IFRS 16: THE LEASES STANDARD IS CHANGING ARE YOU READY? - PWC
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IFRS 16: The leases
standard is
changing
Are you ready?
IFRS 16 – The new leases
standard
January 2016
New standard
The IASB has published IFRS 16 – the new leases standard. It comes
into effect on 1 January 2019. Virtually every company uses rentals
or leasing as a means to obtain access to assets and will therefore be
affected by the new standard.
Redefines commonly used financial metrics
The new requirements eliminate nearly all off balance sheet
accounting for lessees and redefine many commonly used financial
metrics such as the gearing ratio and EBITDA. This will increase
comparability, but may also affect covenants, credit ratings,
borrowing costs and your stakeholders’ perception of you.
Business model
The new standard may affect lessors’ business models and offerings,
as lease needs and behaviours of lessees change. It may also
accelerate existing market developments in leasing such as an
Content
increased focus on services rather than physical assets.
The impact of the new leases standard 2
What is in scope? 3
How to separate lease and non-lease components 4
What is the new model? 5
Business data and processes
Examples of practical implications 7
Changes to the lease accounting standard have a far-reaching impact on
lessees’ business processes, systems and controls. Lessees will require The impact on industries 8
significantly more data around their leases than before given the on
balance sheet accounting for almost all leases. Companies will need to Financial, operational and business impacts 10
take a cross-functional approach to implementation, not just accounting.
Transition accounting and effective date 13
Contacts 14
Prepare now
The earlier you begin to understand what impact the new standard
may have on your organisation the better prepared you will be to iron
out potential issues and reduce implementation costs and compliance risk.
The impact of the new leases What is in scope?
standard
The scope of IFRS 16 is generally
The IASB published IFRS 16 Leases in January 2016 with an effective date of 1 January 2019. The new standard
similar to IAS 17 and includes all
requires lessees to recognise nearly all leases on the balance sheet which will reflect their right to use an asset for a
contracts that convey the right to use
period of time and the associated liability for payments.
an asset for a period of time in
exchange for consideration, except for
Leasing is an important and widely Under existing rules, lessees account Therefore, lessees will be greatly licences of intellectual property
used financing solution. It enables for lease transactions either as operating affected by the new leases standard. granted by a lessor, rights held by a
companies to access and use property or as finance leases, depending on The lessors’ accounting largely remains lessee under licensing agreements
and equipment without incurring complex rules and tests which, in unchanged. However they might see an (such as motion picture films, video
large cash outflows at the start. practice, use ‘bright-lines’ resulting in all impact to their business model and recordings, plays, manuscripts, patents
or nothing being recognised on balance lease products due to changes in needs and copyrights), leases of biological
It also provides flexibility and sheet for sometimes economically similar and behaviours. assets, service concession agreements
enables lessees to address the issue lease transactions. and leases to explore for or use
of obsolescence and residual value minerals, oil, natural gas and similar
risk. In fact sometimes, leasing is The impact on a lessee’s financial non-regenerative resources. There is an
the only way to obtain the use of a reporting, asset financing, IT, systems, optional scope exemption for lessees of
physical asset that is not available processes and controls is expected to be intangible assets other than the
for purchase. substantial. Many companies lease a licences mentioned above.
vast number of big-ticket items,
including cars, offices, power plants, However, the definition of a lease is
retail stores, cell towers and aircraft. different from the current IFRIC 4
guidance and might result in some
contracts being treated differently in the
future. IFRS 16 includes detailed
Lessees guidance to help companies assess
whether a contract contains a lease or a
• The new standard will affect virtually all commonly used financial ratios and performance metrics such as gearing, current service, or both. Under current guidance
ratio, asset turnover, interest cover, EBITDA, EBIT, operating profit, net income, EPS, ROCE, ROE and operating cash flows. and practice, there is not a lot of emphasis
These changes may affect loan covenants, credit ratings and borrowing costs, and could result in other behavioural on the distinction between a service or an
changes. These impacts may compel many organisations to reassess certain ‘lease versus buy’ decisions. operating lease, as this often does not
• Balance sheets will grow, gearing ratios will increase, and capital ratios will decrease. There will also be a change to change the accounting treatment.
both the expense character (rent expenses replaced with depreciation and interest expense) and recognition pattern
The analysis starts by determining if a
(acceleration of lease expense relative to the recognition pattern for operating leases today).
contract meets the definition of a lease.
