Configuration in Lease Accounting
Determination of Value IDs
Integration to Asset Accounting
Tools in Lease Accounting
Accounting by Lessor
Leasing Business Processes
Origination of lease contract
Mid-lease – With Financing Character
Mid-lease – Without Financing Character
End-lease options – Without financing character
End-lease options – With financing character
Important Note before you read
The process described in here is at least 10 years old. Technology and also accounting standards have advanced since. Still in my opinion, the process explained may be helpful in academic interest or in understanding nature of leasing business.
SAP Leasing is a new industry solution from SAP that offers package solution to leasing companies to support the business processes from a lessor’s perspective. The solution landscape involves SAP CRM 2007 and SAP ERP ECC 6.0. While CRM the contract processing to manage the leasing business at the front end, ERP provides accounting integration.
This document gives a bird’s eye view of the Lease Accounting module in SAP.
Lease is a transaction where a customer who wants to buy certain equipment at a negotiated price requests finance from a leasing company. The leasing company that finances the equipment (lessor) owns the equipment and the customer (lessee) uses the equipment. The lessor purchases the equipment from the supplier and leases it to the lessee for a period usually close to economic useful life of the asset. During this period, the lessee uses the equipment and makes regular payments to the lessor. The lessor assumes a value at termination of the lease contract, as a balloon balance called a residual value and adjusts lessee’s periodic rent payments accordingly. In many cases, the lessee has the option to buy the equipment at the end of the lease term.
SAP Leasing integrates functionality of SAP Business Suite solutions – including CRM, financials, and business intelligence – to empower all processes of the leasing business. The SAP solution enables leasing companies to integrate activities throughout all stages of the leasing life cycle from lease origination to mid-lease changes and end-of-lease options. The following is a picture of SAP leasing architecture.
SAP CRM processes transactions on a contract through all phases of a contract lifecycle which include origination, mid-term changes and end-of-term options. The financial mathematics functionality in CRM calculates annuity schedules based on the terms and conditions of a lease agreement while the CRM Billing functionality generates one time and periodic customer billing documents. The transactions related to a lease contract origination and change processes during the contract lifecycle are supported from accounting perspective in SAP ERP Financials in a separate module segment called FI-LA (Lease Accounting), also known as Lease Accounting Engine (LAE). The accounting for processing of customer billing documents, reversals, debit and credit memos etc. is supported in SAP ERP Financials in a separate module segment called FI-CA(X) (Contract Accounts Receivable and Payables). FI-CA(X) stands for Extended FI-CA.
The functions of FI-CA(X) module are similar to FI-CA module which is used across many industry specific solutions such as Utilities, Telecommunications, Media.
Keeping in line with the subject of this document, we will now discuss the functionalities offered by FI-LA module to configure leasing business processes with respect to accounting requirements of a lessor.
The purpose of Lease Accounting module is to carry out and display the accounting related aspects of a leasing deal. Lease accounting is supplied with the contract data from the CRM system. This data is automatically processed on the basis of the customizing settings. When a new lease is created in CRM or a change process (for example, change of ownership, restructuring, early termination, early buyout etc.) is carried out, CRM automatically transfers the contract data to Lease Accounting in SAP ERP system. Using the customizing settings related to determination of value identifiers, the Lease Accounting Engine reads relevant values and processes them through a series of sub-processes:
-To classify the lease as per accounting and tax regulations
-To record an asset transaction for asset-relevant classifications and processes
-To set up accrual schedules for –
- balances that need to be amortized over the term of contract as per annuity schedule
- periodic recognition of revenues
- recognition of upfront costs and revenues over the term of the contract
-To post one-time accounting entries to the general ledger
Lease Accounting is fully automated and the configured process logic works in the background along with CRM business transaction events and creates and displays desired accounting data in ERP. Generally there are no manual user transactions required. At the end of each period, Accrual/Deferral posting needs to be run and can be scheduled as a job. This makes Lease Accounting a completely hands free functionality which necessitates careful configuration and thorough testing.
Lease accounting module broadly facilitates configurations under the following heads:
- Determination of Value IDs
- Lease Classifications
- Integration to Asset Accounting
- Integration with Accrual/Deferral Engine
- One-time postings
These configuration nodes act as tools which can be used to set up business processes as per the accounting requirements. Configurations can be done for a combination of attributes like Process (a key that identifies a business process), Accounting Principle and Classification key.
