Posted by Ben Thorne on July 13, 2017
Once again we are discussing leases, triggered by the recent ESFA report that have highlighted their thoughts on the matter.
As a recap, an Academy cannot take out any form of borrowing, and this includes finance leases. This is in the Academies Financial Handbook (2016) 3.4.1.
Whether a lease is a finance or operating lease depends on a number of factors, and for the purposes of this they are laid out in the accounting standard FRS102.
There are a number of factors in FRS102 to consider, but the key concept is that of who has the rewards and risks of ownership. When considering the rewards of ownership, it really comes down to if you have use of the asset for significantly all of its useful life. In terms of the risks of ownership it will depend on items such as who is responsible for insuring, repairing, replacing and maintaining the asset.
The reason so much confusion can arise with leases is that often lease companies will not be aware of the accounting standards, and will call their leases operating leases, but when reviewed in reference to FRS102 they will be a finance lease.
We have also seen numerous leases where the lease company have been assessing the leases against the old accounting standards, which required the net present value of the lease payments to be less than 90% of the value of the asset. This test was removed and is no longer relevant, so if a lease company mentions this they will need to review their assessment of a lease.
A real life example that we often get asked about would be a lease for IT equipment (tablets, laptops etc.), over a 3 year period. The insurance costs etc. are to be covered by the academy too. In this case, the key factor that we would be considering is; would 3 years be significantly all of the useful life of the asset? For an IT product being used heavily in a school environment, coupled with fast moving technological changes, this is likely to be the case. This would mean that any such lease would normally be considered a finance lease.
Supporting this position is a recent ESFA review into The Rodillian Multi Academy Trust. This report highlights a number of other issues, but also that the Trust had taken out a lease for computer equipment for 3 years. The report says (section 35) “Due to the lease period representing the major part of the economic life of the asset and the trust bearing substantially all the risks and rewards of ownership, this agreement is judged to be a finance lease”. This was therefore a breach of the AFH.
This makes it clear what the ESFA’s position on such a lease would be. If you are considering taking any lease such as this, we would recommend that we review it before it is signed to ensure compliance with the Academies Financial Handbook, and allow you to agree compliant terms with the lease company. If a finance lease is entered into, and authorisation is not sought, then this will impact on the regularity audit work in the year end accounts and could result in a qualified regularity audit opinion.
If you have any questions, please contact your usual Bishop Fleming representative.