Sale-leaseback accounting definition
/What is a Sale and Leaseback?
A sale and leaseback transaction occurs when the seller transfers an asset to the buyer, and then leases the asset from the buyer. This arrangement most commonly occurs when the seller needs the funds associated with the asset being sold, despite still needing to occupy the space. Sale and leasebacks are most common when the owning entity is an older business that has accumulated building assets, but does not have sufficient cash to fund its ongoing operations and growth plans.
The Characteristics of a Sale and Leaseback Transaction
Here are the main characteristics of a sale and leaseback transaction:
Asset transfer and leaseback arrangement. The original owner (seller-lessee) sells the asset to a buyer (buyer-lessor) and immediately enters into a lease agreement to use the asset. The lease is often structured as a long-term lease, providing the seller-lessee with continued access to the property.
Capital release. The seller-lessee receives a lump sum payment from the buyer, unlocking capital that can be used for other investments, debt reduction, or business operations. This is particularly beneficial for companies needing to free up cash for growth, acquisitions, or other strategic objectives.
Tax advantages. Lease payments may be tax-deductible as an operating expense, potentially reducing the seller-lessee's taxable income. Ownership-related expenses (such as depreciation) transfer to the buyer-lessor, which may have different tax implications for both parties.
Fixed payments. The lease typically includes fixed or predictable payments, allowing the seller-lessee to plan around future cash flows. Often, the lease term is long, aligning with the useful life of the asset and giving the seller-lessee stability in terms of asset usage.
Retention of operational control without ownership. The seller-lessee retains operational control of the asset through the lease, using it as they would if they still owned it. However, they are no longer responsible for property risks associated with ownership, such as significant repairs or appreciation/depreciation in property value.
Higher long-term cost. While a sale and leaseback provides immediate liquidity, the total cost of leasing over time can be higher than simply holding and using the asset. This cost consideration often makes it a preferred option for businesses prioritizing cash flow over long-term asset retention.
Risk shifting. The risks associated with the asset (e.g., market depreciation, obsolescence) are transferred to the buyer-lessor. However, the seller-lessee might still be responsible for maintenance and operational costs as specified in the lease agreement.
How to Account for a Sale and Leaseback Arrangement
When such a transaction occurs, the first accounting step is to determine whether the transaction was at fair value. This can be judged from either of the following comparisons:
Compare the difference between the sale price of the asset and its fair value.
Compare the present value of the lease payments and the present value of market rental payments. This can include an estimation of any variable lease payments reasonably expected to be made.
If this comparison results in the determination that a sale and leaseback transaction is not at fair value, the entity must adjust the sale price on the same basis just used to determine whether the transaction was at fair value. This can result in the following adjustments:
Any increase to the asset’s sale price is accounted for as a rent prepayment
Any reduction of the asset’s sale price is accounted for as additional financing provided to the seller-lessee by the buyer-lessor. The seller-lessee should adjust the interest rate on this liability to ensure that:
Interest on the liability is not greater than the principal payments over the shorter of the lease term and the financing term; and
The carrying amount of the asset is not greater than the carrying amount of the liability at the earlier of the termination date of the lease or the date when asset control switches to the buyer-lessor.
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In this arrangement, the consideration paid for the asset is accounted for as a financing transaction by both parties. However, if there is a repurchase option under which the seller can later buy back the asset, then the initial transaction cannot be considered a sale. The only exceptions are when:
There are alternative assets readily available in the marketplace, and
The price at which the option can be exercised is the fair value of the asset on the option exercise date.
If a sale and leaseback transaction is not considered a sale, then the seller-lessee cannot derecognize the asset, and accounts for any amounts received as a liability. Also, the buyer-lessor does not recognize the transferred asset, and accounts for any amount paid as a receivable.