• Entities leasing ‘big-ticket’ assets – including real estate, manufacturing equipment, aircraft, trains, ships, and This means that the customer has the
technology – are expected to be greatly affected. The impact for entities with numerous small leases, such as tablets right to control the use of an identifiable
and personal computers, small items of office furniture and telephones might be less as the IASB offers an exemption asset for a period of time in exchange
for low value assets (assets with a value of $5,000 or less when new). Low value assets meeting this exemption do not for consideration.
have to be recognised on the balance sheet.
• The cost to implement and continue to comply with the new leases standard could be significant for most lessees.
Example: Lease vs. service
Particularly if they do not already have an in-house lease information system.
Company A enters into a fixed three-year The contract does not contain a lease because
contract with a stadium operator (Supplier) to there is no identified asset. Company A controls
Lessors
use a space in a stadium to sell its goods. The its own kiosk. The contract is for space in the
• Lessees and lessors may need to consider renegotiating or restructuring existing and future leases. contract states the amount of space and that stadium, and this space can be changed at the
• Business and legal structures supporting leases should also be reassessed to evaluate whether these continue to be the space may be located at any one of several discretion of the Supplier. The Supplier has the
effective (for example, joint ventures and special purpose entities). entrances of the stadium. The Supplier has the substantive right to substitute the space
right to change the location of the space Company A used because:
• Lessor accounting remains largely unchanged from IAS 17 however, lessors are expected to be affected due to the
allocated to Company A at any time. There are
changed needs and behaviours from customers which impacts their business model and lease products. a) The Supplier has the practical ability to
minimal costs to the Supplier associated with
change the space used at any time without
changing the space. Company A uses a kiosk
The pervasive impact of these rules requires companies to transform their business processes in many areas, including Company A’s approval.
(that Company A owns) to sell its goods that
finance and accounting, IT, procurement, tax, treasury, legal, operations, corporate real estate and HR. b) The Supplier would benefit economically
can be moved easily. There are many areas in
the stadium that are available and would meet from substituting the space.
the specification for the space in the contract.
2 | IFRS 16: The leases standard is changing – are you ready? | PwC PwC | The leases standard is changing – are you ready? | 3
How to separate lease and What is the new model?
non-lease components
Currently, many arrangements embed Both lessees and lessors are required to available, entities are required to The distinction between operating and Lessor accounting does not change and • Contingent rentals or variable lease
an operating lease into the contract or separate lease components from estimate the SSP. IFRS 15 distinguishes finance leases is eliminated for lessees, lessors continue to reflect the underlying payments will need to be included in
operating lease contracts include non-lease components in their three methods of estimation: adjusted and a new lease asset (representing the asset subject to the lease arrangement the measurement of lease assets and
non-lease (e.g. service) components. contracts if both of the following market assessment approach, expected right to use the leased item for the lease on the balance sheet for leases classified liabilities when these depend on an
However, many entities do not separate criteria are met: cost plus margin approach and residual term) and lease liability (representing the as operating. For financing index or a rate or where in substance
the operating lease component in the approach. Entities may want to obligation to pay rentals) are recognised arrangements or sales, the balance sheet they are fixed payments. A lessee
a. The lessee can benefit from use of
contracts because the accounting for an combine the adoption of the new leases for all leases*. reflects a lease receivable and the should reassess variable lease
the asset either on its own or
operating lease and for a service/supply standard with the new revenue lessor’s residual interest, if any. payments that depend on an index or
together with other resources that Lessees should initially recognise a
arrangement generally have a similar recognition standard (effective 1 a rate when the lessee remeasures
are readily available to the lessee. right-of-use asset and lease liability The key elements of the new standard
impact on the financial January 2018), considering the the lease liability for other reasons
Readily available resources are based on the discounted payments and the effect on financial statements
statements today. interdependencies between the two (for example, because of a
goods or services that are sold or required under the lease, taking into are as follows:
standards. This may prove to be the reassessment of the lease term) and
Under the new leases standard, lessee leased separately (by the lessor or account the lease term as determined
most cost-efficient. when there is a change in the cash
accounting for the two elements of the other suppliers) or resources that under the new standard. Determining • A ‘right-of-use’ model replaces the
• Lessees should separate lease flows resulting from a change in the
contract will change because leases will the lessee has already obtained the lease term will require judgment ‘risks and rewards’ model. Lessees
components from non-lease reference index or rate (that is, when
have to be recognised on the (from the lessor or from other which was often not needed before for are required to recognise an asset
components unless they apply the an adjustment to the lease payments
balance sheet*. transactions or events); and an operating lease as this did not and liability at the inception of
accounting policy election described takes effect).
