IFRS 16 Leases

Definitions
A lease is a contract, or part of a contract, that conveys the right to use an underlying asset for a
period of time in exchange for consideration.
The lessor is the entity that provides the right-of-use asset and, in exchange, receives consideration.
The lessee is the entity that obtains use of the right-of-use asset and, in exchange, transfers
consideration.
A right-of-use asset is the lessee's right to use an underlying asset over the lease term.
A contract 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'
The customer controls the asset’s use if it has:
* The right to substantially all of the identified asset's economic benefits, and
* The right to direct the identified asset's use.

If the lessee doesn't have right to use identified asset it's not lease, if would exchange asset be
Economically beneficial for lessor.
*Restrictions to use
The right to direct the use of the asset can still exist if the lessor puts restrictions on its use in a contract.
These restrictions define the scope of a customer’s right of use.
*Alternative assets
A customer does not have the right to use an identified asset if the supplier has the practical ability
to provide an alternative asset and if it would be economically beneficial for them to do so.

IFRS 16 Leases requires lessees to recognise an asset and a liability unless the lease is short-term
or of a minimal value.

Initial Measurement
Lease Liability : at Present Value of lease payments
# Fixed payments
# Variable payments that depend on an index or rate
# Amounts expected to be payable under residual value guarantees
# Options to purchase the asset that are reasonably certain to be exercised
# Termination penalties, if the lease term reflects the expectation that these will be incurred.
The Right of use assets : is initially recognised at cost.
# The amount of the initial measurement of the lease liability (see above)
# Lease payments made at or before the commencement date
# Initial direct costs
# The estimated costs of removing or dismantling the underlying asset as per the conditions of lease
The lease term :
# Non-cancellable periods
# Periods covered by an option to extend the lease if reasonably certain to be exercised
# Periods covered by an option to terminate the lease if reasonably certain not to be exercised.

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Subsequent measurement
*Lease Liability
The liability is increased by the interest charge, which is also recorded in profit or loss
Dr Finance costs (SPL) **
Cr Lease liability **
Cash payments reduce the lease liability
Dr Lease liability **
Cr Cash **
*Right-of-use asset
Under the cost model, the asset will be measured at cost less accumulated depreciation and
impairment losses
The asset is depreciated
# Initial direct costs
 over the shorter of the lease term and the useful life of the asset if ownership does not transfer
to the lessee
 over the useful life of the asset if ownership does transfer to the lessee.
An en ty may apply the IAS 16 PP&E revalua on model to all right-of-use assets within that class

Separating components
A contract may contain a lease component and a non-lease component
Unless an entity chooses otherwise, the consideration in the contract should be allocated to each
component based on the stand-alone selling price of each component
Entities can, if they prefer, choose to account for the lease and non-lease component as a single lease.
This decision must be made for each class of right-of-use asset. However this choice would increase
the lease liability recorded at the inception of the lease, which may negatively impact perception
of the entity's financial position.

Reassessing the lease liability

IFRS 16 says that the lease liability should be re-calculated using a revised discount rate if:
# The lease term changes
# The entity's assessment of an option to purchase the underlying asset changes
Lease liability should be re-calculated against Right of use assets
The CA of right of use assets + the result of recalculation of lease liability will be depreciated over the
remaining lease term of years.
If there's any changes of the consumer price index from the commencement date, the lease liability
should be re-calculated.

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Short-term leases and low value assets
If the lease is short-term (twelve months or less at the inception date) or of a low value then
a simplified treatment is allowed.
In these cases, the lessee can choose to recognise the lease payments in profit or loss on a straight-line basis
. No lease liability or right-of-use asset would therefore be recognised.

Lessee disclosures
If right-of-use assets are not presented separately on the face of the statement of FP then they
should be included within the line item that would have been used if the assets were owned
# The depreciation charged on right-of-use assets
# Interest expenses on lease liabilities
# The expense relating to short-term leases and leases of low value assets
# Cash outflows for leased assets
# Right-of-use asset additions
# The carrying amount of right-of-use assets
# A maturity analysis of lease liabilities.

Lessor Accounting:
A lessor must classify its leases as finance leases or operating leases.
A finance lease is a lease where substantially all of the risks and rewards of the underlying assets
transfer to the lessee.
An operating lease is a lease that does not meet the definition of a finance lease.
IFRS 16 Leases states that a lease is probably a finance lease if one or more of the following apply:
# Ownership is transferred to the lessee at the end of the lease
# The option to purchase the asset will exercise
# The lease term (including any secondary periods) is for the major part of the asset's useful life
# The PV of the lease payments amounts = FV of the leased asset
# a specialised nature so that only the lessee can use them
# lessor pay losses for lessee if lease contract cancelled
# Gains or losses from in the fair value of the residual fall to the lessee
# The lessee can continue the lease for a secondary period lower than market rent payments.

