(a) FINANCE LEASE A finance lease is a way of providing finance to a company to acquire assets for its operations. A leasing company (the lessor or owner) buys the asset for the user (usually called the hirer or lessee) and rents it to them for an agreed period. Under finance lease arrangements, the lessee has the option to acquire ownership of the asset.

In accounting, a finance leased asset and associated liabilities are recorded in the statement of financial position of a company.

Under the Income Tax Act, 2015 (Act 896), a lease is a finance lease where:

(a) the lease agreement provides for transfer of ownership following the end of the lease term, or the lessee has an option to acquire the asset for a fixed or presupposed price after expiry of the lease term,

(b) a lease agreement in which the lease term exceeds seventy-five percent of the useful life of the leased asset;

(c) a lease agreement in which the estimated value of the asset after expiry of the lease term is less than twenty percent of its market value at the start of the lease;

(d) in the case of a lease that commences before the last twenty-five per cent of the useful life of the asset, the present value of the minimum lease payments equals or exceeds ninety percent of the market value of the asset at the start of the lease term;

(e) a lease agreement in which the asset is custom-made for the lessee and after expiry of the leased term it will not be of practical use to any person other than the lessee.

Where an asset has been leased by a lessor to a lessee under a finance lease, the lessee is required to deduct the interest portion payable for each year of assessment as an expense from income; and is entitled to capital allowance in respect of the capital portion. In respect of a lease of a road vehicle other than a commercial vehicle, the capital portion is limited amount specified in the Third Schedule to Act 896.

The lessor is required to include the whole amount of the interest and repayment of the capital for that year as income in respect of the leased asset. He is not entitled to capital allowances in respect of the leased asset, but may reduce the amount of the payment of capital included in calculating the income of the lessor by a capital amount determined in accordance with guidelines issued by the Commissioner-General.

(b) OPERATING LEASE Operating lease is a contract where the lessor (owner) permits the lessee (user) to use an asset for a specified period which is less than the economic life of the asset without any transfer of ownership rights. The lessee pays rentals for the use of the asset

Where an asset is leased under an operating lease, the lessee is required to deduct the rental as an expense from income.

The rental is treated as income of the lessor. The lessor is treated as the owner of the asset and is entitled to capital allowance on the cost of the asset.

(c) In taxation, ring fence refers to the segregation of operations of a company into separate income streams for tax purposes. Separate Petroleum Operation is a terminology used for the ring-fence concept in the petroleum industry.

Two levels of ring fencing in Act 896

i. Contract Level: Petroleum operations conducted under a petroleum agreement constitute a separate petroleum operation. Where a person has interest in two or more petroleum agreements, petroleum operations in respect of each petroleum agreement constitutes a Separate Petroleum Operation.

ii. Field Level: Petroleum operations conducted with respect to each development and production area (field) within a contract area of a petroleum agreement constitutes a Separate Petroleum Operation. Where a person is conducting petroleum operations in two or more fields within a contract area, petroleum operations conducted in each field constitutes a Separate Petroleum Operation.

Petroleum operations conducted in fields of a contract area are delineated as follows: Petroleum operations conducted prior to the date of approval of a plan of development with respect to field and after approval of the plan of development in relation to the same field is conducted in respect of the Same Separate Petroleum operation. Petroleum operations conducted after the date of approval of the plan of development but not in respect of the same field is considered as conducted in respect of a new Separate Petroleum Operation. (2 Marks)

The following applies to Separate Petroleum Operation:

1. Each Separate Petroleum Operation is to be treated as a separate business;
2. Assessable income is calculated for each Separate Petroleum Operation;
3. Transactions between Separate Petroleum Operations are required to be conducted on arm’s length basis;
4. Transactions between a Separate Petroleum Operation of a person and any other activity of a person should be conducted on arm’s length basis;
5. Transfer of an asset to or from a Separate Petroleum Operation is required to be treated as acquisition and disposal of an asset.
6. Capital allowances for assets used in two Separate Petroleum Operations in a year are required to be apportioned in proportion to the use of the assets in each Separate Petroleum Operation.