PFRS 16: Leases Presenters: Francis Lloyd Galuza Iris Claire Clemente Learning Objectives: 1. Identify a lease. 2. Describe the general recognition and recognition exemption relating to the accounting for leases by a lessee. 3. State the lease classifications by a lessor. 4. State the indicators of a finance lease. 5. Describe the accounting for finance leases and operating leases by a lessor. IDENTIFY LESSEE LESSOR ACCOUNTING FOR LEASES BY LESSEE Recognition: A lessee recognizes a lease liability and right-of-use asset at the commencement date. IDENTIFY LESSEE LESSOR LEASE LIABILITY Initially measured at present value Fixed payments Variable lease payments that depend on index Amounts expected to be payable by the lessee under residual value guarantees The exercise price of a purchase option if the lessee is reasonably certain to exercise that option discounted using the interest rate implicit in the lease, if not readily determinable, the lessee’s incremental borrowing rate is used Payments of penalties for terminating the lease Subsequently measured similar to an amortized cost financial liability IDENTIFY LESSEE LESSOR LEASE PAYMENTS includes the following: a. Fixed payments b. Variable lease payments that depend on index c. Amounts expected to be payable by the lessee under residual value guarantees d. The exercise price of a purchase option if the lessee is reasonably certain to exercise that option; and e. Payments of penalties for terminating the lease IDENTIFY LESSEE LESSOR The present value is discounted using the interest rate implicit in the lease, if not readily determinable, the lessee’s incremental borrowing rate is used. “the rate of interest that a lessee would have to pay to borrow over a similar term, and with a similar security, the funds necessary to obtain an asset of a similar value to the right-of-use asset in a similar economic environment” IDENTIFY LESSEE LESSOR Subsequently measured similar to an amortized cost financial liability (but remeasured to reflect any reassessments or lease modifications). Accordingly: • Interest on the lease liability is computed using the effective interest method and recognized in profit or loss, unless it forms part of the carrying amount of another asset. Interest in each period reflects a constant periodic rate of interest on the remaining balance of the lease liability • Lease payments are apportioned between the interest and reduction to the lease liability IDENTIFY LESSEE LESSOR RECOGNITION EXEMPTIONS A lessee may elect not to apply the recognition requirements (recognition of lease liability and right-of-use asset) for: Short term leases – lease term of 12 months or less. A lease that contains a purchase option is not a short-term lease Leases for which the underlying asset is of low value – assessment of value is based on the value of the asset when it is new, thus the assessment is on absolute basis and is not affected by materiality or the lessee’s size. IDENTIFY LESSEE LESSOR ACCOUNTING FOR SHORT TERM LEASE AND LOW VALUE ASSET The lessee may elect to recognize the lease payments as an expense on a straight line basis over the lease term, unless there’s a more systematic basis. IDENTIFY LESSEE LESSOR RIGHT-OF-USE ASSET Initially measured at cost Amount of initial measurement of lease liability Any lease payments made at or before the commencement date, less any lease incentives received Any initial direct costs incurred by the lessee The present value of any decommissioning and restoration costs for which the entity has incurred to produce inventories Subsequently measured similar to a purchased asset IDENTIFY LESSEE LESSOR RIGHT-OF-USE ASSET Initially measured at cost the COST is comprises of the following: a. Amount of initial measurement of lease liability b. Any lease payments made at or before the commencement date, less any lease incentives received c. Any initial direct costs incurred by the lessee, and d. The present value of any decommissioning and restoration costs for which the entity has incurred to produce inventories IDENTIFY LESSEE LESSOR COST MODEL (right-of-use asset) a. Less any accumulated depreciation and any accumulated impairment losses, and b. Adjusted for any remeasurement of the lease liability. The lessee depreciates the underlying asset over its useful life if: a. The contract provide for the transfer of ownership to the lessee by the end of the lease term, or b. There is a reasonable certainty that the lessee will exercise the purchase option IF NOT the lessee depreciates the underlying asset over the shorter of the asset’s useful life and the lease term. IDENTIFY LESSEE LESSOR Subsequently measured similar to a purchase asset. Accordingly, the asset is subsequently measured under the cost model, except when: a. It relates to a class of PPE that is measured under the revaluation model, in which case, the asset may be measured under the revaluation model b. It meets the definition of investment property and