b. The underlying asset is neither change the expense recognition. Initial a lease.
below. Activities that do not transfer a • Lessees should reassess the lease
dependent on, nor highly direct costs and restoration costs are • All lease liabilities are to be
good or service to the lessee are not term only upon the occurrence of a
interrelated with, the other also included. measured with reference to an
components in a contract. Allocation significant event or a significant
underlying assets in the contract. estimate of the lease term, which
of payments should be similar to change in circumstances that are
After the identification of lease and includes optional lease periods
lessors as described above. The within the control of the lessee.
non-lease components, payments when an entity is reasonably certain
standard gives the policy election for
should be allocated as follows: to exercise an option to extend (or
lessees to not separate non-lease
not to terminate) a lease.
• Lessors should apply the guidance in components from a lease component
IFRS 15 Revenue from Contracts with for a class of an underlying asset. In
Customers when allocating the such cases, the whole contract is
accounted for as a lease. * Except for the exempted short term leases and low value asset leases, see page 7
transaction price to separate
components. Allocation is based on the
relative standalone selling prices (SSP).
If no observable information is
Example: Separating lease components The requirements of IFRS 16 for
separating lease and non-lease
Company A enters into a 15-year The agreement consist of the lease of components and allocating the
contract for the right to use three three dark fibers and maintenance consideration to separate
specified, physically distinct dark services. The observable standalone components will require
fibers within a larger cable prices can be determined based on the management judgement when
connecting Hong Kong to Tokyo and amounts for similar lease contracts identifying those components and
maintenance services. The entity and maintenance contracts entered applying estimates to determine
makes all of the decisions about the into separately. If no observable the observable standalone prices.
use of the fibers by connecting each inputs are available, Company A has Lessees may not currently have
end of the fibers to its electronics to estimate the standalone prices of the data to separate lease and
equipment (i.e. Company A ‘lights’ both components. non-lease components. i.e. Hence,
the fibers). The entity concluded that lessors might need to provide the
the contract contains a lease. information to separate lease and
non-lease components to their
customers. In the past they might
not have priced these elements
* Except for the exempted short term leases and low value asset leases, see page 7 separately to customers.
4 | IFRS 16: The leases standard is changing – are you ready? | PwC PwC | IFRS 16: The leases standard is changing – are you ready? | 5
The short-term lease exemption
aims to limit the costs related to
implementation of the new leases
standard without significantly
impairing the quality of the
Examples of practical information provided in the
financial statements.