Determination of Value IDs
Classification and accounting relevant values are stored in distinct value identifiers (Value IDs). These Value IDs are then used for lease classification, asset accounting, accrual engine and one-time postings. Values can be received from CRM contract data or can be determined within Lease Accounting. LAE can further build on the data received from CRM due to its ability to calculate values.
Direct values can be populated to value ids from the following objects:
- Contract item
- Material master record
- Customer master record
- CRM pricing condition types
Determined values: Values can be determined within Lease Accounting by:
- Maintaining Fixed Value
- Determination Method (Function Module)
- Sum of a payment schedule
These value ids are used as an input for further processing through classification, asset accounting, accruals and one-time postings.
The accounting entries required for a particular lease deal or contract could vary based on its accounting classification. In the US Context, the contract data needs to be run through certain rules as described in Statement 13 of Financial Accounting Standards Board. It is possible to derive multiple Lease classifications to be used to comply with regulations of tax authorities such as Sales Tax and IRS. (Lease classification is a criterion for deriving sales/use tax rate applicable to billing transactions of a lease contract.)
US GAAP Classification as per SFAS 13
A lease is a contract which conveys the right to possess and use the lessor’s property for a specified period of time in return for periodic cash payments by the lessee to the lessor. The goal of accounting classification of the lease contract is to recognize the true substance over the form of the lease. Depending on the terms and conditions of a lease, it may be a true rental (i.e. Operating Lease) or it could be a purchase and sale which transfers all the rights and risks of ownership (i.e. Capital Lease a.k.a. Non-Operating or Direct Finance Lease). In this document we will discuss Operating and Capital Leases. Other types of leases like Leverage Lease, Sale type lease, Sale and leaseback are not discussed.
A lease is classified as a capital lease, if it meets any of the following criteria:
Rule 7a: Title Transfer
The lease transfers ownership of the property to the lessee by the end of the lease term.
Rule 7b: Bargain Purchase Option
The lease contains a bargain purchase option.
The following rules, 7c and 7d, shall not be used if the beginning of the lease term falls within the last 25% of the total estimated economic life of the leased property.
Rule 7c: Contract Term
The lease term is equal to 75 percent or more of the estimated economic life of the leased property.
Rule 7d: Present Value
The present value at the beginning of the lease term of the minimum lease payments and residual value guaranteed by independent parties equals or exceeds 90 percent of the Fair Market Value of the property at inception.
A lease that does not satisfy any of these criteria is reported as an operating lease.
The above conditions can be defined as Validation rules in SAP. To be able to define the rules and resulting classifications, the following values will be required to be calculated or populated in value identifiers:
- Title Transfer Flag
- Bargain Purchase Option Flag
- Contract Term
- Economic Useful Life of the asset
- Remaining Useful Life of the asset
- Present Value of Minimum Lease Payments
- Present Value of Residual Value guaranteed by independent parties
- Fair Market Value of the asset (may be valued at financed amount)
- Initial Cash outflow
- Upfront costs and revenues (e.g. Initial Direct Cost, Documentation Fees)
To derive present value of minimum lease payments and residual value, it is necessary to calculate effective interest rate on the payment flow which in turn necessitates creation of a payment schedule in Lease Accounting module.
Define Payment Schedule
A Payment Schedule can be used for calculating effective interest rate, among other things. To support the effective interest rate calculation, a payment schedule should represent entire cash flow over the lease term which should include:
- Initial cash outflow (inception value) : The finance amount needs to be calculated with a negative sign and populated in a value id.
- Upfront costs and revenues (inception value) – Can be copied to a value id from respective condition types.
- Cash inflows over the term of contract (periodic values) – These values are received as periodic values from CRM Bill plan condition types.
- Residual value at the end of the contract (end of term value) – Can be copied to a value id from respective condition type.
It is necessary to add non-periodic contract values to be considered in a payment schedule to the Base Payment Schedule in a separate configuration step.
Determination of Interest rate from Payment flow
SAP facilitates calculation of Interest rate from a payment schedule, which in turn, could be applied to derive present value of minimum lease payments and the residual value guaranteed by independent parties.
