In January 2016, the International Accounting Standards Board (IASB) issued IFRS 16 Leases which represents the first major overhaul in lease accounting for over 30 years.
The Standard brings fundamental changes to lease accounting that replace previous accounting that is considered no longer fit for purpose. These changes become effective from 1 January 2019.
IFRS 16 will affect most companies involved in leasing that report under International Financial reporting Standards (IFRS). It will have a substantial impact on the financial statements of lessees of property and high value equipment – requiring that leases be placed on-balance sheet by recognising a ‘right-of-use’ asset and a lease liability.
Our Insights into IFRS 16 series summaries key areas of the Standard and aims to assist you in preparing for the changes that you will need to make.
Understanding the discount rate
Our first article considers the topical area of ‘Understanding the discount rate’. Under IFRS 16, discount rates are required to determine the present value of the lease payments used to measure a lessee’s lease liability. Discount rates are also used to determine lease classification for a lessor and to measure a lessor’s net investment in a lease.
In this article we explore the alternative methods prescribed in IFRS 16 to determine discount rates and share our insights to help you understand them.
Our second article relates to the topic of ‘Interim periods’. IFRS 16 must first be applied to accounting periods beginning on or after 1 January 2019, including interim periods beginning on or after that date.
This article considers the application of IFRS 16 in those interim periods and any differences that may arise compared to the requirements of IAS 34 Interim Financial Reporting.
Definition of a lease
Our third article relates to the topic of ‘Definition of a lease’. IFRS 16 changes the definition of a lease from the current evaluation in IFRIC 4 Determining whether an Arrangement contains a Lease and provides guidance on how to apply this new definition. As a result, some contracts that do not contain a lease today will meet the definition of a lease under IFRS 16, and vice versa.
Our article explains the new lease definition and the three key evaluations necessary to determine that the contract is or contains a lease.
Our fourth article looks at the important topic of ‘Lease term’. Determining the correct lease term under IFRS 16 is significant. Firstly, the longer the lease term, the larger the lessee’s right-of-use asset and lease liability will be. Secondly, the length of the lease term determines whether a lease qualifies for the short-term lease exemption. Finally, IFRS 16 contains additional application guidance on how to deal with periods covered by options to extend or terminate a lease. While this detailed guidance can be helpful, it also means there is more to consider when determining the lease term.
Our article explains the key aspects of determining the lease term at commencement date and when it should be reassessed.
Our fifth article 'Transition choices' relates to the important topic of transitioning to the new leases standard and the methods described in IFRS 16 Leases. Many recent accounting standards include transition reliefs to assist in adoption in order to make first time application simpler, and IFRS 16 is no exception.
Our article sets out the choices that are available and discusses some of their practical implications.
Sale and leaseback accounting
Our latest article is on 'Sale and leaseback accounting'. IFRS 16 makes significant changes to accounting for sale and leaseback transactions.
A sale and leaseback transaction is a popular way for entities to secure long-term financing from substantial property, plant and equipment assets such as land and buildings. It is a transaction where an entity (the seller-lessee) transfers an asset to another entity (the buyer-lessor) for consideration and leases that asset back from the buyer-lessor.
IAS 17 covered the accounting for a sale and leaseback transaction in considerable detail but only from the perspective of the seller-lessee. As IFRS 16 has withdrawn the concepts of operating leases and finance leases from lessee accounting, the accounting requirements that the seller-lessee must apply to a sale and leaseback are more straight forward. In addition, IFRS 16 provides an overview of the accounting requirements for buyer-lessors too. Our article explains the new concepts and provides a simplified example of the requirements.
At the commencement of a lease, IFRS 16 requires a lessee to measure the lease liability at the present value of the lease payments that are not paid at that date. This liability includes both fixed payments (including in-substance fixed payments) and variable lease payments that depend on an index or rate, and represents the starting point for the measurement of the related right-of-use asset.
Deciding which payments need be recognised in the measurement of the liability and how changes in those payments are recognised often involves considerable judgement. Our article clarifies areas of the Standard to assist you when making these judgements.