implications
Determining the lease term Short-term leases Leases of low value assets
Example: Car lease IFRS 16 defines a lease term as the Under IFRS 16 lessees may elect not to Based on feedback provided to the IASB
Company A leases a car for a period of The net present value of the lease interest expense will be recognised noncancellable period for which the recognise assets and liabilities for on cost and benefits, the Board
four years starting on 1 Jan 20x9. The payments using a 5% discount rate is separately, having a positive impact lessee has the right to use an leases with a lease term of 12 months or included another exemption in the new
investment value is CU35,845. The CU24,192. on EBITDA. The overall cumulative underlying asset including optional less. In such cases a lessee recognises standard to reduce the costs and
lease requires payments of CU668 on effect on the net profit is the same periods when an entity is reasonably the lease payments in profit or loss on a complexity of IFRS 16. Lessees are not
a monthly basis for the duration of the The overall impact on the net profit is under IFRS 16 and IAS 17, however, certain to exercise an option to extend straight-line basis over the lease term. required to recognise assets or
lease term (i.e., CU8,016 pa). The the same under IFRS 16 and IAS 17, with the application of the right-of- (or not to terminate) a lease. The exemption is required to be applied liabilities for leases of low value assets
annual lease component of the lease however, with the application of the use model the lease expense by class of underlying assets. such as tablets and personal computers,
right-of-use model the presentation of Entities need to consider all relevant small items of office furniture and
payments is CU6,672 and the service recognition pattern during the lease
lease payments in the statement of facts and circumstances that create an To be able to apply this exemption, telephones. The IASB has included in
component is CU1,344. The residual term and presentation of lease
comprehensive income will change. economic incentive for the lessee to entities need to determine the lease the Basis of Conclusions an indicative
value of the car at the end of the lease payments in the statement of
Lease payments of an operating lease exercise the option when determining term. The determination of short-term amount of less than $5,000 when new
term is CU14,168. There is no option comprehensive income will change.
under IAS 17 are presented within the lease term. The option to extend the lease is consistent with the definition as the value of assets that would
to renew the lease or purchase the car, Also a right-of-use asset and lease
operating expenses, while under the lease term should be included in the of a lease term i.e. the options to extend normally qualify for the exemption.
and there is no residual value guarantee. liability is recognised in the financial
right-of-use model, depreciation and lease term if it is reasonably certain should be taken into account if an entity
The rate implicit in the lease is 5%. statements of the lessee.
that the lessee will exercise the option. is reasonably certain to exercise an Upon implementation, entities also
Lessees are required to reassess the option to extend (or not to terminate) a need to find a way to scope out low
IFRS 16 – Impact on financial position and income option when significant events or lease. Any lease that contains a purchase value assets and introduce a different
changes in circumstances occur that option is not a short-term lease. process to account for this exception to
Jan 20x9 Dec 20x9 Dec 20y0 Dec 20y1 Dec 20y2 Total
are within the control of the lessee. A the new model which may have process
Right-of-use asset 24,192 18,144 12,096 6,048 0 lessor would not be permitted to Upon implementation, entities also and systems implications aside from
reassess the lease term. need to find a way to capture and scope the new model itself.
Lease liability (24,192) (18,580) (12,687) (6,498) 0 out short-term leases and introduce a
different process to account for this
election available within the new
Operating expense – 0 1,344 1,344 1,344 1,344 5,376 model which may have process and
service systems implications aside from the
new model itself.
Depreciation 0 6,048 6,048 6,048 6,048 24,192
Interest expense 0 1,083 797 496 120 2,496 Example: Extension option
Net Income 0 (8,475) (8,189) (7,888) (7,512) (32,064) Company A leases a building from a What if… Company A undertook
real estate company which provides a significant investment for a
IAS 17 – Impact on financial position and income the right of use of the asset for five leasehold improvement prior to
Jan 20x9 Dec 20x9 Dec 20y0 Dec 20y1 Dec 20y2 Total years with an option to extend it for the commencement of the lease.
another five years. The option to The economic life of the leasehold
Right-of-use asset 0 0 0 0 0 extend is at market conditions and improvement is estimated at ten
there are no specific economic years.
Lease liability 0 0 0 0 0 incentives for Company A to exercise
the option at the commencement of Company A should consider if the
the contract. leasehold improvement has a
significant economic value at the end
Operating expense – 0 8,016 8,016 8,016 8,016 32,064 The lease period at the commencement of the initial five year lease period. If
lease and service of the contract is 5 years. the improvements result in the
Net Income 0 (8,016) (8,016) (8,016) (8,016) (32,064) underlying asset having greater
utility to the lessee than alternative
assets that could be leased for a
similar amount, Company A
concludes that it has a significant
economic incentive to exercise the
option to extend the lease.
