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IFRS 16 Leases

 IFRS 16 Leases

 IFRS 16 Leases :  IFRS 16 is also accompanied by an Effects Analysis. The Effects Analysis describes the likely costs and benefits of IFRS 16, which the IASB has prepared based on insight gained through the exposure of proposals and feedback on these proposals, and through the IASB’s analysis and consultation with stakeholders.

 IFRS 16 Leases

 IFRS 16 Leases : The previous accounting model for leases required lessees and lessors to classify
their leases as either finance leases or operating leases and to account for those two types of leases differently. It did not require lessees to recognise assets and liabilities arising from operating leases, but it did require lessees to recognise assets and liabilities arising from finance leases. The IASB, together with the US national standard-setter, the Financial Accounting Standards Board (FASB) (together ‘the Boards’), initiated a joint project to improve the financial reporting of leasing activities under IFRS and US Generally Accepted Accounting Principles (US GAAP) in the light of criticisms that the previous accounting model for leases failed to meet the needs of users of financial statements. In particular:
(a) information reported about operating leases lacked transparency and did not meet the needs of users of financial statements. Many users adjusted a lessee’s financial statements to capitalise operating leases because, in their view, the financing and assets provided by leases should be reflected on the statement of financial position (‘balance sheet’). Some tried to estimate the present value of future lease payments. However, because of the limited information that was available, many used techniques such as multiplying the annual lease expense by eight to estimate, for example, total leverage and the capital employed in operations. Other users were unable to make adjustments—they relied on data sources such as data aggregators when screening potential investments or making investment decisions. These different
approaches created information asymmetry in the market.

(b) the existence of two different accounting models for leases, in which assets and liabilities associated with leases were not recognised for operating leases but were recognised for finance leases, meant that transactions that were economically similar could be accounted for very differently. The differences reduced comparability for users of financial statements and provided opportunities to structure transactions to
achieve a particular accounting outcome.

(c) the previous requirements for lessors did not provide adequate information about a lessor’s exposure to credit risk (arising from a lease) and exposure to asset risk (arising from the lessor’s retained interest in the underlying asset), particularly for leases of equipment and vehicles that were classified as operating leases.

IFRS 16 Leases

 IFRS 16 Leases : The Boards decided to address the first two criticisms by developing a new approach to lessee accounting that requires a lessee to recognise assets and liabilities for the rights and obligations created by leases. IFRS 16 requires a lessee to recognise assets and liabilities for all leases with a term of more than 12 months and for which the underlying asset is not of low value. The IASB concluded that such an approach will result in a more faithful representation of a lessee’s assets and liabilities and, together with enhanced disclosures, greater transparency of a lessee’s financial leverage and capital employed. To address
the third criticism, IFRS 16 requires enhanced disclosure by lessors of information about their risk exposure.

IFRS 16 Leases

 IFRS 16 Leases : Responses to the 2010 Exposure Draft indicated that:
(a) there was general support for lessees recognising assets and liabilities arising from a lease. That support was consistent with comments received on the Discussion Paper.
(b) there were mixed views on the effects of the proposed right-of-use model on a lessee’s profit or loss. The effect was that a lessee would recognise two separate expenses in its statement of profit or loss and other
comprehensive income (‘income statement’)—depreciation of the right-of-use asset and interest on the lease liability. Some respondents supported the identification of two separate expenses, on the grounds that leases are a source of finance for a lessee and should be accounted for accordingly. However, others did not support these effects because they thought that they would not properly reflect the economics of all lease transactions. In particular, some respondents referred to shorter-term property leases as examples of leases that, in their view, were not financing transactions from either the lessee’s or lessor’s perspective.

 IFRS 16 Leases

 IFRS 16 Leases : many respondents disagreed with the proposals for lessor accounting:
(i) some respondents were concerned that the dual accounting model proposed for lessors was not consistent with the single accounting model proposed for lessees.
(ii) many respondents opposed the performance obligation approach. In the view of those respondents, the approach would artificially inflate a lessor’s assets and liabilities.
(iii) some respondents recommended applying the derecognition approach to all leases. However, many disagreed with the proposal to prevent a lessor from accounting for the effects of the time value of money on the residual asset.
(iv) some respondents thought that the lessor accounting requirements in IAS 17 Leases and FASB Topic 840 Leases work well in practice and supported retaining those requirements.

