5.7 Leases

IFRS 16 and ASC 842 address the accounting for leases, and both require lessees to recognize right-of-use assets and lease liabilities on the balance sheet for most lease contracts. While the two standards are converged with respect to the need for a lessee to recognize a right-of-use asset and a lease liability, differences remain. The table below outlines some of the differences between IFRS 16 and ASC 842. Other differences may arise as a result of differences between IFRS Accounting Standards and U.S. GAAP in other standards, including those related to (1) impairment of financial instruments and long-lived assets other than goodwill and (2) the accounting for investment properties.

Topic	IFRS Accounting Standards (IFRS 16)	U.S. GAAP (ASC 842)
Scope	Scope includes leases of all assets (not limited to PP&E). Exceptions are similar to those in ASC 842. Lessees can elect to apply the guidance to rights to use certain intangible assets.	Scope includes leases of all PP&E and excludes: Rights to use intangible assets. Rights to explore for or use nonregenerative resources. Rights to use biological assets. Rights to use inventory. Rights to use assets under construction.
Short-term lease definition	A short-term lease is defined as a lease that has a lease term of 12 months or less and does not include a purchase option (i.e., the likelihood that the purchase option will be exercised is not considered).	A short-term lease is defined as a lease that has a lease term of 12 months or less and does not include a purchase option that the lessee is reasonably certain to exercise.
Leases of low-value assets	A lessee may elect to recognize the payments for a lease of a low-value asset on a straight-line basis over the lease term (in a manner similar to its recognition of an operating lease under IAS 17). Such a lease would not be reflected on the lessee’s balance sheet. IFRS 16 does not define “low value”; however, the Basis for Conclusions refers to assets individually with a value, when new, of $5,000 or less. In addition, an entity may adopt a reasonable capitalization policy based on materiality.	There is no exemption for leases of low-value assets under U.S. GAAP. However, the FASB believes that an entity may adopt a reasonable capitalization policy based on materiality.
Lease classification	Lessee — There is only a single accounting model for lessees (i.e., all leases are finance leases). Lessor — A lessor must perform a lease classification assessment as of the inception date to determine whether the lease is an operating or finance lease. Lessor-Only Considerations A lease is classified as a finance lease if it transfers substantially all of the risks and rewards related to ownership; otherwise, it is classified as an operating lease. This determination is not based on meeting any criterion. However, examples of situations that individually or in combination would indicate a finance lease include: The lease transfers ownership of the underlying asset. The lease grants an option to purchase the underlying asset that the lessee is reasonably certain to exercise. The lease term is for the major part of the remaining economic life of the underlying asset. The present value of the lease payments amounts to at least substantially all of the fair value of the underlying asset. The underlying asset is of a specialized nature and has no alternative use to the lessor. Other situations in which a lease could be a finance lease include: The lessee bears the lessor’s losses for early cancellation. Gains or losses related to the asset at the end of the lease accrue to the lessee. The lessee can renew the lease for rent at a rate that is substantially lower than the market rate.	Lessee — There are two accounting models for leases, and the model will dictate the pattern of expense recognition associated with the lease. Therefore, a lessee must perform a lease classification assessment on the commencement date. Lessor — A lessor must perform a lease classification assessment as of the commencement date to determine whether the lease is an operating, direct financing, or sales-type lease. Lessee and Lessor Considerations Under ASC 842-10-25-2, a lessee must classify a lease as a finance lease and a lessor must classify a lease as a sales-type lease if any of the following criteria are met: “The lease transfers ownership of the underlying asset.” “The lease grants the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise.” “The lease term is for the major part of the remaining economic life of the underlying asset.” “The present value of the sum of the lease payments and any residual value guaranteed by the lessee . . . equals or exceeds substantially all of the fair value of the underlying asset.” “The underlying asset is of such a specialized nature that it is expected to have no alternative use to the lessor.” If none of these criteria are met: Lessee — The lessee will classify the lease as an operating lease. Lessor — In accordance with ASC 842-10-25-3(b), the lessor will similarly classify the lease as an operating lease unless (1) “[t]he present value of the sum of the lease payments and any residual value guaranteed by the lessee that is not already reflected in the lease payments in accordance with paragraph 842-10-30-5(f) and/or any other third party unrelated to the lessor equals or exceeds substantially all of the fair value of the underlying asset” and (2) “[i]t is probable that the lessor will collect the lease payments plus any amount necessary to satisfy a residual value guarantee.” If these two additional considerations are met, the lessor would classify the lease as a direct financing lease. In addition, ASC 842-10-25-3A requires a lessor to classify a new or amended lease with variable lease payments that do not depend on an index or rate as an operating lease if (1) the lease would have been classified as a sales-type or direct financing lease in accordance with the classification criteria in ASC 842-10-25-2 and 25-3, respectively, and (2) the lessor would have recognized a selling loss on the lease commencement date. For new leases, such classification should be made at lease commencement; amended leases should be classified as of the effective date of the modification.