6 | IFRS 16: The leases standard is changing – are you ready? | PwC PwC | IFRS 16: The leases standard is changing – are you ready? | 7
The impact on industries
Although virtually every industry uses PwC has conducted a global lease Here are a few examples of industry
leasing as a means to obtain access to capitalisation study to assess the impact specific implications that may arise: Telecommunication Transport and Real estate and
assets, the type and volume of assets of the new leases standard on reported logistics equipment lessors
that they lease, and the terms and debt, leverage, solvency, and EBITDA for a
structures of these lease agreements sample of more than 3,000 listed entities Some telecoms entities lease a vast Entities in the Transport and Logistics The real estate and equipment lessor
differ significantly. reporting under IFRS across a range Retailers number of big-ticket items, including sector often lease big-ticket items, industry may not be significantly
of industries and countries (excluding network equipment, cell towers, including aircraft, trains, ships and real affected in their own accounting as
For example, a professional services the US). The research identifies the satellite transponders and fibre estate, but also leases such as trucks lessors. However, they may be
firm leases cars and corporate offices; a minimum impact of capitalising existing Retailers are heavy users of real estate optic cables. and other vehicles. impacted in their business model due
utilities company leases power plants; a off balance sheet operating leases leases for their stores. They are likely to • Identification of a lease – • Renewal options – entities in this to changes in lessees’ behaviours.
retailer leases retail stores; a telecoms based on commitments disclosures in experience major impacts when determining when an arrangement industry often use leases in their • Changing lessee needs – lessees’
entity leases fibre optic cables and cell entities’ published financial statements implementing the new leases standard: is a lease can be complex and revenue-generating activities. changing behaviours may result in
towers; and an airline leases aircraft – in 2014. The research does not take • Renewal options – leasing real estate judgemental for a telecoms entity. When does such an entity have requests for shorter lease terms and
all with very different characteristics, into account any transitional reliefs that is retailers’ core business and The new standard discusses an economic incentive to renew a lease more variable lease payments,
terms, regulatory frameworks, pricing, may be available on adoption of the determining and reassessing when a example of capacity/service versus (e.g. airline, shipping, trucks)? This which increases risk for lessors. This
risks and economics. As a result, new standard. retailer has an economic incentive lease for a fibre optic cable and an may require substantial judgement. also changes the economics of
different implications may arise for to renew a retail lease location may example of network services. leases and puts pressure on pricing.
• Identification of a lease –
different industries when adopting the The median increase in debt and EBITDA require substantial judgement. Telecoms entities need to determine Real estate and equipment lessors
determining when an arrangement
new leases standard. for some of the most impacted industries whether their leases provide control may find it challenging to ask for
• Variable payments linked to index or is a lease can be complex and
can be summarised as follows. rate – retailers need to put systems over a physically distinct portion of judgemental. For example, does a higher lease rates in the current
in place to estimate and remeasure an asset or provide capacity. shipping entity have control over an economic environment.
variable payments linked to an • Separating lease and non-lease identified asset when considering a This could influence the
Industry Median increase in Median increase in index at the spot rate for each elements – telecoms entities will time charter or bareboat charter? performance of real estate funds
debt EBITDA reporting period (e.g. CPI). need to unbundle multiple-element Under current guidance, there is not and equipment lessors, and increase
• Separating lease and non-lease arrangements provided to a lot of emphasis on the distinction cash flow volatility and risk. In turn,
All companies 22% 13%
elements – retailers will need to customers. As a result, they may between a service or an operating this could impact lessors’ own ability
separate service charges (e.g. want to combine the adoption of the lease, as this often did not change to obtain favourable financing for
Retailers 98% 41%
administrative/utilities/marketing) new leases standard with the new the accounting. their investments.
