In just over a year, companies will face one of the biggest accounting changes in more than a decade: the adoption of IFRS 16, the new leases standard.
On 13 January 2016, the International Accounting Standards Board (IASB) published the new IFRS 16 lease accounting standard. This standard significantly changes the accounting for leases and introduces complexity, judgement and continuous reassessment requirements for subsequent accounting over the term of a lease.
The new Leasing standard removes the concept of operating and finance leases for lessees which exists under IAS 17 Leases, replacing it with a single accounting model under which lessees must recognize all leases (including property and equipment) on the balance sheet as a new ‘right of use asset’ and ‘lease liability’. Small value assets and short term leases are excluded. The rules for lessors have not significantly changed. The change to bring the majority of leases on balance sheet was driven by the IASB to improve transparency, comparability and disclosure of companies’ leasing activities. The new standard has to be applied on 1 January 2019.
What is the impact of the new standard?
The changes in accounting are not limited to the balance sheet. For example, the lease expense profile will be front-loaded for most leases, even when rental payments are constant year-to-year. New information will also be required to support the determination of new judgments and estimates used in the calculation of the leased asset and liability on inception date and throughout the lease. These include lease term, discount rates, in-substance lease payments, rents linked to a rate or index, expected payments under residual value guarantees and inclusion of purchase options and termination payments.
Although the economic benefits and risks of leasing do not change, the new lease accounting model will change key financial metrics and KPIs and introduce volatility to the balance sheet and profit or loss due to continual re-measurement requirements. As such, careful communication of this impact to key stakeholders such as investors, banks and credit rating agencies will be critical.
All companies will need to assess the extent of the standard’s impacts so that they can address the wider business implications – and can expect analysts to take a close interest. Areas of focus may include:
Would you like to be ready for IFRS 16 in 2019?
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