IFRS 16 - Leases

1. Core Principle

The core principle of IFRS 16 is that a lessee should recognize a right-of-use (ROU) asset and a lease liability for all leases, with limited exceptions. This approach reflects the control the lessee has over the use of the underlying asset during the lease term.

2. Lessee Accounting

Under IFRS 16, lessees must account for leases as follows:

• Right-of-Use Asset: At the commencement of the lease, the lessee recognizes a ROU asset, which represents the right to use the leased asset during the lease term. The ROU asset is measured at cost, which includes:
  • The initial amount of the lease liability.
  • Any lease payments made at or before the commencement date, minus any lease incentives received.
  • Any initial direct costs incurred by the lessee.
  • An estimate of costs to dismantle or restore the asset.
• Lease Liability: The lease liability is recognized at the present value of the future lease payments, discounted using the interest rate implicit in the lease or, if that rate cannot be readily determined, the lessee’s incremental borrowing rate.
• Subsequent Measurement: The ROU asset is subsequently measured using either the cost model or the revaluation model, while the lease liability is adjusted for interest expense and lease payments made.

3. Lessor Accounting

Lessor accounting under IFRS 16 remains similar to the previous standard (IAS 17) and is classified into two types of leases:

• Finance Leases: For finance leases, the lessor recognizes the lease as a receivable at an amount equal to the net investment in the lease, while recognizing interest income over the lease term.
• Operating Leases: For operating leases, the lessor continues to recognize the underlying asset on its balance sheet and recognizes lease income on a straight-line basis or another systematic basis.

4. Short-Term Leases and Low-Value Assets

IFRS 16 provides certain practical expedients for lessees:

• Short-Term Leases: Lessees can choose not to apply the standard to leases with a lease term of 12 months or less, recognizing lease payments as an expense on a straight-line basis.
• Low-Value Assets: Leases for low-value assets (e.g., small office equipment) may also be exempted from the standard, allowing lessees to treat lease payments as expenses.

5. Disclosure Requirements

IFRS 16 requires extensive disclosures to enhance transparency regarding lease arrangements, including:

• Nature of Leasing Activities: Information about the nature and extent of leasing arrangements, including terms and conditions.
• Maturity Analysis: A maturity analysis of lease liabilities showing the undiscounted cash flows for the next five years and total lease liabilities thereafter.
• Right-of-Use Assets: Disclosures about the ROU assets, including any restrictions or covenants associated with the leases.
• Significant Judgments: Entities must disclose significant judgments and estimates made in applying the standard, particularly regarding the lease term and the discount rate used.

6. Overall Impact

The implementation of IFRS 16 fundamentally changes how leases are reported in financial statements, promoting greater transparency and comparability. By recognizing lease assets and liabilities on the balance sheet, the standard provides stakeholders—including investors, analysts, and regulators—with a clearer view of an entity’s financial position and obligations. This enhances the quality of financial reporting, allowing for better-informed decision-making and fostering trust in the financial statements.