Airlines 47% 33% from lease elements with many revenue recognition standard • Separating lease and non-lease • New service opportunities –
landlords – for example, with (effective 1 January 2018), elements – Entities in this industry commercially, the changing needs
Professional services 42% 15% shop-in-shop leases and large considering the interdependencies often lease assets combined with of lessees may be more important to
retail outlets. between the two standards for other services (e.g. maintenance, equipment and vehicle lessors
Health care 36% 24% telecoms entities. This may prove to insurance, etc.). Sometimes lessors rather than real estate. However,
be most cost-efficient. have bundled products, and lessees this depends on common terms of
Wholesale 28% 17% will need unbundled lease real estate leases which may differ
information to account for leases by country. These changes may
Transport & logistics 24% 20% create a greater workload for lessors
separate from service elements.
but also provide a catalyst for
Entertainment 23% 15% change in the industry. These new
dynamics offer opportunities for
Telecommunication 21% 8%
new services and products. Various
Source: PwC global lease capitalisation study
developments in the market may be
accelerated by the new leases
standard such as the increased
Effects of the new standard will be felt focus on services. This may require
across all industries, although the a shift in some lessors’ traditional
impacts may differ significantly. business models.
8 | IFRS 16: The leases standard is changing – are you ready? | PwC PwC | IFRS 16: The leases standard is changing – are you ready? | 9
The accounting change for leases is
just the tip of the iceberg. Entities
will need to undertake an in-depth
review of the proposed changes and
assess the impact on financial ratios Stakeholder awareness Implementation can be
Financial, operational and performance metrics (including
debt covenants), business
and communication
We anticipate that internal and
cumbersome and costly
and business impacts
An entity should carefully assess the
operations, systems and data, external stakeholders will want to effects at an early stage, perform an
business processes and controls to understand the impact of the new inventory of contracts involved and
understand the implementation leases standard well before the understand the impact of the new
issues and costs of complying with effective date of 1 January 2019. Timely standard and develop an early
Financial information the new lease standard. assessment of which arrangements and communication strategy to manage its
The new standard will gross up balance stakeholders are affected by these stakeholders (and their perceptions).
sheets and change income statement redefined financial ratios and metrics This includes extracting, gathering
and cash flow presentation. Rent enables an entity to proactively revise and validating lease data, assessing
expense will be replaced by its arrangements if needed and engage the impact and preparing for the
its stakeholders. Entities should also re-design of its IT systems and process
depreciation and interest expense in Suppliers Banks/
the income statement (similar to check whether they have agreed on impacted by the new standard.
Lenders ‘frozen’ GAAP clauses in their existing
finance leases today). This results in a
and future financing arrangements to Lease data requirements will increase
front-loaded lease expense, which for
avoid surprises and difficult given that operating leases have
some might decrease earnings and
equity immediately after entering into a Oversight Rating negotiations with lenders. historically been off-balance sheet. In
agencies addition, increased disclosure
lease compared to an operating bodies requirements for leases will also
lease today. require additional data collection.
Extracting lease data from lease
Financial ratios and contracts that currently is not
performance Entity systematised, and/or collecting lease
metrics redefined Regulators data from different operational or other
Auditor ‘systems’, may prove difficult and
Most commonly used financial ratios and
time-consuming. Once data is gathered
performance metrics will be impacted,
and migrated from various sources it
such as gearing, current ratio, asset
will need to be validated, standardised
turnover, interest cover, EBIT, operating
and analysed. The practical
profit, net income, EPS, ROCE, ROE, and (Potential)
operating cash flows. However, some Management/ implications in gathering, validating
Investors/ and standardising lease data across the
performance measures such as operating staff
profit, EBIT, EBITDA and operating cash Tax analysts group can be time-consuming – for
example, consider foreign locations and
flows reported would improve, with no authority their lease data which require language
change in the underlying cash flows or
translations. Then, cataloging existing
business activity.
leases, identifying lease data gaps and
The effect on financial ratios (such as ensuring completeness can be a major
gearing or leverage) may trigger effort. This requires significant
breaches of loan covenants unless an resources and supporting (automated)
stakeholders. Financial institutions Entities anticipating capital market lease extraction, validation and
entity has included ‘frozen’ GAAP
should consider any impacts on transactions shortly before or after the analysis tools during the
clauses in its financing arrangements.
regulatory capital needs, as the new effective date of the new leases implementation process.