Determination of Present Value
Minimum lease payments are periodic cash flow values, hence the functionality to determine Present Value of Incoming/Outgoing Payments as per Payment Flow should be used.
Residual value is a one-time end of term value and hence the functionality to determine Present Value of a Reference Value should be used.
Lease Classification in CRM
Lease Classification is required to be derived when the contract is being created in CRM. This is because the Lease classification could be a criterion for derivation of base of sales tax rate. It is necessary to communicate Lease classification to the external tax system (e.g. Vertex). Also the derivation of a controlling object viz. Profit Center might be dependent on lease classification. In such cases, it is necessary to simulate lease classification upfront without having to wait for the contract to incept and flow to ERP. SAP CRM makes it possible with the use of a Remote Function Call to ERP.
Integration to Asset Accounting
The Lease Accounting module is integrated with Asset Accounting module (FI-AA). This enables complete asset handling within SAP Financials addressing all requirements with regard to asset accounting and depreciation.
Asset record is required to be created in the following cases:
- Inception/Change processes on Operating Leases (Assets in Operating Leases)
Every leased asset can be configured as an I-Object (Individual Object) in CRM. On the ERP side, an asset record is created for the I-Object when the contract line item is classified as an Operating Lease. These assets are created in asset accounting and are depreciated over the term of the contract upto their residual value. The assets are classified in a separate asset class and residual value is set up as a scrap value on the asset record.
On a mid-term change process with financing character, the asset is retired at its NBV (net book value) and the value is transferred to a new asset record created with new financial terms.
- Assets in Inventory
Irrespective of contract classification, an asset record is created for returned or repossessed assets. These assets can be created in a distinct asset class. These assets are company’s inventory and hence do not depreciate.
To meet various business requirements around asset accounting such as managing leased assets and assets in inventory, the following functionalities of Lease Accounting module are used:
- Make Settings for Creating Fixed Assets: Values are passed from contract line item to create an asset master record in a desired asset class. For the defined business processes, asset master is automatically created when the process is triggered from CRM.
- Settings for Posting Asset Transactions: Values are passed from the contract data to post a transaction on an asset master. Depending on the requirement of a business process, an asset acquisition or asset retirement transaction can be called. For the business processes defined in this configuration node, asset transaction is automatically posted when the process is incepted in CRM.
The Accrual Engine in Lease Accounting enables creation of accruals for periodic postings during the tenure of contract. The Accrual Engine is integrated with the Lease Accounting Engine and Financial Accounting. The Lease Accounting Engine supplies the Accrual Engine with the data it needs to post accruals/deferrals. These accrual/deferral postings are automatically transferred to Financial Accounting.
Three types of Accruals can be set up with the Accrual Engine
- Opening, Periodic and Final Posting: An Accrual type of this category posts initial posting at the contract inception, periodic postings during the contract term and final posting on a mid-lease or end-lease change process.
- Periodic posting only: An Accrual type of this category posts only periodic postings during contract term. This functionality is useful for posting periodic revenues such as Rent income, Interest income.
- Opening posting only: An Accrual type of this category posts only an initial posting at contract inception.
Accrual method is a function module used to calculate periodic amortization values for an accrual type. Accrual method can be assigned for a combination of business process and accrual type. There are SAP standard function modules that read Principal, Interest, Rent values from CRM bill plan and display and amortization schedule which becomes an input for periodic accrual/deferral postings. To meet business requirements which are not supported by standard modules, custom function modules can be created.
SAP has also delivered a function module that calculates amortization schedule for upfront costs and revenues by level-yield amortization method as required by SFAS 91. To use this function module, it is necessary to maintain a series of configurations as detailed in the respective OSS Note.
One-time postings are accounting entries posted to general ledger only once and there is no follow up posting required as in Asset depreciation or accrual postings. These entries can be configured by setting up account determination rules, assigning values and maintaining account determinations.
Tools in Lease Accounting
The following tools and features facilitate display, technical view, customizing help in lease accounting.
Transaction FILAEXPL called as Lease Explorer gives an overview of the contract data in Lease Accounting.
Transaction FILATEST gives technical view of the contract data in Lease Accounting.
Transaction FILASYST presents the LAE system customizing settings menu. The definition of processes and assigned processing methods can be viewed here. This view also facilitates integration of customer processing methods in SAP sub-processes.
