COVID-19 continues to impact many aspects of our lives, and IFRS 16 compliance is no exception. Companies across the globe are finding new and innovative ways to work remotely. Many have also had to introduce new processes for managing cash flow, assets, and expenses during this pandemic.
The last thing any company wants to face is legal action over rental payments, which is why the IASB introduced new guidelines to help both lessees and lessors renegotiate the terms of their leases. It’s important to note that a lease is a legally binding contract, so both parties must agree to rent concessions.
Some ways companies are negotiating lease concessions under IFRS 16
The IASB has reported that an unprecedented number of lessors are providing concessions at this time for lessees. There are several options open to companies trying to renegotiate lease terms at this time. Possible concessions for those looking to change the terms of a lease include:
- Rent forgiveness
- Rent reductions
- Rent credits
- Rent deferrals
- Rent concessions
Traditionally, under IFRS 16, each concession would trigger a modification to the lease terms if the situation does not appear in the initial agreement.
Difficulty accounting for lease concessions under IFRS 16
IASB realizes that lessees may struggle to evaluate and account for these concessions under the modification framework set out under IFRS 16 on time. As a result, the IASB created an amendment in May 2020, which permits lessees to bypass assessment for rent concessions that occur as a direct consequence of COVID-19.
Under this amendment, companies can choose to apply for an expedient, which allows them to account for rent concessions as if they were accounted for in the original contract and not have to recognize them as lease modifications. The expedient is optional for lessees, and if used, will need to be applied consistently across all similar lease contracts.
Criteria for qualifying for the expedient:
- Lease concessions must be a direct result of COVID-19’s impact on business.
- Must be agreed upon by both lessee and lessor.
Lease concessions must meet the following guidelines:
- Any changes must result in payments that are substantially the same or less than the original lease agreement. The IASB has not defined what “substantially the same is”, but generally staying within a 10 percent threshold would be considered appropriate.
- Applicable to lease payments that were due on or before June 30, 2021.
- The concession should not introduce any substantive change to the lease. For example, if you want to defer rent by several months, this concession is applicable. However, if the concession requires the lessee to sign for an additional two years to avail of the concession, it would be out of scope. It requires a longer lifetime of payments, which would significantly change the original lease agreement.
Disclosure requirements for lease concessions
- Lessees must disclose when the expedient election for rent concessions is elected.
- If not applied to all concessions, must disclose to which specific types of contracts it was applied.
Accounting for rent reductions
If both parties agree to a rent reduction, then the lessee can account for this as a negative variable lease payment. They should record the reduced payments as negative lease expenses in the months when the original full rent payments would have been due. The benefit of this method is that it won’t impact the ROU asset, lease liability, or the amortization schedule.
Accounting for rent deferrals
If both parties agree to a rent deferral, then the approach for IFRS 16 would be remeasurement consistent with resolving the contingency. By pushing the timing of payments to a later date, there is no change to the total cash flow over the lease term, i.e. rent deferral. The new timing is accounted for as a resolution of the contingency specified in the original lease. They then remeasure the lease’s liability based on the updated payment timings, i.e. recognizing the liability at the deferred date. The lessee must also make a corresponding adjustment to the ROU asset.
Managing lease concessions under IFRS 16 requires the right software
Managing all the moving parts of IFRS 16 compliance is simple when you invest in the right property management software. Look for solutions that have robust accounting features so that you can handle the complexities of deferred or reduced rents. Trying to keep track of all your expenses and requirements at a time like this may otherwise become overwhelming for the accounts team. Binary Stream’s Property Lease Management is built to enable you to remain IFRS 16 compliant.