Accounting For COVID-19 Related Rent Concessions Applying IFRS 16 Leases
IFRS 16 includes requirements which apply when there are changes to lease payments over the term of a lease. The application of those requirements involves judgement and several factors, including whether the changes were contemplated as part of the terms and conditions of the lease. The IASB notes as from government actions in response to the COVID-19 pandemic.
If changes to lease payments represent a lease modification, then the lease liability is recalculated based on the revised lease payments, discounted using the lessee’s incremental borrowing rate at the date of modification. This can give rise to significant changes in recognised liabilities and related right-of-use assets, in particular when there has been a significant change in the lessee’s incremental borrowing rate. The accounting requirements mean that the effects of lease modification are recognised over the remaining term of the lease.
If changes to lease payments do not represent lease modifications, then the changes in lease payments are typically recognised in the period to which they relate.
Assessing whether a Change in Payments is a Lease Modification
IFRS 16 defines a lease modification as:
‘A change in the scope of a lease, or the consideration for a lease, that was not part of the original terms and conditions of the lease (for example, adding or terminating the right to use one or more underlying assets, or extending or shortening the contractual lease term.’
A rent holiday or rent reduction by itself is not a change in the scope of a lease. A change in scope would require a change in assets being leased or extending or shortening the period of a lease. The IASB document notes that when assessing whether there has been a change in the consideration for a lease, it is necessary to consider the overall effect of any change in lease payments. As an example, if a lessee is granted a payments holiday for three months, and the lease payments in future periods are increased such that present value of the total consideration for the lease is unchanged, there is no lease modification.
If either the scope or the consideration for the lease has changed, it is then necessary to consider whether that change was part of the original terms and conditions of the lease. The IASB documents notes that IFRS 16.2 requires consideration of the consideration of terms and conditions and all relevant facts and circumstances. These may include contractual and/or statutory provisions, as well as other laws and regulations that will or may result in changes to lease payments if particular events occur or circumstances arise. If changes in lease payments result from the application of clauses, laws and regulations were not expected to apply, there is no lease medication in accordance with the requirements of IFRS 16.
Accounting for Changes in Lease Payments
If changes in lease payments do not result from a lease modification, then the change would typically be accounted for by a lessee as a variable lease payment and accounted for in profit or loss. If a lessor has accounted for the arrangement as an operating lease, then the lessor would recognise lower income from the lessee in that period.
If changes in lease payments a rise from a lease modification, a lessee remeasures the lease liability by discounting the revised lease payments at the discount rate, determined at the date of the lease modification(whether this is the interest rate implicit in the lease, or the lessee’s incremental borrowing rate). Assuming there has not been a reduction in the scope of the lease, a corresponding adjustment is made to right of use asset. If the underlying lease is an operating lease, a lessor will typically account for the modification as a new lease from the date of the modification and the effects are included in the amount of leasing income recognised in the future periods.
Partial Lease Liability Extinguishment
Part of a lessee’s obligation might be extinguished by a change in lease payments, such as a release from the obligation to make certain specified payments. In those cases, the lessee would determine whether part of the lease liability should be derecognised by applying the derecognition requirements in IFRS 9.3.3.1. This is because the derecognition requirements of IFRS 9 apply to lease liabilities recognised in accordance with IFRAS 16.
Impairment of Assets
The IASB’s document also notes that right-of-use assets recognised by the lessees and items of property, plant and equipment recognised by lessors which are subject to operating leases are within the scope of IAS 36 Impairment of Assets. The circumstances that give rise to lease concessions as a result of COVID-19 are considered likely to be indicator that the assets are impaired. For lessees, this includes the short term effect of loss of earnings during the lease payments concession period, together with potential longer term effects on the economic performance of right-of-use assets. Lessor will need to consider the requirements of IFRS 9 when accounting for the impairment of lease receivables.
Disclosure
The IASB notes that lessees and lessors will need to make appropriate disclosures about the effect that leases have on their financial position, financial performance and cash flows, referencing the requirements of IFRS 16, and IAS 1 Presentation of Financial Statements. On addition, significant disclosures may be required in accordance with IAS 36.
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