We know you’ve got questions about the IFRS and FASB changes related to the new lease accounting standards. Even if you’ve carefully reviewed FASB ASC 842 and IFRS 16, it’s helpful to have the essential facts you need to prepare for the FASB accounting changes in one place.
That’s why we have prepared this quick reference that explains the IFRS and FASB changes in the new standards. You can also see the differences between the IFRS changes and FASB changes to lease accounting.
Learn more: Start Now to Spend Less on FASB & IASB Lease Accounting Changes
Scope of IFRS and FASB changes
FASB changes in ASC 842
Scope includes leases of all property, plant, and equipment.
IFRS 16 changes
Scope includes leases of all assets.
Definition of a lease
Under both standards, A lease contract must convey the right to control the use of a specifically identified asset for a specified period of time. A customer controls an identified asset when the customer has both the right to obtain substantially all of the economic benefits from its use and the right to direct that use.
FASB changes in ASC 842
A lease is defined as a “contract, or part of a contract, that conveys the right to control the use of identified property, plant, or equipment (an identified asset) for a period of time in exchange for consideration.”
IFRS 16 changes
A lease is defined as a “contract, or part of a contract, that conveys the right to use an asset (the underlying asset) for a period of time in exchange for consideration.”
Definition of a short-term lease
FASB changes in ASC 842
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.
A lessee may recognize the payments on such a short-term lease on a straight-line basis over the lease term (in a manner similar to its recognition of an operating lease today). These leases would not be reflected on the lessee’s balance sheet.
IFRS 16 changes
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.
A lessee may recognize the payments on a short-term lease on a straight-line basis over the lease term (in a manner similar to its recognition of an operating lease today). These leases would not be reflected on the lessee’s balance sheet.
Lease accounting overview
Under both standards: As of the lease commencement date, a lessee will recognize both:
- A liability for its lease obligation (initially measured at the present value of the future lease payments not yet paid over the lease term).
- An asset for its right to use the underlying asset (i.e., the right-of-use (ROU) asset) equal to the lease liability, adjusted for lease payments made at or before lease commencement, lease incentives, and any initial direct costs.
FASB changes in ASC 842
Lease classification
A lessee will classify a lease as a finance lease when the lease meets any of the following criteria at lease commencement:
- The lease transfers ownership of the underlying asset to the lessee by the end of the lease term.
- 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. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion will not be used for lease classification purposes.
- The present value of the sum of lease payments and any residual value guaranteed by the lessee that is not already reflected in lease payments equals or exceeds substantially all of the fair value of the underlying asset. Note that for measurement purposes, lease payments will only include amounts probable of being owed by the lessee under a residual value guarantee.
- The underlying asset is of such a specialized nature that it is expected to have no alternative use to the lessor at the end of the lease term.
FASB operating lease and finance lease treatment
For a finance lease, 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 in which interest and amortization are presented separately in the income statement.
For an operating lease a straight-line expense profile that is presented as a single line item in the income statement.
IFRS 16 changes
All leases will be recorded as per the FASB’s finance lease approach when amortizing the ROU asset.
Lease term
FASB changes in ASC 842
Lease term is the non-cancelable period in which the lessee has the right to use an underlying asset together with optional periods for which it is reasonably certain that the lessee will exercise the renewal option or not exercise the termination option or in which the exercise of those options is controlled by the lessor.
Lessees will be required to reassess the lease term after lease inception if (1) there is a significant event or change in circumstances that is directly attributable to the actions of the lessee, (2) a contract term obliges the lessee to exercise (or not exercise) an option to extend or terminate the lease, or (3) the lessee elects to exercise (or not exercise) an option to renew or terminate the contract that it had previously determined was not reasonably certain to be exercised.
A lessor is not required to reassess the lease term unless the lease is modified and the modified lease is not a separate contract.
IFRS 16 changes
Lease term is the noncancelable period in which the lessee has the right to use an underlying asset together with optional periods for which it is reasonably certain that the lessee will exercise the renewal option or not exercise the termination option.
Lessees will be required to reassess the lease term after lease inception if (1) there is a significant event or change in circumstances that is directly attributable to the actions of the lessee or (2) the lessee elects to exercise (or not exercise) an option to renew or terminate the contract that it had previously determined was not reasonably certain to be exercised.
A lessor is not required to reassess the lease term unless the lease is modified and the modified lease is not a separate contract.
Lease payments
Under both standards, lease payments include:
- Fixed payments
- Variable payments that are based on an index or rate (e.g., CPI) calculated by using the index or rate that exists on the lease commencement date.
- Amounts that it is probable will be owed under residual value guarantees.
- Payments related to renewal or termination options that the lessee is reasonably certain to exercise.
Lease payments do not include variable lease payments that are based on the usage or performance of the underlying asset (e.g., a percentage of revenues).
FASB changes in ASC 842
Variable payments based on an index or rate would only be reassessed when the lease obligation is reassessed for other reasons (e.g., change in the lease term, modification).
IFRS 16 changes
Variable payments based on an index or rate would be reassessed whenever there is a change in contractual cash flows (e.g., the lease payments are adjusted for a change in the CPI).
Discount rate
Under both standards, lessees use the rate charged by the lessor if the rate is readily determinable. If the rate is not readily determinable, lessees will use their incremental borrowing rate as of the date of lease commencement.
FASB changes in ASC 842
Private-company lessees can elect to use a risk-free rate.
IFRS 16 changes
No exemptions provided for private-company lessees.
Lease modification accounting
Under both standards, a lease modification is any change to the contractual terms and conditions of a lease.
A lessee will account for a lease modification as a separate contract (i.e., separate from the original lease) when the modification (1) grants the lessee an additional ROU asset and (2) the price of the additional ROU asset is commensurate with its stand-alone price.
Lessees would account for a lease modification that is not a separate contract by using the discount rate as of the modification effective date to adjust the lease liability and ROU asset for the change in the lease payments.
The modification may result in a gain or loss if the modification results in a full or partial termination of an existing lease.
Sublease treatment
FASB changes in ASC 842
The intermediate lessor would classify a sublease by using the underlying asset of the master lease.
IFRS 16 changes
The intermediate lessor would classify a sublease by using the ROU asset of the master lease.
Sale-leaseback treatment
FASB changes in ASC 842
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) there are alternative assets readily available in the marketplace. If the transaction qualifies as a sale, the entire gain on the transaction would be recognized.
IFRS 16 changes
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.
