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Lease Accounting Frequently Asked Questions

Posted by Ryan Hendrie on 13/03/18 10:37

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IFRS 16 Leases will replace IAS 16 Leases for reporting periods beginning on or after 1 January 2019. In the meantime, there are important implications for businesses to consider if they are to fully understand, implement and comply with the new standards.

A list of lease accounting FAQs will help you on your way.

When Is The IFRS 16 Effective Date?

The new leases standard comes into effect on 1 January 2019.

 

Is IFRS 16 The Same As FASB ASC 842?

IFRS 16 is the result of a joint leasing project between the International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB). Although this has resulted in a number of converging standards, the boards’ views have diverged over the course of the project and resulted in significant differences on Day Two lessee accounting and transition provisions. For example:

 

  • Lessees no longer classify their leases between operating and finance under IFRS but will continue to do so under US GAAP.
  • The IFRS model treats all leases as a financing arrangement, while under US GAAP, only leases classified as finance leases are treated as financing arrangements from an income statement perspective.

 

These and other differences mean that companies that report under both IFRS and US GAAP will have to run different processes, controls and accounting systems, for each framework to comply with the different lessee reporting requirements.

Who Will Be Affected?

Different companies and industries will be affected by the new standard in different ways. This will depend, for example, on the size of an entity’s leasing portfolio or the demands of the industry. Industries that are expected to be significantly impacted are: transportation, telecommunications, retail, real estate and the travel/leisure industries since these industries typically lease a high concentration of big-ticket assets. However, every company that leases will be required to review the potential impact the new standards will have on their financial statements.

How Should Companies Prepare?

There is no time to waste in preparing a company’s lease portfolio for compliance by 1 January 2019. For most companies this will mean:

  • Carrying out initial impact assessments and implementing new control measures and processes
  • Notifying and training internal and external shareholders and investors.
  • Appointing a dedicated transition team
  • Establishing objectives and control measures.
  • Understanding and where appropriate exercising the exemption options
  • Looking at transition reliefs
  • Evaluating hardware and software systems, and creating a unified platform for lease information and processes
  • Reviewing current lease portfolio and comparative financial reports
  • Setting implementation dates and deciding the best approach for transition reports
  • Producing reports and financial statements
  • Establishing a long-term lease management workflow


Why Is Lease Accounting Changing

In the past, investors had to gauge the impact of off-balance sheet leases. The objective of IFRS 16 Leases is to develop a clearer standard that includes all leases on balance sheet and provide more accurate comparable data.

How Does The New Standard Improve The Issues With The Previous Standard? - It Will:

  • Improve policies for lease management, procurement and accounting
  • Produce positive adjustments and pragmatic improvements to processes
  • Highlight systems gaps and inefficiencies in IT infrastructure
  • Enhance portfolio optimisation
  • Implement advanced lease management software
  • Increase transparency of financial statements

Provide opportunities for savings and ROI through best practice lease portfolio management

Does The New Standard Change The Definition Of A Lease?

Yes. The new standard places an emphasis on the distinction between a service and operating lease. The starting point will be to determine if a contract meets the definition of a lease, which applies when “a customer has the right to control the use of an identifiable asset for a period of time in exchange for consideration”. IFRS 16 Leases has detailed information to guide companies through the various issues that determine if a contract contains a lease or a service, or both.

 

Is Lessor Accounting Changing?

Lessor accounting will remain unchanged for now. The International Accounting Standards Board (IASB), along with investors and analysts, believe the cost of changing lessor accounting outweighs any benefit that may be derived from change.

 

What Are The Main Changes? - Lessees Must:

  • Account for their leases under a single accounting treatment.
  • Bring almost all leases on balance sheet.
  • Recognise a right of use asset and a lease liability arising from the agreement.
  • Improve transparency of financial statements through the recognition of leases commitment on an entity's balance sheet.
  • IFRS 16 will mainly affect lessees. Current finance and operating lease distinction
    and accounting for lessors remains largely unchanged, except for additional disclosures.

 

What Are The Main Impacts And Implications?

  • The new standard will impact reported profit performance, financial ratios, performance measures and other financial.
  • Bringing leases onto the balance sheet is expected to increase debt, earnings before interest, taxes, depreciation and amortisation (EBITDA) by about 10%.
  • Focus shifts from risk and reward, to the control of the asset, which may result in agreements formerly known as leases to be defined as services, and vice versa.
  • Ends sale-and-leaseback as an off-balance sheet financing structure.
  • Alters cash flow presentation, measurements of lease liabilities and recognition of lease expenses.
  • Guidance given for lease variants, including sale-and-leaseback and subleases.
  • Reporting will require lessees to review all leases (transition reliefs are available).

 

What Key Items Are Needed On Our Balance Sheet?

It is expected that a lessee will recognise assets and liabilities arising from all leases, although there will be some short-term lease and low asset value lease exemptions. The model is based on the premise that the lessee will, at the start of a lease, obtain a right to use an asset (ROU) for a period of time, and that the lessor has delivered that right.

 

What Will Be Considered Low Value?

An asset with a value, when new, of about $5,000 is considered to be of low value. A low-value exemption will apply to leases that are not dependent on, or interrelated to, other leased assets. Both the Financial Accounting Standards Board (FASB) and the IASB have proposed the exclusion of small ticket leases from the balance sheet to help reduce the impact and costs of transitioning to the new standard.

 

Will I Need Software To Track And Account For Leases Under The New Standard? 

The right software can smooth the transition to the new lease accounting standards. IFRS 16 requires that companies have immediate access to both historical lease data and documentation, as well as access to real-time reports and analysis for quick and accurate decision processes.

A lease accounting solution, like Innervision’s LOIS (Lease Optimisation and Information Software), has specially developed IFRS 16 and FASB ASC 842 reporting tools for easy collation and the export of all the data needed to comply with the new lease accounting standards.

Without a dedicated internal leasing process, companies—especially those with many leases in their portfolio—will find it difficult to locate the necessary documents containing the vital lease data required. Cloud-based software, like LOIS, allows clients to store, manage, search, track and export all their lease data in as much detail as they need.


If you would like to find out more,
download The 7 Steps To Lease Accounting Compliance. The free guide seeks on providing readers with a brief overview of the standards, outlines the practical implications and challenges, as well as providing stage-by-stage guidance on how to comply - Just click on the link below to access your copy:

 

7 Step Guide to Lease Accounting - Click to View

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