Transaction FILAHELP presents a list of useful programs that can be executed. This access should be used very carefully as there are programs on the list that could delete leasing data tables.
A lease where the rights and risks of ownership don’t transfer is considered an Operating Lease. Accordingly, a lessor accounts for the lease related values as follows:
- Creates an asset in his books on contract inception
- Depreciates the asset periodically
- Recognizes Rent income periodically. Uneven rents arising from step payment, irregular payment, seasonal payment contracts are required to be recognized uniformly over the lease term
- Direct lease costs such as initial direct cost, commissions, legal fees etc. are amortized by straight line amortization method over the lease term
- Executory costs such as taxes, insurance, maintenance are recognized as incurred
- Refundable Security deposits are treated as a liability on the balance sheet until returned
- Non-refundable Security deposits are treated as unearned revenue until earned
A capital lease is a lease which in substance is a purchase though in form it’s a lease. A lease where the rights and risks of ownership are transferred from lessor to the lesee are accounted by the lessor either as an operating, or direct finance lease depending upon the result of SFAS 13 classification rules.
Where a lease is classified as a capital lease, lessor accounts for the lease related values as follows:
- Set up the Sum of Principal from the annuity schedule as Receivables on the balance sheet.
- Set up the Sum of Interest from the annuity schedule as Receivable and as Unearned Interest liability on the balance sheet.
- Set up Residual Value as a Receivable on the balance sheet.
- Upfront costs and revenues are set up as accrual/deferral on the balance sheet. Deferred revenues are revenues received but not earned. Accrued costs are expenses paid but not yet incurred.
- Post the following periodic accrual/deferral accounting entries:
- Amortize periodic principal amount as per amortization schedule
- Amortize periodic interest amount as per amortization schedule
- Amortize accrued/deferred upfront costs and revenues as per amortization schedule (SFAS 91 requires amortization using level-yield amortization method)
- Recognize periodic interest income to the profit & loss account from the unearned interest income liability account.
Following are possible accounting entries for a very simplistic scenario that could give an idea of how accounting differs by the accounting classification of lease.
SAP processes each lease contract transaction using CRM as a front end. Each process is identified with a 4 character key. CRM processes are mapped to LAE processes. The LAE processes are further linked to sub-processes such as:
Each sub-process is assigned to a series of function modules arranged in a sequence. These function modules trigger the lease accounting for the process using configuration data and perform functions such as classification, asset accounting, accrual/deferral postings and one-time postings.
These process, sub-process definitions can be viewed from the transaction FILASYST.
The following table shows the existing business and change processes and how they are mapped from CRM to ERP. These processes are plausible business scenarios that may arise during the lifecycle of a leasing contract. A SAP leasing implementation involves identifying customer service requirements to matching business and change processes. Each business and change process identified needs to be so configured as to enable the users to give good customer service and meet all statutory and reporting requirements.
Table 1: Assignment of Generic CRM Business and Change Processes (Existing/New)
|Existing Business and Change Processes in SAPCRM||New Business Processes in SAP CRM||New Change Processes in SAP CRM|
|BANK||BANK: Bankruptcy with return||BANK|
|BUYO||BUYO: Purchase of leased object||BUYO|
|LCOL||CHOP: Change of partner||CHOP|
|NEWL||NEWL: New leasing document||NEWL|
|RESC||RESC: Restructuring with display of full payment schedule||RESC|
|ROLF||ROLF: Rollover financing||ROLF|
|STBH||STBH: Stop billing||STBH|
|STAH||STAH: Stop accounting||STAH|
|SPLT||SPLT: Contract split||SPLT|
TERM: Termination with return
|TERQ: Termination quotation|
|UNIN||UNIN: Undo insolvency||UNIN|
|USBH||USBH: Reset stop billing (header level)||USBH|
|USAH||USAH: Reset stop accounting||USAH|
We will discuss some of the above processes again from a Lease Accounting perspective. In that it mainly deals with the treatment of open balances on a contract. The open receivable items for the customer are dealt with from FI-CA(X) module in line with the intent of the business process.
Origination of lease contract
NEWL identifies inception of a new lease. A new lease contract is created in CRM by entering the values such as:
- Business Partner
- Contract Start Date
- Lease Start Date
- Contract End Date
- Contract Term
- Contract Terms and Conditions such as Amount Financed, Rate of Interest, Residual Value, Payment frequency etc.
