IASB issues new leasing standard
13 Jan 2016
The International Accounting Standards Board (IASB) has published a new standard, IFRS 16 'Leases'. The new standard brings most leases on-balance sheet for lessees under a single model, eliminating the distinction between operating and finance leases. Lessor accounting however remains largely unchanged and the distinction between operating and finance leases is retained. IFRS 16 supersedes IAS 17 'Leases' and related interpretations and is effective for periods beginning on or after 1 January 2019, with earlier adoption permitted if IFRS 15 'Revenue from Contracts with Customers' has also been applied (subject to EU endorsement).
In July 2006 a project to revise lease accounting was added to the IASB’s agenda. The project was undertaken as a joint project with the US Financial Accounting Standards Board (FASB), with both standard-setters looking to develop an approach requiring lessees to recognise assets and liabilities for the rights and obligations arising under leases. In the years that followed, a discussion paper and two exposure drafts were published, with both boards undertaking significant outreach activities. The IASB has now issued a final standard with a single lessee accounting model, whereas the FASB has decided to have a dual lessee accounting model in their forthcoming standard – both however require assets and liabilities to be recognised (with limited exceptions)
Identifying a lease
A contract is, or contains, a lease if it conveys the right to control the use of an identified asset for a period of time in exchange for consideration. Control is conveyed where the customer has both the right to direct the identified asset’s use and to obtain substantially all the economic benefits from that use.
Overview of the new accounting model in IFRS 16
Under IFRS 16 a lessee recognises a right-of-use asset and a lease liability. The right-of-use asset is treated similarly to other non-financial assets and depreciated accordingly and the liability accrues interest. This will typically produce a front-loaded expense profile (whereas operating leases under IAS 17 would typically have had straight-line expenses) as an assumed linear depreciation of the right-of-use asset and the decreasing interest on the liability will lead to an overall decrease of expense over the reporting period.
The lease liability is initially measured at the present value of the lease payments payable over the lease term, discounted at the rate implicit in the lease if that can be readily determined. If that rate cannot be readily determined, the lessee shall use their incremental borrowing rate.
As with IFRS 16’s predecessor, IAS 17, lessors classify leases as operating or finance in nature. A lease is classified as a finance lease if it transfers substantially all the risks and rewards incidental to ownership of an underlying asset. Otherwise a lease is classified as an operating lease.
For finance leases a lessor recognises finance income over the lease term, based on a pattern reflecting a constant periodic rate of return on the net investment. A lessor recognises operating lease payments as income on a straight-line basis or, if more representative of the pattern in which benefit from use of the underlying asset is diminished, another systematic basis.
Instead of applying the recognition requirements of IFRS 16 described above, a lessee may elect to account for lease payments as an expense on a straight-line basis over the lease term or another systematic basis for the following two types of leases:
- leases with a lease term of 12 months or less and containing no purchase options – this election is made by class of underlying asset; and
- leases where the underlying asset has a low value when new (such as personal computers or small items of office furniture) – this election can be made on a lease-by-lease basis.
IFRS 16 is effective for annual reporting periods beginning on or after 1 January 2019 (subject to EU endorsement). Earlier application is permitted if IFRS 15 Revenue from Contracts with Customers has also been applied.
UK Accounting Plus
- Need to know newsletter summarising the new standard
- Overview of the project history
- Summary of IFRS 16 Leases
- The Bruce Column – Bringing clarity to leases: The new standard