Lessee’s subsequent accounting for right-of-use (ROU) asset and lease expense	A single accounting model is used. The ROU asset is generally amortized on a straight-line basis. This amortization, when combined with the interest on the lease liability, results in a front-loaded expense profile. That is, the single lessee accounting model under IFRS 16 is similar to that of a finance lease under ASC 842. Interest expense on the lease liability and amortization of the ROU asset are presented separately in the income statement.	The accounting depends on the lease classification: Finance leases — The ROU asset is generally amortized on a straight-line basis. This amortization, when combined with the interest on the lease liability, results in a front-loaded expense profile. Interest and amortization are presented separately in the income statement. Operating leases — Lease expense generally results in a straight-line expense profile that is presented as a single line in the income statement. As interest on the lease liability is generally declining over the lease term, amortization of the ROU asset is increasing over the lease term to provide a constant expense profile.
Lessor accounting	Core model — The core model is based on a lessor measurement approach for operating and finance leases. Selling profit for a finance lease is recognized at lease commencement. Separating lease and nonlease components — A similar practical expedient is not available. Sales tax and lessor costs — A similar practical expedient is not available. In addition, there are no similar provisions related to lessor costs paid directly to a third party by a lessee. Fair value of the underlying asset — A similar amendment to the definition of fair value has not been made.	Core model — The core model is based on a lessor measurement approach for operating, direct financing, and sales-type leases. Selling profit for a sales-type lease is recognized at lease commencement. Selling profit on a direct financing lease, if any, is deferred and recognized as interest income over the lease term. Separating lease and nonlease components — ASC 842-10-15-42A offers lessors a practical expedient under which they can elect not to separate lease and nonlease components when certain conditions are met. Sales tax and lessor costs — ASC 842-10-15-39A offers lessors a practical expedient under which they can present sales taxes collected from lessees on a net basis. In addition, lessor costs paid directly to a third party by a lessee should be excluded from variable payments. Fair value of the underlying asset — ASC 842-30-55-17A provides specific fair value considerations for lessors that are not manufacturers or dealers in such a way that the fair value of the underlying asset is its cost unless a significant lapse of time has occurred.
Recognition of variable lease payments that do not depend on an index or rate	A lessee recognizes variable lease payments not included in its lease liability (e.g., payments based on the achievement of a target) in the period in which the target is achieved.	A lessee recognizes variable lease payments not included in its lease liability (e.g., payments based on the achievement of a target) in the period in which achievement of the target that triggers the variable lease payments becomes probable.
Reassessment of variable lease payments that depend on an index or rate	A lessee reassesses variable payments based on an index or rate whenever there is a change in contractual cash flows (e.g., the lease payments are adjusted for a change in the CPI) or when the lease obligation is remeasured for other reasons.	A lessee reassesses variable payments based on an index or rate only when the lease obligation is remeasured for other reasons (e.g., a change in lease term or modification).
Lessee’s incremental borrowing rate	The lessee’s incremental borrowing rate is the rate a lessee would pay to borrow over a similar term, and with a similar security, the funds necessary to obtain an asset with a value similar to the ROU asset in a similar economic environment.	The lessee’s incremental borrowing rate is the rate a lessee would pay to borrow, on a collateralized basis over a similar term, an amount equal to the lease payments in a similar economic environment.
Discount rate for private companies	No exemptions are provided for private-company lessees.	Private-company lessees may, as an accounting policy election by asset class, choose to use a risk-free rate when measuring and classifying a lease.
Modifications of operating leases for lessors	If an operating lease is modified and not accounted for as a separate contract, the lessor accounts for the modified lease as a new lease from the date of the modification. The lessor should include any prepaid or accrued lease payments related to the original lease in the lease payments associated with the new lease.	If an operating lease is modified and not accounted for as a separate contract, the treatment depends on how the modified lease is classified: Modified lease classified as an operating lease — The lessor should include any prepaid or accrued lease rentals related to the original lease in the lease payments associated with the new lease. Modified lease classified as a sales-type or direct financing lease — The lessor should derecognize any deferred rent liability or accrued rent asset and adjust the selling profit or loss.
Modifications that reduce the lease term for lessees	A reduction in the lease term is considered a decrease in the scope of the lease. A lessee should thus remeasure the lease liability, with a proportionate reduction in the ROU asset, and recognize a gain or loss for any difference as of the effective date of the modification.	A reduction in the lease term is not considered a decrease in the scope of the lease. A lessee should thus remeasure the lease liability, with a corresponding reduction in the ROU asset, but should not recognize any gain or loss as of the effective date of the modification unless the ROU asset is reduced to zero.
Collectibility of lease payments	There is no explicit guidance on considering the collectibility of lease payments within IFRS 16.	A lessor considers the collectibility of lease payments when determining whether a lease should be classified as a direct financing lease or an operating lease. A lessor does not assess the collectibility of lease payments when determining whether a lease should be classified as a sales-type lease. As a result of changes in the collectibility of lease payments, lease income may be recognized on a cash basis. The collectibility of lease payments for a direct financing or sales-type lease is assessed under the CECL guidance in ASC 326.