An increase of interest expenses might
leases standard might lead to an standard should consider the effects on
also trigger covenants based on
increase in risk-weighted assets. Lastly, their leverage/gearing ratios, how this
interest. These changes may also affect
entities need to consider the effect of benchmarks with peers and consider
credit ratings and possibly result in
these changes to their remuneration any specific regulatory requirements to
other behavioural changes of
schemes and staff bonuses. Entities often present three to five years of historical
operate in a complex environment, and financial information and track record.
these redefined metrics will affect many
existing arrangements and stakeholders.
10 | IFRS 16: The leases standard is changing – are you ready? | PwC PwC | IFRS 16: The leases standard is changing – are you ready? | 11Transition accounting and
effective date
New IT systems and Benefits to lessees beyond Unexpected tax The effective date of IFRS 16 Years to be presented in accordance with
Effective date
robust processes and compliance and new consequences may arise Leases is 1 January 2019 IFRS 16 in financial statements
controls needed opportunities for lessors The standard may have a broad impact The new leases standard permits early 1 January 2019 Full retrospective method: FY 2018, FY 2019
Many lessees today use spreadsheets to The new standard may result in on the tax treatment of leasing application but it can’t be applied before Modified retrospective method: FY 2019
manage and account for their leases. renegotiations of existing leases to transactions, as tax accounting for an entity also adopts IFRS 15 Revenue
With the complexity of the new leases minimise the impact of the new leases leasing is often based on accounting from Contracts with Customers.
standard bringing all leases on balance standard. The elimination of off principles. Given that there is no
A lessee has to choose either a full
sheet, using spreadsheets may not be balance sheet accounting and increased uniform leasing concept for tax The modified retrospective Under the modified retrospective
retrospective approach or a modified approach lessees are permitted on a
cost-efficient and can lead to errors administrative burden for leases might purposes, the effect of the proposed
retrospective approach to transition to approach
lease accounting model will vary lease-by-lease basis to apply the
feeding into financial reporting. reduce the attractiveness of leasing. the new standard. The selected Under this approach, a lessee does not
significantly, depending on the tax following practical expedients:
Lessees may need to implement Next to the external transparency over approach has to be applied to the entire restate comparative information.
contract management modules for leases, the increased internal jurisdiction. In some jurisdictions • apply a single discount rate to a
lease portfolio. Consequently, the date of initial
lease data and lease engines to perform transparency within an entity may IFRS principles and/or IFRS financial portfolio of leases with reasonably
A lessor is not required to make any application is the first day of the annual
the lease calculations as required by the actually drive more economic lease statements may be relevant for similar characteristics;
adjustments on transition for leases in reporting period in which a lessee first
new leases standard. Entities need to decisions enable lease portfolio determining certain tax thresholds • adjust the asset on transition by the
which it is a lessor and shall account for applies the requirements of the new
think about implementing sustainable optimisation or provide for potential (e.g. in the Netherlands and UK). Items amount of any previously
those leases applying the new standard leases standard. At the date of initial
lease software solutions that are cost savings. Other changes in lessee that may be impacted include the recognised onerous lease provision,
from the date of initial application application of the new leases standard,
capable of dealing with the new lease needs and behaviours may include a applicable depreciation rules, specific as an alternative to performing an
(specific provisions apply for lessees recognise the cumulative effect
accounting requirements. The current desire to move to shorter lease terms or rules limiting the tax deductibility of impairment review;
intermediate lessors). An entity shall not of initial application as an adjustment
limited lease software solutions in the include more variable lease payments interest (for example, thin
to the opening balance of equity as of • apply an explicit recognition and
marketplace are based on the existing based on usage of an asset. Others may capitalisation rules for debt versus reassess sale and leaseback transactions
1 January 2019. measurement exemption for leases
