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IFRS 10 and IFRS 16 — Sale and leaseback in a corporate wrapper

Date recorded:

Background

The Committee received a submission asking about the applicability of the sale and leaseback requirements in IFRS 16 to a transaction in which an entity sells its equity interest in a subsidiary that holds only a real estate asset and then leases that real estate asset back. In the fact pattern described, an entity owns 100% of the equity interest in a subsidiary which has only one asset, a building which does not meet the definition of a business. The entity sells all of the equity interests in the subsidiary to a third party and loses control over it. The transfer of the building meets the requirements in IFRS 15 for a sale. The entity then enters into a contract to lease back the building from the third party for a period of time. The submitter asks whether the entity should apply the sale and leaseback requirements in IFRS 16:100(a) in its consolidated financial statements and how the gain on the disposal should be calculated.

Staff analysis

The staff did not perform outreach on this submission in view of the fact that the outreach for other submissions performed in 2019 revealed that selling single asset entities and leasing them back is common and in light of the recent effective date of IFRS 16, relevant observable practices may be limited.

The staff analysed that it is clear that the loss of control requirements in IFRS 10:25 and B97-B99 apply to the transaction described in the fact pattern because the entity disposed of all the equity interests in its subsidiary. Whilst for the applicability of IFRS 16, the staff quoted IFRS 16:BC261 which mentioned that in assessment of sale and leaseback, not only the legal form of the transaction, but also other form of transaction which resulted in the same economic benefit should be considered. Applying to this transaction, the economic benefit of selling the equity interests is the same as selling the building directly by the entity in its consolidated financial statements. Therefore, it is considered that the transaction is within the scope of both IFRS 10 and IFRS 16. The staff also refers to similar situations where sale and leaseback transactions involve the sale of  property, plant and equipment or an investment property and the selling entity leases the asset back. In these situations, IAS 16 and IAS 40 apply to the derecognition of such assets and at the same time, IFRS 16 applies to the leaseback arrangement. This demonstrates that the sale and leaseback transaction could fall in the scope of two Standards.

The staff analysed that the entity would first apply IFRS 10:B98 for the loss of control over the subsidiary by derecognising the building, recognising the fair value of the consideration, the cash received and a lease (including the right-of-use (ROU) asset and the lease liability), and recognising the resulting difference as a gain on sale. Secondly, the entity would apply IFRS 16:100(a) to measure the ROU asset arising from the leaseback at the proportion of the previous carrying amount of the building that relates to the right of use it retains. The measurement of right-of-use asset and the gain on sale from the application of IFRS 10 would be adjusted to meet the requirements for a sale and leaseback applying IFRS 16.

Some might suggest that an entity is not able to apply these two Standards simultaneously because recognising only the amount of gain or loss on the sale that relates to the rights transferred to the buyer-lessor contradicts with the requirement of IFRS 10:B98(d) of recognising full amount of gain or loss on sale of the subsidiary. However, the staff is of the view that overlaying the sale and leaseback requirements with the loss of control requirements does not mean the entity no longer complies with the requirement in IFRS 10. Rather, it implies there is another aspect of the transaction, the leaseback, which results in the adjustment of the amount of the gain on disposal.

Therefore, the staff conclude that IFRS 10:25 and B97-B99 apply to the accounting for the loss of control of the subsidiary and IFRS 16:100(a) applies for measuring of the ROU asset and the gain on the leaseback arrangement.

Staff recommendation

Based on the above analysis, the staff conclude that the principles and requirements in IFRS 10 and IFRS 16 provide an adequate basis to determine the accounting for the above transaction and not to add the matter to the Committee's standard-setting agenda.

Discussion

The Committee members generally agreed with the conclusion of the accounting treatment and the application of both IFRS 10 and IFRS 16 to the transactions specified in the fact pattern. However, there was a lively discussion on referencing IFRS 15 in the transaction, the two-step approach and the interactions of the standards in determining the amount of gain.

A number of the Committee members were of the view that it is confusing to refer to IFRS 15 for the derecognition criteria of the assets because it is clear in the fact pattern that the entity loses control over the subsidiary under IFRS 10 and this is out of the scope of IFRS 15. Quoting IFRS 15 would make the case complex because it requires the entity to assess if the entity still retains some of the control in the subsidiary, which is not the case in the fact pattern. The staff explained that, going through IFRS 15 is merely a test required by IFRS 16.100 for sale and leaseback arrangement, instead of meaning it is in the scope of IFRS 15. The staff agreed to make it clear in the agenda decision that the transaction is not in the scope of IFRS 15. 

Regarding the two-step approach, i.e. applying IFRS 10 first for the loss of control followed by applying IFRS 16 for the sale and leaseback arrangement, some Committee members had concern on the ordering of the application. They considered that such ordering would make IFRS 16 dominating or overriding IFRS 10 in the overall application. Moreover, the substance of transaction is to arrange a sale and leaseback under IFRS 16:BC261 by selling the equity interest in the subsidiary and the lease is part of the consideration for the disposal of subsidiary. Therefore, the two standards should be applied as a whole instead of applying IFRS 10 alone in the first step without considering sale and leaseback. In contrast, some Committee members considered such flow/ordering is natural given that without losing the control of the subsidiary it would not result in the sale and leaseback arrangement. One Committee member quoted an example of the case that where entity loses control of a subsidiary holding multiple assets and lease back only one of them. The ordering of applying IFRS 10 followed by IFRS 16 is sensible in such case. The staff explained that ordering of IFRS 10 and IFRS 16 in the agenda decision is for complementary analysis but it does not mean it is the explicit flow of the application.

Some Committee members said it is unclear how the two standards interact when it come to the calculation of the amount of gain. One member suggested the agenda decision should make it clear why the amount of gain of such transaction is based on IFRS 16:100(a) instead of IFRS 10:98(d) by explaining IFRS 16:100(a) has specific guidance on the gain or loss on the rights of the assets transferred while IFRS 10 does not. Staff agreed with this and suggested to add wording to emphasise that the gain is reflecting what is required under IFRS 16:100(a).

The Committee decided, by a majority vote of 12, not to add the matter to the Committee's standard-setting agenda. And 13 of the Committee members agreed the changes to the wordings in the agenda decision as suggested above and the other edits discussed in the meeting.

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