GAAP clear vision Need to know IASB issues IFRS 16 – Leases In a nutshell and liabilities recognised in respect Observation of all leases (subject to limited • The new Standard provides exceptions for short‑term leases and The project’s original aim was the a comprehensive model for the leases of low value assets). production of a converged IFRS and identification of lease arrangements U.S. GAAP standard. However, the and their treatment in the financial • In contrast, the Standard does not IASB and FASB reached different statements of both lessees and include significant changes to the conclusions on a number of lessors. It supersedes IAS 17 Leases requirements for accounting by issues including the recognition and its associated interpretative lessors. and presentation of expenses by guidance. • Entities will need to consider the lessees. As a result, the FASB’s • IFRS 16 applies a control model to the impact of the changes introduced leasing standard (issued in February identification of leases, distinguishing by the Standard on, for example, IT 2016) differs from IFRS 16 in several between leases and service contracts systems and internal controls. respects. on the basis of whether there is an • Subject to EU endorsement, the identified asset controlled by the Standard is effective for annual customer. periods beginning on or after 1 • Significant changes to lessee January 2019 with earlier application For more information please see accounting are introduced, with the permitted for entities that have the following websites: distinction between operating and also adopted IFRS 15 Revenue from www.iasplus.com finance leases removed and assets Contracts with Customers. www.deloitte.ie Introduction comparability between financial statements decided to develop a new approach to IFRS 16 is the result of the joint project due to the very different accounting lessee accounting that requires a lessee to initiated by the IASB together with the U.S. applied to operating and finance leases and recognise assets and liabilities for the rights national standard‑setter, the Financial limitations in the information provided on and obligations created by leases (with Accounting Standards Board (FASB), to operating leases and on entities’ exposure some limited exceptions) and to enhance address concerns raised by users of to risks arising from lease arrangements. the required disclosures on leases. financial statements in respect of reduced To address those concerns, the two boards 1 GAAP clear vision Scope allowing short‑term leases and leases of The exception for leases of low value assets The new Lease Standard applies to all low value assets to be accounted for by can, on the other hand, be applied on leases, including leases of right of use simply recognising an expense, typically a lease by lease basis. assets in a sublease, with the exception of straight‑line, over the lease term (so, in specific items covered by other standards, a manner consistent with the current namely: accounting for operating leases). Observation • leases to explore for or use minerals, oil, A ‘short term lease’ is defined as one that The ‘low value’ exception is unusual natural gas and similar non‑regenerative does not include a purchase option and in that it applies in absolute terms resources; has a lease term at commencement date rather than by reference to the size • contracts within the scope of IFRIC 12 of 12 months or less. Lessees must apply, of the reporting entity (i.e. it is not Service Concession Arrangements; or not apply, the exception for short‑term a measure of the lease’s leases consistently for each class of materiality). • for lessors, licences of intellectual underlying leased asset. property within the scope of IFRS 15 The Standard does not provide Revenue from Contracts with Customers; a monetary value that should be and for lessees, leases of biological considered ‘low’ for these purposes, assets within the scope of IAS 41 Lease term but does state that the assessment Agriculture and rights held under licensing should be made based on the agreements within the scope of IAS 38 The lease term is defined as the asset’s value when new (even if Intangible Assets for items such as motion non‑cancellable period of the lease, a used asset is leased) and the Basis picture films, video recordings, plays, including: for Conclusions notes that, at the manuscripts, patents and copyrights. time of reaching its decision to 01. periods covered by an option to provide an exception, the IASB had Lessees are permitted, but not required, to extend the lease if the lessee is in mind leases of underlying assets apply IFRS 16 to leases of other intangible reasonably certain to exercise with a value, when new, in the order assets. that option; and of magnitude of US$5,000 or less. 02. periods covered by an option to It should also be noted that the ‘low Short-term leases and leases of low value terminate the lease if the lessee is value’ exception only applies to assets reasonably certain not to exercise leased assets that are not highly that option. dependent on, or highly interrelated In response to concerns raised over the with, other assets. cost of applying the requirements of the An entity is required to revise the new Standard, the IASB decided to provide lease term if there is a change in the a recognition exemption for preparers by non‑cancellable period of a lease. 2 GAAP clear vision Definition of a lease The Standard aims to distinguish a lease Observation Consolidated Financial Statements and from a service contract on the basis of IFRS 15 Revenue from Contracts with whether a customer is able to control the The definition emphasises the notion of Customers, and with the IASB’s asset being leased. control because the IASB decided that proposals regarding control in the to control the use of an asset, Conceptual Framework Exposure Draft. A contract is, or contains, a lease if the a customer is required to have not only contract provides a customer with the the right to obtain substantially all of The Standard provides detailed right to control the use of the identified the economic benefits from use of an guidance to determine whether those asset for a period of time in exchange for asset throughout the period of use (a conditions are met. It is expected that consideration. Control is considered to ‘benefits’ element) but also the ability significant judgement will be required exist if the customer has: to direct the use of that asset (a ‘power’ to make this assessment in some cases. element). This guidance is consistent A summary of the detailed guidance is (a) the right to obtain substantially all of the with the concept of control in IFRS 10 provided below. economic benefits from use of an identified asset; and (b) the right to direct the use of that asset. inception and it will only reassess whether the earlier of the date of a lease agreement the contract is or contains a lease in case of and the date of commitment by the parties An entity is required to identify whether a modification to the terms and conditions to the principal terms and conditions of a contract is, or contains, a lease at of the contract. The inception of a lease is the lease. Concept Definition Observation Use of an identified An asset is typically identified if it is The requirement is similar to the guidance set out in IFRIC 4 asset explicitly specified in a contract or Determining whether an Arrangement contains a Lease. An entity does implicitly specified at the time the not need to be able to identify the particular asset (for example, asset is made available for use by the a specific serial number). Instead, an entity needs to determine customer. However, if the supplier has whether an identified asset is needed to fulfil the contract. substantive rights to substitute the One area that will involve significant judgement will be the asset throughout the period of use distinction between a lease and a capacity contract. The Standard then the asset is not considered to be clarifies that a capacity portion of an asset is an identified asset if ‘identified’. it is physically distinct (for example, a floor of a building). By way of illustrating this concept, the Standard contrasts a contract for exclusive use of specific fibres within a larger cable used to transmit data with one for use of an equivalent portion of the capacity of the cable as a whole – concluding that the former contract includes the right to use an identified asset but the latter does not. Substantive A supplier’s right to substitute an The IASB decided to include this requirement because it considered substitution rights asset is substantive only if both of that if a supplier has a substantive right to substitute the asset the following conditions exist: (a) throughout the period of use, then it is the supplier who controls the the supplier has the practical ability use of the asset and not the customer. to substitute alternative assets The concept of economic benefit from substitution rights is throughout the period of use; illustrated by an example of a contract to use a specified type of rail and (b) the supplier would benefit car to transport goods. In this example, the supplier is deemed to economically from the exercise of its benefit from exercise of its right to substitute as this allows them to right to substitute the asset. utilise its pool of available rolling stock in the most efficient manner. 3 GAAP clear vision Concept Definition Observation Right to obtain To control the use of an identified This assessment is made within the boundaries of the economic benefits asset, a customer is required to have scope of the contract.