The landscape of lease accounting has undergone a significant transformation with the abolition of the operating lease for lessees. This change is part of a broader shift in accounting standards aimed at increasing transparency and comparability across financial statements.
In Staying Ahead of the Curve FRS 102 and 105 Update, Professor Robert J Kirk explains that under the new lease accounting standard, lessees are now required to recognise lease assets and liabilities on their balance sheets. This move effectively eliminates the distinction between operating and finance leases for lessees, as all leases are now simply accounted for as leases.
Previously, operating leases allowed lessees to exclude certain lease obligations from their balance sheets, leading to what some criticised as a lack of transparency in financial reporting. The new standard mandates that lessees include both the right-of-use asset and the associated lease liability on the balance sheet, altering the valuation of these assets based on the present value of lease payments. This includes factoring in renewal options if there is an economic incentive to renew the lease.
One of the key aspects of this change is the definition of control over the leased asset. For a contract to be considered a lease under the new standard, the lessee must have the right to control the use of an identified asset and obtain substantially all of the economic benefits from its use. If these conditions are not met, the arrangement may be classified as a service contract, which continues to be expensed rather than capitalised.
The standard also introduces specific exclusions, such as leases for biological assets and certain intangible assets, as well as exemptions for short-term leases under 12 months and low-value assets. However, determining what constitutes a low-value asset can be complex, as the standard provides examples rather than a definitive monetary threshold.
For group accounting, the new standard poses potential consolidation challenges due to varying asset values when a lessor rents out property to a subsidiary, necessitating additional consolidation adjustments. Moreover, the standard covers transition provisions, presentation protocols, and sale-leaseback rules, providing a comprehensive framework for lease accounting.
While the UK and Ireland are implementing this standard, it is important to note that it does not apply to international reporting, indicating a need for localised compliance. This underscores the importance for businesses operating in these jurisdictions to understand and adapt to the new requirements to ensure accurate financial reporting.
The abolition of the operating lease for lessees marks a significant step towards greater transparency in financial reporting. By bringing lease obligations onto the balance sheet, stakeholders are provided with a more complete picture of a company's financial commitments. As the business world continues to evolve, staying ahead of regulatory changes remains crucial for maintaining compliance and trust in financial markets.
For the full session, please click here. The following topics are covered during this course:
- Brief introduction to the publication of FRED 82
- Summary of key changes to lessee accounting
- Summary of the key changes to reporting revenue
- Quick review of the proposed changes to the definition of an asset, liability and the different recognition and derecognition of both
- Brief discussion of changes to FRS 102 Section 1A and FRS 105
The contents of this article are meant as a guide only and are not a substitute for professional advice. The author/s accept no responsibility for any action taken, or refrained from, as a result of the material contained in this document. Specific advice should be obtained before acting or refraining from acting, in connection with the matters dealt with in this article.
