Here's a brief summary of key points from IFRS 16 "Leases":
Scope: IFRS 16 applies to all leases except for certain exclusions such as leases of intangible assets and leases related to mineral resources or biological assets.
Definition of a Lease: A lease is defined as a contract that conveys the right to control the use of an asset for a period in exchange for consideration.
Lessee Accounting:
Lessees must recognize leases on the balance sheet as both assets and liabilities, except for short-term (12 months or less) and low-value asset leases.
Initial measurement involves calculating the present value of lease payments for the lease liability and recognizing the right-of-use asset at this value plus any direct costs or prepayments.
Subsequent measurements include amortizing the lease liability using the effective interest method and adjusting the right-of-use asset for depreciation and impairment.
- Lessor Accounting:
Lessors must classify leases as either finance or operating leases.
In finance leases, they recognize a lease receivable (at the present value of lease payments) and a residual asset.
Operating leases involve straight-line income recognition over the lease term.
- Sale and Leaseback Transactions:
Treatment depends on whether it's classified as a finance or operating lease. Gains or liabilities must be recognized accordingly.
- Disclosures:
Lessees and lessors are required to disclose comprehensive details regarding the nature, amounts, and assumptions related to their leases.
Here are some examples to illustrate the application of IFRS 16:
Example 1: Lessee Accounting
Scenario: A company leases office space for 5 years, with annual lease payments of $10,000, and no initial direct costs. The company has an incremental borrowing rate of 5%.
Application:
Initial Recognition: The present value of the lease payments is calculated using the incremental borrowing rate. Assume the present value of the 5 annual payments is $43,295.
Journal Entry:
Right-of-Use Asset $43,295
Lease Liability $43,295
Subsequent Measurement: The lease liability is amortized using the effective interest method, and the right-of-use asset is depreciated over the lease term.
Example 2: Short-Term Lease Exemption
Scenario: A company leases equipment for a period of 6 months at $1,000 per month.
Application:
Since the lease term is less than 12 months and does not include an option to purchase, it qualifies for the short-term lease exemption.
Accounting Treatment: The company can recognize lease payments as an expense on a straight-line basis:
Lease Expense $1,000
Cash $1,000
Example 3: Lessor Accounting – Finance Lease
Scenario: A lessor leases machinery to a company for 3 years with lease payments of $15,000 annually. The present value of lease payments is $40,000.
Application:
The lessor records the lease as a finance lease because substantially all the risks and rewards of ownership have been transferred.
Journal Entry:
Lease Receivable $40,000
Asset (Machinery) $40,000
Example 4: Lessor Accounting – Operating Lease
Scenario: A real estate company leases a building for 10 years and receives $50,000 annually.
Application:
The lessor classifies it as an operating lease, as ownership risks and rewards are not substantially transferred.
Accounting Treatment: The lessor records lease income on a straight-line basis:
Cash $50,000
Lease Income $50,000
Example 5: Sale and Leaseback Transaction
Scenario: A company sells a building for $500,000 and leases it back with lease payments of $25,000 per year for 10 years.
Application:
If the transaction qualifies as a sale, the company recognizes the sale and adjusts the right-of-use asset and lease liability according to IFRS 16.
Partial Gain/Loss Recognition:
Cash $500,000
Building $450,000
Gain on Sale $50,000
