteed residual value is:
a) for a lessee, that part of the
residual value that is
guaranteed by the lessee or by
a party related to the lessee
(the amount of the guarantee
being the maximum amount
that could, in any event,
become payable); and
b) for a lessor, that part of the
residual value that is guaranteed
by the lessee or by a third
party unrelated to the lessor
that is financially capable of
discharging the obligations
under the guarantee.
24/5/07 11:55 AM Page 14
Unguaranteed residual value is that
portion of the residual value of the
leased asset, the realisation of which
by the lessor is not assured or is
guaranteed solely by a party related
to the lessor.
Initial direct costs are incremental
costs that are directly attributable to
negotiating and arranging a lease,
except for such costs incurred by
manufacturer or dealer lessors.
Gross investment in the lease is
the aggregate of:
a) the minimum lease payments
receivable by the lessor under a
finance lease; and
b) any unguaranteed residual value
accruing to the lessor. inception of the lease, causes
the aggregate present value of:
Net investment in the lease is
the gross investment in the lease a) the minimum lease payments; and
discounted at the interest rate
implicit in the lease. b) the unguaranteed residual value
to be equal to the sum of:
Unearned finance income is the
difference between: i. the fair value of the leased
asset; and
a) the gross investment in the
lease; and ii. any initial direct costs of
the lessor.
b) the net investment in the lease.
The lessee's incremental borrowing
The interest rate implicit in the lease rate of interest is the rate of interest
is the discount rate that, at the the lessee would have to pay on a
10404-Accounting for Lease of Aircraft Inside
Ac c o u n t i n g fo r Le a s e s o f A i r c r a ft F l e e t As s e t s i n t h e G l o b a l A i r l i n e I n d u s t r y 1 5
similar lease or, if that is not
determinable, the rate that, at the
inception of the lease, the lessee
would incur to borrow over a similar
term, and with a similar security,
the funds necessary to purchase
the asset.
Contingent rent is that portion
of the lease payments that is not
fixed in amount but is based on
the future amount of a factor that
changes other than with the passage
of time (e.g. percentage of future
sales, amount of future use, future
price indices, future market rates
of interest).
24/5/07 11:55 AM Page 15
Defeasance is the release of a by placing in trust assets which are
debtor from the primary obligation adequate to meet the servicing
for a debt. requirements (both interest and
principal) of the debt or by having a
Legal defeasance is a defeasance suitable entity assume responsibility
in which the release of the debtor for those servicing requirements.
from the primary obligation is
either acknowledged formally by the
creditor or by a duly appointed
trustee of the creditor, or established
by legal judgement.
In-substance defeasance is a
defeasance other than a legal
defeasance in which the debtor
effectively achieves release from a
primary obligation for a debt either
10404-Accounting for Lease of Aircraft Inside 24/5/07 11:55 AM Page 16

Appendix 2

Classificaton of a lease

The following chart represents examples of situations in which it could be inferred that substantially all of the risks
and rewards of the ownership have been transferred.

Lease agreement

The lease transfers ownership of the asset to the lessee by the end of the lease term yes
(‘transfer of ownership’)

no
The lessee has the option to purchase the asset at a price that is expected to be sufficiently lower yes
than the fair value (‘bargain purchase option’)

no
The lease term is for the major part of the economic life of the asset even if title is not transferred yes
(‘economic life’)

no
At the inception of the lease the present value of the minimum lease payments amount to at least yes
substantially all of the fair value of the leased asset (‘present value’)

no
The leased assets are of such a specialised nature that only the lessee can use them without yes
minor modification

no

Operate lease Finance lease

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