After entering the required details, a payment plan is calculated, bill plan is generated and lease is classified. Now the contract can be saved and incepted.
Upon execution of inception, the contract data flows to ERP through middleware and the contract is processed in Lease Accounting module to generate inception accounting entries in the background. The lease contract can now be displayed in Lease Accounting module.
The lease contract display in Lease Accounting displays contract data arranged in the following segments:
- Processes executed on the contract
- Upon clicking on each process, it displays data relevant to that process such as:
- Contract Data
- Billing Plan
- Condition Types
- Value IDs
- In/Out Payments
- Acct Assignments
- The accounting data is organized as:
- Fixed Assets
- OTP (One time postings)
Mid-lease – With Financing Character
A change process with financing character is one where the contract keeps going with some variation to its terms and conditions.
RESC is a identifier for Restructuring. Under the lease restructuring process, the lease contract is restructured by applying changes to its terms and conditions. Some of the examples of restructuring can be:
- Change of interest rate
- Change of payment frequency
- Change of residual value and amount financed
- Change of contract term
- Any combination of the above
When a contract is restructured in CRM, a new payment schedule is generated and consequently is new bill plan. On inception of the change, the contract data flows over to ERP where two sub-processes are executed – RESC_TERM and RESC.
RESC_TERM: This process aligns with the origination line item. This step of the process should be used to close open balances on the contract line item. In case of operating leases, retire the asset at net book value and close the unamortized balance of FAS 91 into a clearing account. In case of a capital lease, the unamortized balances of principal, interest, residual value and FAS 91 amounts are closed into a clearing account.
RESC: This process line item makes way to accommodate the restructured contract terms with the new bill plan. The balances closed into a clearing account in the RESC_TERM process are now carried forward and set up as a new contract line item data. This should set-off the clearing account balances to zero.
CHOP: Change of Partner
The process is executed if the ownership of the contract transfers due to mergers, acquisitions. Also when a customer changes location of the asset.
This process can be determined as either of the following 3 processes on ERP side:
- LCOO: Change of Ownership – Executed in two steps in ERP: LCOO_TERM and LCOO
- LCOL: Change of Location – Executed in two steps in ERP: LCOL_TERM and LCOL
- LCOP: Change of Partner – Executed in two steps in ERP: LCOP_TERM and LCOP
The process and accounting is similar to restructuring.
Further, standard processes can be copied to create custom processes such as Payment Deferral etc.
Mid-lease – Without Financing Character
A change process without financing character is a terminating change process.
CONC – Charge Off
This process is used to Charge off the balances on a contract when a customer is delinquent and it is not possible to recover any amount from him. It is also not possible to recover the asset from the customer. This process is executed in a single step in ERP.
In case of an operating lease, the Net Book Value of the asset is retired into a clearing account and charged off to a loss account by an accounting entry posted through one-time postings. The unamortized FAS 91 amount in balance is charged off to expense/revenue account. Open A/R items on customer’s account are separately written off in FI-CA module.
In case of a capital lease, the unamortized balance of principal and residual value is closed into a clearing account and a sum of both charged off as a loss by an accounting entry posted through one-time postings. The unamortized FAS 91 amount in balance is charged off to expense/revenue account. Also the balances of unearned interest and interest receivable accounts are reversed. Open A/R items on customer’s account are separately written off in FI-CA module.
BANC – Bankruptcy without return
The process is similar to CONC (Charge off). The charge off in this case would be a result of bankruptcy of the customer in which the asset could not be recovered from the customer. Accounting in this case would be similar to CONC process. It is possible to provide some variations in accounting treatment or account assignments in configuration.
BANK – Bankruptcy with return
This change process is used where the customer files for bankruptcy and returns the leased asset to the lessor. This process is executed in two steps in ERP – BANK_RE_TERM and BANK_RE.
BANK_RE_TERM: This process step is used to close open balances on the contract line item. In case of Operating lease, the net book value of the asset is retired into a clearing account. In case of Capital lease, the unamortized balance of principal and residual value are closed into a clearing account. The unamortized FAS 91 amount in balance is charged off to expense/revenue account.