almost all respondents were concerned about the cost and complexity of the proposals, in particular the proposals regarding the measurement of the lessee’s lease liability and the lessor’s lease receivable. Some
questioned whether lease payments to be made during optional extension periods would meet the definition of an asset (for the lessor) or a liability (for the lessee). Others suggested that it would be extremely
difficult in many cases to estimate variable lease payments if the amounts depended on future sales or use of the underlying asset and that such estimates would be subject to a high level of measurement uncertainty. Many expressed a view that, because of the amount of judgement involved, the cost of including variable lease payments and payments to be made during optional periods in the measurement of lease assets and lease liabilities would outweigh the benefit for users of financial statements.

many respondents also were concerned about the breadth of the scope of the proposals, indicating that the proposed definition of a lease had the potential to capture some contracts that they considered to be for
services.

The Boards considered the feedback received on the 2010 Exposure Draft and observed that it would not be possible to reflect the views of all stakeholders because stakeholders did not have a united view of the economics of leases.However, in response to views that the economics of leases can be different the
Boards decided to develop a revised model that identified two classes of leases and specified different requirements for each type. The classification depended on the extent to which the lessee was expected to consume the economic benefits embedded in the underlying asset.

 IFRS 16 Leases

 IFRS 16 Leases : for lessees, simpler measurement requirements and a dual approach for the recognition and measurement of expenses related to a lease:
(i) for leases for which the lessee was expected to consume more than an insignificant amount of the economic benefits embedded in the underlying asset, a lessee would apply an approach similar to that proposed in the 2010 Exposure Draft, ie recognise depreciation of the right-of-use asset and interest on the lease liability separately in the income statement.
(ii) for leases for which the lessee was expected to consume only an insignificant amount of the economic benefits embedded in the underlying asset, a lessee would recognise a single lease expense in the income statement. This approach was based on the view that a single lease expense would provide better information
about leases for which the lessee in essence is paying mainly for the use of the underlying asset and is expected to consume only an insignificant amount of the economic benefits embedded in the underlying asset itself.

 IFRS 16 Leases

 IFRS 16 Leases : for lessors, a dual approach for the recognition and measurement of lease assets:
(i) for leases for which the lessee was expected to consume more than an insignificant portion of the economic benefits embedded in the underlying asset, a lessor would recognise its residual interest in the underlying asset separately from its receivable from the lessee.
(ii) for other leases, a lessor would recognise the underlying asset, ie apply requirements similar to those in IAS 17 for operating leases.

 IFRS 16 Leases

 IFRS 16 Leases : The Boards received 641 comment letters in response to the 2013 Exposure Draft. In addition, the Boards conducted extensive outreach on the proposals in the 2013 Exposure Draft, including:
(a) consultations with over 270 users of financial statements based in Australia, Belgium, Canada, France, Hong Kong, Japan, the Netherlands, New Zealand, Sweden, Switzerland, the UK and the US;
(b) fieldwork meetings with individual preparers of financial statements from various industries including consumer goods, retail, aviation, oil and gas, telecommunications and automotive industries. These
meetings were held in Brazil, France, Germany, Japan, Spain, the UK and the US and included detailed discussions about the costs of implementation for those entities.
(c) round table discussion held in London, Los Angeles, Norwalk, São Paulo and Singapore. These discussions were attended by approximately 100 stakeholder representatives.
(d) meetings with the IASB’s advisory bodies—the Capital Markets Advisory Committee, the Global Preparers Forum, the IFRS Advisory Council and the Accounting Standards Advisory Forum.

 IFRS 16 Leases

 IFRS 16 Leases :  the lessee has the ability to determine how to use the underlying asset and, thus, how it generates future economic benefits from that right of use. This ability demonstrates the lessee’s control of the right of use. For example, suppose a lessee leases a truck for four years, for up to a maximum of 160,000 miles over the lease term. Embedded in the right to use the truck is a particular volume of economic benefits or service potential that is used up over the period that the truck is driven by the lessee. After the truck is made available for use by the lessee, the lessee can decide how it wishes to use up or consume the economic benefits embedded in its right of use within the parameters defined in the contract. The lessee could decide to drive the truck constantly during the first three years of the lease, consuming all of the economic benefits
in those first three years. Alternatively, it could use the truck only during particular months in each year or decide to use it evenly over the four-year lease term.

 IFRS 16 Leases

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