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Finance leases
Initial treatment
At the inception of a lease, lessors present assets held under a finance lease as a receivable.
Dr Lease receivable **
Cr PPE **
Cr Profit on disposal (PL) **
The value of the receivable should be equal to the net investment in the lease.
The value of the receivable is calculated as the present value of:
# Fixed payments
# Variable payments that depend on an index or rate
# Residual value guarantees
# Unguaranteed residual values
# Purchase options that are reasonably certain to be exercised
# Termination penalties, if the lease term reflects the expectation that these will be incurred.
Subsequent treatment
The CA of the lease receivable is increased by finance income on PL
Dr Lease receivable **
Cr finance income (PL) **
The CA of the lease receivable is reduced by cash receipts.
Dr Cash **
Cr Lease receivable **

Operating leases
A lessor recognises income from an operating lease on a straight-line basis over the lease term.
Any direct costs of negotiating the lease are added to the cost of the underlying asset
The underlying asset should be depreciated in accordance with IAS 16 PPE or IAS 38 Intangible

Lessor disclosure
The underlying asset should be presented in the statement of financial position according to its nature.
For finance leases, IFRS 16 requires lessors to disclose:
# Profit or loss arising on the sale
# Finance income
# Data about changes in the carrying amount of the net investment in finance leases
# A maturity analysis of lease payments receivable.
For operating: a maturity analysis of undiscounted lease payments receivable.

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Subleases
If a lessee subsequently leases the right-of-use asset to a third party in a separate lease, a sublease
is created.

Entity A Entity B Entity C

Lease 1 – Head lease lessor Lease 2 – ‘Intermediate lessor’ Lease 2 – Sublease lessee
Head lease – the original lease ‘Sublease’- the second lease
(between Entity A and B) (between Entity B and C)
Head lessor Intermediate lessor Sublease lessee
The original lessor in the initial The original lessee in the initial When the intermediate entity
lease agreement (Entity A in lease agreement, that become a lessor and the third one
the above arrangement). subsequently become sublease lessee
becomes the lessor when
entering into a sublease with a
third party (Entity B in the above
arrangement).

Accounting treatment of a sublease – the intermediate lessor (Entity B)

The intermediate lessor is simultaneously a lessee in the head lease and the lessor in the sublease.
If the intermediate lessor classifies the sublease as a finance lease (the risks and
rewards transfer to the sublease lessee), then it will:
 derecognise the right-of-use asset relating to the head lease (for which it is the lessee)
 recognise the net investment in the sublease (for which it is a lessor)
 recognise any difference in profit or loss, and
 retain the lease liability relating to the head lease in its statement of financial position, which
represents the lease payments owed to the head lessor.

If the intermediate lessor classifies the sublease as an operating lease (the risks and rewards DO NOT
transfer to the lessee), then it will:
 retain the right-of-use asset and the lease liability relating to the head lease (for which it is the lessee)
 recognise depreciation charges for the right-of-use asset and interest on the lease liability
(as per lessee accounting)
 recognise the lease income from the sublease in profit or loss (as per lessor accounting of an operating
lease).

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Sale and leaseback
If an entity (the seller-lessee) transfers an asset to another entity (the buyer lessor) and then leases
it back, IFRS 16 requires that both en es to determine if the sale should be recognised as an actual sale
For this purpose, en es must apply IFRS 15 Revenue from Contracts with Customers to decide
whether a performance obligation has been satisfied.
This normally occurs when the customer obtains control of a promised asset.
Control of an asset refers to the ability to obtain substantially all of the remaining benefits.

Accounting treatment
Seller-lessee Buyer-lessor
Transfer is not a sale Transfer is a sale Transfer is not a sale Transfer is a sale
*Continue to *Derecognise the asset. *Do not recognise the *Account for the asset
recognise asset asset Purchase
*Recognise a right-of-
*Recognise a use asset as the *Recognise a financial *Account for the lease
financial liability proportion of the asset equal to transfer by applying lessor
equal to proceeds previous carrying proceeds. accounting
received. amount that relates to requirements
the rights retained.

In simple terms, the *Recognise a lease

transfer proceeds are liability.
treated as a loan.
IFRS9 A profit or loss on
disposal will arise.

Transactions not at fair value

If the sales proceeds or lease payments are not at fair value, IFRS 16 requires that
# Below market terms (e.g., when the sales proceeds are less than the assets FV) are treated as
a prepayment of lease payments
# Above market terms (e.g., when the sales proceeds exceed the asset’s FV) are treated as
additional financing.

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