risks and rewards approach (finance want to move to more service-type equity, percentage of EBITDA rules), entered into before the date of initial
for which the term ends within 12
versus operating leases). These will agreements rather than leases, a trend and existing transfer pricing application to determine whether the Lessees with leases previously
months or fewer of the date of initial
need to be modified to the that already exists in markets but could agreements, sales/indirect taxes and transfer of the underlying asset satisfies classified as operating leases:
application and account for those
requirements of the new leases be accelerated by the new standard. existing leasing tax structures (in the requirements in IFRS 15 to be • Recognise a lease liability, measured
leases as short-term leases;
standard. ERP providers have started to Lessees may already engage in these territory and cross-border leases). A accounted for as a sale. at the present value of the
reassessment of existing and proposed remaining lease payments, • use hindsight in applying the new
think about lease software solutions but renegotiations well before the adoption Lessees and lessors are not required to
leasing structures should be performed discounted using the lessee’s leases standard, for example, in
they have generally been waiting on date to minimise the impacts of the reassess whether an existing contract
against the new standard to ensure incremental borrowing rate at the determining the lease term if the
the issuance of the lease standard new leases standard. However, entities contains a lease upon transition, i.e. if
continued tax benefits and/or date of initial application. contract contains options to extend
before they can finalise the considering such changes to their an entity concluded under IAS 17 Leases
management of (new) tax risks on the or terminate the lease; and
development of their lease software leases need to evaluate this carefully that the contract is not a lease, an entity • There are two options for measuring
solutions. Lessees will need to identify and consider all impacts, as these horizon. Where tax does not follow the the right-of-use asset on transition • exclude initial direct costs in the
does not have to reassess the contract in
system gaps and changes that may be changes will often result in changes in new lease accounting model, (on a lease-by-lease basis): by measurement of the right of use asset.
accordance with IFRS 16.
needed to their IT environments on a economics, such as pricing and risks management will be faced with the measuring the asset as if IFRS 16 Lessees with leases previously
timely basis. This will support an entity absorbed by an entity. challenge of deferred tax accounting had been applied since the classified as finance leases:
in its selection of software vendors and to account for the newly originated The full retrospective commencement date of a lease • The carrying amount of the right-of-
a lease software solution that can be temporary differences in the approach using a discount rate based on the use asset and the lease liability at the
integrated with existing (accounting) financial statements. lessee’s incremental borrowing rate date of initial application shall be the
systems and IT environments and best The transition accounting under the carrying amount of the lease asset
at the date of initial application; or
meets its future needs in a cost-efficient full retrospective approach requires and lease liability immediately before
by measuring the asset at an
way. Timely assessment of the system entities to retrospectively apply the that date measured applying IAS 17.
amount equal to the lease liability,
gaps and business and IT requirements new standard to each prior reporting
adjusted by the amount of any • Apply subsequent accounting in line
will support the software vendor period presented as required by IAS 8
prepaid or accrued lease payments with the requirements of IFRS 16.
selection process for a lease software Accounting Policies, Changes in
recognised immediately before the
solution. This will help reduce Accounting Estimates and Errors. Under
date of initial application.
reporting and compliance risks. this transition approach, entities need
to adjust equity at the beginning of the
earliest comparative period presented.
12 | IFRS 16: The leases standard is changing – are you ready? | PwC PwC | IFRS 16: The leases standard is changing – are you ready? | 13Contacts
Jessica Taurae Kirsty Ward
Partner Partner
Accounting Consulting Services Accounting Advisory Services
T: +44 (0)20 7212 5700 T: +44 (0)20 7804 2999
E: jessica.taurae@uk.pwc.com E: kirsty.a.ward@uk.pwc.com
Paul Nash Chris Jackson
Partner Partner
Tax Accounting Advisory Services
T: +44 (0)20 7804 4040 T: +44 (0)20 7804 5622
E: paul.h.nash@uk.pwc.com E: chris.jackson@uk.pwc.com
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