Recent revisions to the Municipal Act relating to the term of liabilities under agreements, including leases involving public private partnership projects (section 451), may result in the increased use of leasing as a means of financing infrastructure and its operation.
In an operating lease situation, the lessor retains substantially all of the benefits and risks of ownership. The local government would record the lease payments as an operating cost as they are made over the term of the lease; no leased asset or obligation would be recorded by the local government.
CICA Handbook 3065 defines a capital lease as a lease that transfers substantially all the benefits and risks incident to ownership of property to the lessee (local government). Under a capital lease, the local government would record the asset and an obligation at the present value of the minimum lease payments over the lease term. The asset would be depreciated over the period of its expected use and the obligation reduced by repayments less imputed interest that is also charged to operations.
If one or more of the following conditions are met, the presumption is that the lease is a capital lease:
• there is reasonable assurance that the local government will obtain ownership of the leased property by the end of the lease term (e.g., when the lease provides for the transfer of the property to the local government on expiration, there is a bargain purchase option, or other facts and economic circumstances provide assurance that the local government will acquire the asset by the end of the lease term)
• the lease term is of such a duration that the local government will receive substantially all of the economic benefits expected to be derived from the use of the leased property over its life span (e.g., when the lease term constitutes 75% or more of the economic life of the asset)
• the lessor (private sector partner) would be assured of recovering the investment in the leased property and of earning a return on the investment as a result of the lease agreement (e.g., the present value of the minimum lease payments at the inception of the lease is 90% or more of the asset's fair value). The retention by the lessor of substantial risks in connection with the leased property (e.g., non-reimbursable costs, performance guarantees, and obsolescence) may mean that no such assurance exists.