BANK_RE: This step is used to bring the returned assets on books. The process should be configured to create an asset master and to posts an acquisition for an amount that will offset the balance value posted to clearing account in the prior process. The returned asset is now inventory and hence not depreciable.
ETER – Early Termination
This change process is used where the customer requests an early termination of the lease contract. This process is executed in two steps in ERP – ETER_RE_TERM and ETER_RE.
The accounting for this process is similar to BANK. The step ETER_RE_TERM corresponds to step BANK_RE_TERM and ETER_RE corresponds to step BANK_RE. It is possible to provide some variations in asset class posted, accounting treatment or account assignments in configuration. Early termination fees could be charged to the customer and posted to customer account by FI-CA route.
REPO – Repossession of Assets
In some cases where a customer becomes delinquent, the leased asset he holds is repossessed. The repossession charges are incurred and charged to the customer. The process is executed in two steps in ERP – REPO_RE_TERM and REPO_RE.
The accounting treatment for these processes in Lease accounting is similar to BANK_RE_TERM and BANK_TERM.
TERQ – Termination payoff quote
In some lease contracts, the customer has an early buyout option and requests an early termination payoff quote. The process involves calculation of a payoff quote amount in CRM which is communicated to the customer. Upon receipt of payoff quote amount from the customer, the payoff quote is incepted in CRM which triggers posting of payoff quote invoice to the customer account in FI-CA. This invoice posting is cleared against the payoff quote payment receipt. Open A/R included in payoff quote amount are also cleared against posting of payoff quote amount. The payoff quote amount related to account balances on the contract are posted to a clearing account.
In Lease accounting, this process is executed in a single step. A mid-lease payoff quote is termed as ‘EBUY’ and an end-lease payoff quote is termed as ‘BUYO’.
In case of an operating lease, the net book value of the asset is retired into a clearing account. The difference between the payoff quote amount (excluding open items) and the net book value is posted as payoff gain/loss.
In case of capital leases, the unamortized balances of principal and residual value are closed into a clearing account The difference between the payoff quote amount (excluding open items) and the sum of balances of principal and residual value is posted as payoff gain/loss.
It is possible to post termination fees, markup fees or any other charges included in the payoff quote to income accounts through one-time postings.
End-lease options – Without financing character
TERM – Termination with return
This business event is the termination of a lease contract at the end of the lease term. Customer returns the leased asset at the end of contract term. In Lease Accounting, this process is executed in two steps – TERM_RE_TERM and TERM_RE.
In such case, since the contract has approached the end of its term, there are no unamortized balances. The only value left on the contract is the residual value.
In case of Operating lease, the scrap value (residual value) is the net book value which is retired into a clearing account.
In case of Capital lease, the residual value of the contract is closed into a clearing account.
In this step the returned asset is created as an asset in inventory. The value of the asset is the residual value that was posted to clearing account in the prior process. The posting of returned asset relieves the balance in the clearing account to zero.
End-lease options – With financing character
CONT – Continuation
At times the customer continues to enjoy the asset and also continues to pay the same monthly annuities after the end of contract term. In such cases, continuation change process is executed on the contract.
There are no unamortized balances on the contract except the residual value. A new contract line item is set up where the residual value on the prior line item is carried forward as value of the leased asset. A new payment plan is created to be accounted as periodic rent income.
The process is executed in two steps in Lease accounting – CONT_TERM and CONT.
RNEW – Renewal
In some cases, the customer approaches to renew a lease contract at the end of the contract term. Renewal change process is used in such cases.
There are no unamortized balances on the contract except the residual value. Renewal of the contract bill plan is executed with the residual value on the contract applying a rate of interest and a renewal contract term.
The process is executed in two steps in Lease accounting – RNEW_TERM and RNEW. The residual value of the contract is closed to a clearing account in the step RNEW_TERM and a new bill plan is set up on the step RNEW.
Returned and repossessed assets are sometimes sold in open market. In CRM, a Sales order is created and incepted to record the sale of the asset. This transaction in lease accounting is identified as change process SALE_RE. The transaction retires the asset using the asset sale price as revenue. The difference between the net book value of the asset and the sale price is accounted for as gain/loss.
Combining strengths of CRM, FI-LA and FI-CA, the solution provides complete lifecycle solution for Lessor lease management and accounting.