Modifications of sales-type or direct financing leases for lessors	A lessor’s accounting for a modification to a finance lease (that is not accounted for as a separate contract) depends on whether the lease would have been classified as an operating lease had the modification been in effect at lease inception: Modified lease would have been classified as an operating lease — The lessor accounts for the modified lease as a new lease from the modification date. The carrying amount of the underlying asset should be measured as the net investment in the lease immediately before the modification date. Modified lease would not have been classified as an operating lease — The lessor applies the requirements in IFRS 9.	A lessor’s accounting for a modification to a sales-type or direct financing lease depends on how the original and modified leases are classified: Original lease is a sales-type lease and: Modified lease is a sales-type or direct financing lease — The discount rate for the modified lease is adjusted so that the initial net investment in the modified lease equals the carrying amount of the net investment in the original lease immediately before the modification date. Modified lease is an operating lease — The carrying amount of the underlying asset should equal the net investment in the original lease before the modification date. Original lease is a direct financing lease and: Modified lease is a direct financing lease — The discount rate for the modified lease is adjusted so that the initial net investment in the modified lease equals the carrying amount of the net investment in the original lease immediately before the modification date. Modified lease is a sales-type lease — The lessor calculates the selling profit or loss on the lease, the fair value of the underlying asset, and the asset’s carrying amount immediately before the modification date. Modified lease is an operating lease — The carrying amount of the underlying asset should equal the net investment in the original lease before the modification date.
Sublease	The intermediate lessor would classify a sublease by considering the ROU asset of the head lease as the leased asset in the sublease.	The intermediate lessor would classify a sublease by considering the underlying asset of the head lease (instead of the ROU asset) as the leased asset in the sublease.
Sale-and-leaseback arrangements	The transaction would not be considered a sale if it does not qualify as a sale under IFRS 15. A repurchase option would always result in a failed sale. For transactions that qualify as a sale, the gain would be limited to the amount related to the residual portion of the asset sold. The amount of the gain related to the underlying asset leased back to the lessee would be offset against the lessee’s ROU asset. IFRS 16 has been amended to require that a seller-lessee determine lease payments or “revised lease payments” such that the seller-lessee does not recognize a gain or loss related to the right of use it retains. This amendment is effective for annual periods beginning on or after January 1, 2024.	The transaction would not be considered a sale if (1) it does not qualify as a sale under ASC 606 or (2) the leaseback is a finance lease. A repurchase option would result in a failed sale unless (1) the exercise price of the option is at fair value and (2) alternative assets are readily available in the marketplace. If the transaction qualifies as a sale, the entire gain on the transaction would be recognized.
Build-to-suit arrangements	IFRS 16 does not contain guidance for build-to-suit accounting for lessees during the construction period.	ASC 842 provides guidance on lessee accounting for build-to-suit arrangements. The framework focuses on whether a lessee has “control” of the asset during the construction period.
Balance sheet presentation	If a lessee does not separately present ROU assets and lease liabilities on the balance sheet, the lessee must present the ROU assets as if the underlying asset were owned and disclose the line item in which its ROU assets and lease liabilities are included.	If a lessee does not separately present ROU assets and lease liabilities on the balance sheet, the lessee must disclose the line item in which its ROU assets and lease liabilities are included. This requirement applies to both finance leases and operating leases.
Statement of cash flows	As noted in the “Lessee’s subsequent accounting for ROU asset and lease expense” key provision above, a lessee is required to use a single approach (similar to the FASB’s finance lease approach) to subsequently account for the ROU asset. For this reason, the lessee should account for payments of interest as either a financing or an operating activity in the statement of cash flows, depending on the lessee’s accounting policy election under IAS 7.	A lessee should present payments associated with operating leases as an operating activity in the statement of cash flows. A lessee should present payments associated with finance leases in the statement of cash flows as (1) a financing activity, for the principal portion of the payment, and (2) an operating activity, for the interest portion of the payment.
Related-party leases (leases between entities under common control)	There is no explicit guidance on the accounting for related-party leases under IFRS 16 and no specific consideration of the amortization period of leasehold improvements in a common-control arrangement under IAS 16.	Before the adoption of ASU 2023-01, entities are required to determine whether related-party arrangements between entities under common control contain a lease. If the arrangement is deemed to be or contain a lease, an entity is required to classify and account for the lease in a manner consistent with an arrangement with an unrelated party (i.e., “on the basis of the legally enforceable terms and conditions of the lease”). After the adoption of ASU 2023-01, private companies and not-for-profit entities that are not conduit bond obligors can elect, as a practical expedient that can be applied on an arrangement-by-arrangement basis, to use the written terms and conditions of a common control arrangement to determine whether a lease exists and, if so, the classification of and accounting for that lease.