Sales-type is a type of capital lease where the present value of minimum lease payments i.e. the lease receivable for a lessor is higher than the carrying amount of the leased asset.
In a sales-type lease the lessor records operating profit equal to the difference between the discounted minimum lease payments and the carrying amount and records interest income over the lease term. Sales-type leases are normally relevant to dealer and manufacturer lessors who also make a gross profit at the inception of the lease together with periodic interest income.
Sales-type lease is relevant only to lessors. It has no accounting implications for lessees. It can be contrasted by the direct financing lease in which there is no operating profit recognized at the inception of the lease.
Company STL is a manufacturer of air conditioners. Each unit has a cost of $400 and the company leases them over a term of 3 years for quarterly lease payments of $50. The present value of minimum lease payments is $500.
Since the present value of minimum lease payments i.e. the lease receivable is more than the carrying amount of the leased asset, the lessor should record an operating income of $100 (equal to the difference between the lease receivable and the carrying amount). In addition to this one time profit at the inception of the lease, the lessor records periodic interest income. For example, in the first quarter it earns an interest of $3.75 each quarter ($500 × 3% ÷ 4).
Written by Obaidullah Jan, ACA, CFA