IFRS: Lease Liability Re-assessment

• These notes cover the re-assessment of lease liability, lease modifications, and sale and leaseback transactions under IFRS, focusing on the lessee's perspective.

Re-assessment of Lease Liability (Lessee)

• Re-assessment occurs when there's a change in the initial estimates made in a lease agreement.
• Examples of situations requiring re-assessment include changes in the lease term, K.L.I.B.O.R (Key London Interbank Offered Rate), estimates for recording BPO (Business Process Outsourcing), amounts expected to be payable, and variable payments based on an index like CPI (Consumer Price Index).

Case A: Re-assessment Scenarios

• Changes in lease term estimates.
• Changes in K.L.I.B.O.R.
• Changes in estimates for recording BPO.
• Step 1: Determine the balance of the lease liability (LL) and Right-of-Use Asset (ROUA) on the re-assessment date.
• Step 2: Re-compute the lease liability using revised estimates and the prevailing interest rate on the re-assessment date (revised interest rate).
• Step 2.1: Compare the existing lease liability to the re-computed lease liability.
  • If the existing LL is greater than the re-computed LL:
    • Leases Decrease.
    • Decrease the amount.
  • If the re-computed LL is greater than the existing LL:
    • Leases increase
    • The increase in amount affects both the LL and ROUA.
• Update the balances of ROUA and LL after the journal entry.
• Step 3: Subsequent to the re-assessment, ROUA is depreciated using the revised estimate, and the LL is measured in the lease schedule using the revised interest rate.

Case B: Re-assessment Scenarios

• Changes in estimates regarding amounts expected to be payable
• Changes in variable payments based on an index (CPI).
• Step 1: Same as Case A.
• Step 2: Same as Case A, except use the original (unchanged) interest rate for PV (Present Value) calculation.
• Step 2.1: Same as Case A.
• Step 3: Same as Case A, except lease liability is measured in the lease schedule using the original (unchanged) interest rate.
• Notes indicate that if elements affecting the estimate change already, the interest factor is already incorporated, so avoid re-calculating the PV.

Variable Payments Not Based on an Index

• These are payments like installments based on sale amounts.
• For lessors:
  • These payments shouldn't be included in the lease payment.
  • Should record it as other income in the year to which it belongs.
• For lessees:
  • Should record it as an expense in the year to which it belongs.

Sub-Lease Scenarios

• A sub-lease involves a head lessor (MAH), an intermediate lessor (HBS), and a lessee (MUGHERS).
• Accounting rules applied by lessor rules apply to the original lessor and, in some respects, to the intermediate lessor. Lessee rules apply to the sub-lessee

Sub-Lease Accounting

• Determination if transfers qualify as Sale
• On the date of the sub-lease, record ROUA and LL in books.
• If the sub-lease is classified as a finance lease or an operating lease (as an intermediate lessor), relevant indicators should be considered.
• Finance Lease (Case #01):
  • Sub-lease is a finance lease.
  • Step 1: Determine the balance of LL and ROUA on the sub-lease date.
  • On the sub-lease date, ROUA is de-recognized, and a Lease Receivable (LR) is recorded equal to the PV of the GIL using the implicit interest rate of the lessor.
  • Gain or Loss indicated a part of P&L, or added/subtracted from balance of the ROUA/Asset.
• Subsequent Steps
  • Lease receivable from sub-lessee shall be measured as per schedule

Operating Lease (Case #02)

• Step 1: Determine the balance of LL and ROUA on the sub-lease date.
• ROUA/PPE shall be retained in the books of the intermediate lessor and shall follow operating lease accounting as a lessor.
• Rent income on SLAM (Sub-Lease Accounting Method)
  • Subsequent accounting:
    • ROUA shall be depreciated
    • LL shall be measured according to schedule; and,
    • Rent income shall be recorded on EL17.

Situation: Low Value Asset (Case #03)

• From 1st day of lease
• The original lessee opts for an exception, treating the lease of a low-value asset or short-term lease.
• No ROUA or LL is recorded on books
• Sublease shall always be classified as an operating lease
• Follow operating lease accounting as lessor and original lessee continue to record rent expense

Lease Modification (Lessee)

• A change in the scope or consideration of a lease that was not part of the original terms and conditions.
• Examples:
  • Increase or decrease in consideration (installment amount)
  • Increase/decrease lease term
  • Increase/decrease underlying asset
• Accounting depends on whether the modification is a separate contract

Case A: Lease Modification

• Increase in underlying asset and additional consideration per market terms on modification date.
• If ROUA, LL rate at new rate then the lease modification shall be accounted for as a separate contract.

Case B: Lease Modification

• If not Case A (increase in underlying asset), then consider Case B.
• (1) Decrease in scope or (2) others in scope if not (1)
• Cases where the lessor gives a discount on additional rental equal to the marketing/commission cost, and if allowed by the lessor, then additional discount be marked as market terms

Accounting Treatment of Case B:

• Case B(li) Determine balance of ROUA / LL on modification date
  • (1) identify decrease in scope adjustment
    • update balance of ROUA and LL
• Case B(lii) Determine balance of ROUA and LL on the effective date
  • (1) Calculate change in LL using interest rate on lease modification
    • LL increase (1a) OR LL decrease (1b)

Transfer of Asset: Sale vs. Not Sale

• Addresses whether a transfer of assets satisfies the requirements of IFRS 15 to be considered a sale.

Sale Criteria:

• If Risk/Reward (controls) of Asset transferred to buyer lessor, is transfer of sale.
  • Seller lessor would record Bank and ROUA (recalculate value based on P/L, balance)

Not Sale Criteria:

• If Risk/Reward (controls) of Asset NOT transferred to buyer lessor
  • Seller lessor treats the event as a loan.

Seller Lessee Case

• Sale price equals FV.
  • In cases where the sale occurs, a ROUA recorded at a proportion of CV/FV.
  • Record Bank and ROUA (recognize P/L from balance).
  • Seller shall follow lessee rules
• Sale price is > FV -> (Additional Financing)
  • Asset proportional
  • Determine where it is asset proportional/Additional Financing, and recognize as such.
  • Subsequently, lessee rules shall apply
• Sale Value < FV -> (Prepayment)

Buyer Lessor

• Sale and lease back accounting and subsequent actions based on whether it is loan or FV transaction.
• Asset sales between related parties shall be accounted for the same way- look for indicators of a sale based on IFRS 15;
• Accounting:
  • operating lease (Rent Income)
  • Financial asset accounting (ACM)

Transfer of Asset is NOT a Sale:

• Seller Lessee holds Financial Liability (Loan Obtainer)
• Buyer Lessor holds the Financial Asset (Loan Provided) -Risk & Rewards are retained with lessee NOT transferred to Buyer.
• Does not de recognize asset; Does not recognized asset
• Subsequent A/c: ACM FL Subsequent : ALEM FA
• Subsequent Ale:
• Asset@end of leas term: Retained with lessee -> Same.
• Lease Modifies in a point of where Then technically rules of applies

Lessor Substitution Right

• Is there substantive substitution rights?
  • YES: Not a lease agreement
  • NO: Is a lease agreement determined through looking at factors