Service arrangements often contain multiple elements, such as labour, equipment usage and other services. Where an arrangement involves the use of assets, customers and service providers need to consider whether there is an embedded lease. There are significant changes to lease accounting for lessees, however lessors are not immune from the effects of AASB 16 Leases. Here we respond to some of the questions we are hearing from lessors on embedded leases.
Let’s pose a scenario that a logistics services provider, Company X, enters into an arrangement with a retailer to provide supply chain management services, including:
Under the terms of the arrangement, Company X will provide the retailer with exclusive use of a warehouse to store the retailer’s goods and a fleet of customer branded trucks to transport the retailer’s goods. Company X has no substantive right to substitute the warehouse or trucks throughout the period of use.
Question 1: Could there be a lease under AASB 16 in an integrated services arrangement?
Interpretive response: Yes if the service is dependent on the use of assets. Based on the scenario above, there are leases as:
Contracts do not need to contain the word ‘lease’, ‘rental’ or ‘hire’ for there to be a lease. Examples of some common contracts which could contain embedded leases include IT, logistics, mining, engineering and construction services arrangements.
Question 2: What is the impact to the service provider if there is a lease?
Interpretive response: Company X separates the lease components from the non-lease components in the integrated service arrangement. Company X applies AASB 16 to the lease component and AASB 15 Revenue from Contracts with Customers to the non-lease components.
Company X as lessor, also considers the nature* of the lease, that is, is it a finance or an operating lease?
If it is a finance lease – Company X derecognises the underlying asset and recognises a lease receivable** on the balance sheet. Any gain or loss is presented in the same P&L line item as gains or losses from sales of similar assets, or in revenue and cost of sales when the transaction is part of the ordinary activities of the business. Finance income is recognised over the term of the arrangement.
If it is an operating lease – Company X recognises lease payments as income, separate from other sources of revenue.
Different disclosure requirements apply for the non-lease and lease components, under AASB 15 and AASB 16 (PDF 1.8 MB) respectively.
Question 3: Do the short-term and low value lease exemptions apply to lessors?
Interpretive response: No. The short-term and low value lease exemptions apply to lessees only.
A contract contains a lease if the contract conveys the right to use an identified asset for a period of time in exchange for consideration [AASB 16:9].
For contracts which contain a lease component and one or more additional lease or non-lease components, a lessor shall allocate the consideration applying AASB 15 [AASB 16:17].
*Unlike lessees, lease classification as finance or operating continues for lessors under AASB 16.
**The lease receivable includes fixed payments, less any lease incentives payable, variable lease payments that depend on an index or a rate, residual value guarantees, the exercise price of a purchase option if the lessee is reasonably certain to exercise the option and termination penalties if the lease term reflects early termination [AASB 16:70].
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