the entity uses the fair value model, in which case, the asset is measured under the fair value model IDENTIFY LESSEE LESSOR Illustration: General Recognition On January 1, 20x1, Entity X enters into a 3-year lease of equipment for an annual rent of 100,000 payable at the end of each year. The equipment has a remaining useful life of 10 years. The interest rate implicit in the lease is 10%, while the lessee’s incremental borrowing rate is 12%. Entity X uses the straight-line method of depreciation. The present value factors are as follows: PV of ordinary annuity of 1 @ 10%, n=3: 2.48685 PV of ordinary annuity of 1 @ 12%, n=3: 2.40183 IDENTIFY LESSEE LESSOR IDENTIFY LESSEE LESSOR IDENTIFY LESSEE LESSOR In case of contracts with a non-lease component, separation from its lease part shall be done on the basis of the relative stand-alone price of the lease component and the aggregate stand-alone price of the non-lease components. NON-LEASE ELEMENTS is considered as separate element if it transfers goods or services to the lessee. IDENTIFY LESSEE LESSOR LEASE OF MULTIPLE ASSET Considered as separate lease component if BOTH of the following criteria are met: a. The lessee can benefit from the use of the asset either on its own or together with other resources that are readily available to the lessee; and b. The underlying asset is neither highly dependent on, nor highly interrelated with, the other underlying assets in the contract. If NOT MET, the right to use multiple asset is considered a single lease component IDENTIFY LESSEE LESSOR IDENTIFY LESSEE LESSOR IDENTIFY LESSEE LESSOR IDENTIFY LESSEE LESSOR PRACTICAL EXPEDIENT PFRS 16 allows an entity to elect by class of underlying asset, not to separate the lease and non-lease components of a contract and instead account for them as a single lease component. Applying the practical expedient simplifies accounting but it would increase the amounts recognized for the lease liability and right-of-use asset and this could have implications for impairment. IDENTIFY LESSEE LESSOR PRESENTATION Statement of Financial Position Right-of-use asset (Lease Liability) presented as either: a. Separately from other assets (liabilities) b. Together with other assets (liabilities) as if they were owned, with disclosure of line items that include the right-of-use assets (lease liability) Right-of-use assets that meet the definition of investment property are presented as investment property Statement of Profit or Loss and other Comprehensive Income • Depreciation and interest expense are presented separately. IDENTIFY LESSEE LESSOR DISCLOSURE • Depreciation charge on right-of-use asset • Interest expense in the lease liability • Expense relating to low-value and short-term leases (other than leases of 1 month of less) • Expense relating to variable lease payments not included in lease liabilities • Income from subleasing • Total cash out flows for leases • Addition to right-of-use assets • Carrying amount of right-of-use assets by class or underlying asset IDENTIFY LESSEE LESSOR DISCLOSURE • Additional information on right-of-use assets that are investment property or are revalued under PAS 16 • Maturity analysis of lease liabilities using the following time bands under PFRS 7 financial instruments: disclosures a. Not later than 1 month b. Later than 1 month and not later than 3 months c. Later than 3 months and not later than 1 year d. Later than 1 year and not later than 5 years IDENTIFY LESSEE LESSOR ACCOUNTING FOR LEASES BY LESSOR Classification: 1. Finance Lease (Capital Lease) is a lease that transfers substantially all the risks and rewards incidental to ownership of an underlying asset. 2. Operating Lease is a lease that does not transfer substantially all the risks and rewards incidental to ownership of an underlying asset. Include the possibilities of losses Include the possibilities of profits and gains IDENTIFY LESSEE LESSOR INDICATORS OF A FINANCE LEASE: 1. Transfer of ownership 2. Bargain Purchase Option (BPO) Price that is sufficiently lower than the FV when the option becomes available. 3. Lease term is at least 75% of the useful life of the leased asset This constitutes a major part of the economic life of the asset as per SFAS No. 13 of US GAAP. 4. Present value of lease payments is at least 90% of the fair value of the leased asset at the inception date Constitutes at least substantially all of the FV of the leased asset as per SFAS No. 13 of US GAAP. 5. Leased asset is of specialized nature IDENTIFY LESSEE LESSOR OTHER INDICATORS OF FINANCE LEASE: 1. If the lessee can cancel the lease, the lessor’s losses associated with the cancellation are borne by the lessee (transfer of risk). 2. Gains or losses from the fluctuation in the fair value of the residual accrue to the lessee (transfer of risks and rewards). 