Recognizing Profits on a Sale-Leaseback Transaction
John Carson, president of Carson Enterprises, recently arranged a financing deal with a group of foreign investors whereby he sold his movie company for $13,000,000 and immediately leased the company back, recognizing a $4,000,000 profit on the sale. Mr. Carson has just entered your office to tell you, his accountant, the good news. After hearing the details of the transaction, you tell Mr. Carson that he must defer recognizing the gain immediately and instead recognize it piecemeal over the term of the lease agreement. Mr. Carson counters that if he had simply sold the company to the investors, he would be able to book the profits. He asks you: “What difference does it make if I lease the company back or not? Shouldn’t the sale and the lease be treated as two separate transactions?” How do you respond?