3. The lessee has the ability to continue the lease for a secondary period at a rent that is substantially lower than market rent (transfer of reward). Note: The above indicators are not always conclusive. IDENTIFY LESSEE LESSOR INCEPTION DATE is the earlier of: a. The date of the lease agreement b. The date of commitment by the parties to the principal provisions of the lease. COMMENCEMENT DATE The date on which a lessor makes an underlying asset available for use by a lessee. The date on which a lessee is entitled to exercise its right to use the lease asset. IDENTIFY LESSEE LESSOR FINANCE LEASE Initial Measurement The lessor recognizes a finance lease receivable measured at an amount equal to the net investment in the lease. The lessor derecognizes the leased asset. Gross Investment Less: Net Investment Unearned Finance Income The sum of: 1. Lease payment receivable 2. Unguaranteed residual value Present value of “gross investment” IDENTIFY LESSEE LESSOR Lease Payments a. Fixed payments, including in-substance fixed payments, less any lease incentives payable; b. Variable lease payments that depend on an index or a rate, initially measured using the index or rate as at the commencement date; c. Guaranteed residual value; d. The exercise price of a purchase option if the lessee is reasonably certain to exercise that option; and e. Payments of penalties for terminating the lease, if the lease term reflects the lessee exercising an option to terminate the lease. IDENTIFY LESSEE LESSOR FINANCE LEASE Subsequent Measurement The net investment in the lease (net lease receivable) is subsequently measured similar to an amortized cost financial asset. IDENTIFY LESSEE LESSOR OPERATING LEASE Initial Measurement None Subsequent Measurement The lessor recognizes the lease payments as income on a straightline basis over the lease term, unless another systematic basis is more representative of the pattern in which benefit from the use of the underlying asset is diminished (Annual Lease Income). IDENTIFY LESSEE LESSOR SUBLEASES Sublease is “a transaction for which an underlying asset is re-leased by a lessee (intermediate lessor) to a third party, and the lease (head lease) between the head lessor and lessee remains in effect.” Head Lessor Intermediate Lessor Third Party IDENTIFY LESSEE LESSOR SUBLEASES An intermediate lessor classifies a sublease as a finance lease or an operating lease as follows: a. If the head lease is a short-term lease, the sublease is classified as an operating lease. b. Otherwise, the sublease is classified by reference to the right-ofuse asset arising from the head lease, rather than by reference to the underlying asset. Note: If the leased asset is subleased, the head lease does not qualify as a lease of a low-value asset. IDENTIFY LESSEE LESSOR DISCLOSURE Finance Leases • Selling profit or loss • Finance income on the net investment in the lease • Income relating to variable lease payments not included in the measurement of the net investment in the lease • Qualitative and quantitative explanation of significant changes in net investment in the lease • Maturity analysis of lease receivable IDENTIFY LESSEE LESSOR DISCLOSURE Operating Leases • Lease income, separately disclosing income for variable lease payments that do not depend on an index or rate • As applicable for underlying asset, relevant disclosures in: PAS 16 for leases of PPE, disaggregated by class PAS 36 Impairment of Assets PAS 38 Intangible Assets PAS 40 Investment Property PAS 41 Agriculture • Maturity analysis of lease payments Miscellaneous Topics LAND AND BUILDING accounted separately If impracticable to account separately, accounted as a one lease item. Miscellaneous Topics SALE AND LEASEBACK TRANSACTIONS - It occurs when a party sells an asset and immediately leases it back from the buyer. Miscellaneous Topics Transfer of Asset is a Sale If the transfer qualifies as a sale under PFRS 15: SELLER/LESSEE I. II. Measure the right-of-use asset arising I. from the leaseback at the proportion of the previous carrying amount of the asset that relates to the right of use retained by the seller-lessee; and Recognize only the amount of any gain or loss that relates to the rights transferred to the buyer-lessor. BUYER-LESSOR The buyer-lessor shall account for the purchase of the asset applying applicable Standards. Miscellaneous Topics Transfer of Asset is a Sale Adjustments If sale price FV of the asset or lease payments not at market rates, the ff. adjustments shall be made to measure the sale proceeds at fair value: a. Below-Market Terms – Prepayment of lease payments b. Above-Market Terms – Additional financing provided by the buyer-lessor to the seller-lessee Miscellaneous Topics Transfer of Asset is NOT a Sale If a transfer does not qualify as a sale, the parties shall account for it as a financing transaction. Accordingly, SELLER/LESSEE Continues to recognize the asset and accounts for the amounts received as a financial liability under PFRS 9. BUYER/LESSOR Does not recognize the transferred asset and accounts for the amounts paid as a financial asset under PFRS 9. Thank You!