IFRS 16 is generally Level 3 in the 2027 IAC PoE. The core areas include lessee accounting, right-of-use assets, lease liabilities, subsequent measurement, lessor accounting, presentation and disclosure.
The identification of a lease is specifically Level 2. You should be able to work through the requirements and apply them to a scenario.
Subsequent measurement lease modifications for both lessees and lessors are Level 1 in the PoE.
Sale-and-leaseback accounting is Level 1 rather than a detailed Level 3 calculation area.
A contract is, or contains, a lease if it conveys the right to control the use of an identified asset for a period of time in exchange for consideration.
1. Identified asset
- The asset is explicitly or implicitly specified.
- A physically distinct portion of a larger asset can be an identified asset.
- A supplier's substantive substitution right can prevent an asset from being identified.
2. Right to obtain economic benefits
The customer must have the right to obtain substantially all of the economic benefits from use of the asset during the period of use.
3. Right to direct the use
The customer must have the right to direct how and for what purpose the asset is used throughout the period of use, within the relevant contractual decision-making framework.
4. Consideration
The arrangement involves consideration in exchange for the right of use.
| Question | Ask yourself |
|---|---|
| Identified asset? | Is there a specified asset and is supplier substitution substantive? |
| Economic benefits? | Does the customer obtain substantially all economic benefits from use? |
| Decision-making? | Who decides how and for what purpose the asset is used? |
| Period? | What is the period over which the customer controls use? |
For a lessee, IFRS 16 generally brings leases onto the statement of financial position through two major balances:
Represents the lessee's right to use the underlying asset.
Represents the obligation to make lease payments.
Recognition exemptions
IFRS 16 contains recognition exemptions for certain short-term leases and leases of low-value assets, subject to the standard's requirements.
Lease liability
At commencement, the lease liability is measured at the present value of lease payments not paid at that date.
Discount rate
- Use the interest rate implicit in the lease if that rate can be readily determined.
- Otherwise, use the lessee's incremental borrowing rate.
Lease payments
Depending on the circumstances, lease payments included in the liability can include fixed payments, certain variable payments linked to an index or rate, amounts expected under residual value guarantees, exercise price of a purchase option when reasonably certain to exercise, and termination penalties when the lease term reflects exercise of a termination option.
ROU asset
The ROU asset initially comprises:
- the initial measurement of the lease liability;
- lease payments made at or before commencement, less lease incentives received;
- initial direct costs; and
- an estimate of costs to dismantle, remove or restore the underlying asset/site where the relevant obligation exists.
Basic journal entry
| Debit | Credit |
|---|---|
| Right-of-use asset | Lease liability |
| Right-of-use asset (for qualifying additional initial amounts) | Cash / provision / other relevant account |
ROU asset
After commencement, the ROU asset is generally measured using a cost-based approach:
Depreciate the ROU asset over the lease term if ownership does not transfer and the lessee is not reasonably certain to exercise a purchase option. If ownership transfers or the purchase option is reasonably certain to be exercised, depreciation is generally over the asset's useful life.
Lease liability
Interest is recognised over the lease term. Lease payments reduce the liability; the allocation between interest and principal follows the effective-interest approach.
Typical journal entries
| Event | Typical entry |
|---|---|
| Interest accrues | Dr Finance cost / Cr Lease liability |
| Lease payment | Dr Lease liability / Cr Cash |
| Depreciation | Dr Depreciation expense / Cr Accumulated depreciation — ROU asset |
| Impairment | Dr Impairment loss / Cr ROU asset or accumulated impairment |
Cash-flow intuition
Do not confuse the income-statement pattern with the cash-flow pattern. Under the normal lessee model, depreciation and finance cost replace a simple rental expense pattern, while cash payments are analysed under the applicable IAS 7 requirements.
Lease term
The lease term includes the non-cancellable period plus relevant optional periods when the lessee is reasonably certain to exercise an extension option, and periods covered by a termination option when the lessee is reasonably certain not to exercise that option.
Variable lease payments
Distinguish between variable payments included in the lease liability and payments recognised in profit or loss as they arise, depending on what drives the variability.
Lease incentives
Lease incentives reduce the effective cost of the lease and therefore affect the initial ROU asset rather than simply being treated as immediate income.
Restoration obligations
Where the lessee has an obligation to dismantle/remove/restore, the relevant estimate can form part of the ROU asset's initial measurement, with the corresponding liability accounted for under the applicable requirements.
Impairment
The ROU asset is subject to impairment requirements. In an exam, consider whether an impairment indicator exists and apply the relevant IAS 36 principles where required.
Foreign-currency leases
Where a lease liability is denominated in a foreign currency, IFRS 16 can interact with IAS 21. The liability is a monetary item for IAS 21 purposes, so exchange differences can arise.
Deferred tax
IFRS 16 frequently interacts with IAS 12 because the accounting carrying amounts of the ROU asset and lease liability can differ from their tax bases.
Lessor accounting retains a distinction between finance leases and operating leases.
A lease that transfers substantially all the risks and rewards incidental to ownership of the underlying asset.
The lessor recognises a net investment in the lease and recognises finance income over the lease term.
A lease that does not transfer substantially all the risks and rewards incidental to ownership.
The underlying asset remains recognised by the lessor, with lease income generally recognised over the lease term.
Finance lease indicators
- Transfer of ownership by the end of the lease.
- Purchase option reasonably certain to be exercised.
- Lease term for a major part of the asset's economic life.
- Present value of lease payments amounts to substantially all of the asset's fair value.
- Underlying asset is specialised so that it has no alternative use to the lessor.
Lease modifications are explicitly Level 1 in the 2027 PoE. Know the concept and recognise when a modification issue exists, but this is not identified as a detailed Level 3 calculation area.
| Question | Concept to know |
|---|---|
| What is a modification? | A change in the scope or consideration of a lease that was not part of the original terms and conditions. |
| Separate lease? | Some modifications are accounted for as a separate lease when the applicable conditions are met. |
| Other modification? | The existing lease accounting is adjusted/remeasured according to the nature of the modification. |
Sale-and-leaseback accounting is Level 1 in the 2027 PoE. Understand the central question: has a sale occurred under IFRS 15?
- If the transfer qualifies as a sale, the seller-lessee applies the sale-and-leaseback requirements.
- If the transfer does not qualify as a sale, the transaction is generally accounted for as a financing arrangement rather than as a sale and leaseback.
- Identify the asset and confirm there is a lease.
- Determine commencement date.
- Determine lease term.
- Identify lease payments.
- Select the discount rate.
- Calculate the initial lease liability.
- Calculate the initial ROU asset.
- Build the lease-liability amortisation schedule.
- Calculate ROU depreciation.
- Consider impairment, remeasurement, tax and foreign exchange.
- Prepare journal entries and presentation/disclosure.
Worked example — simplified
Initial lease liability: approximately R248,685.
Initial ROU asset: approximately R248,685.
Annual straight-line depreciation: approximately R82,895, assuming depreciation over the 3-year lease term.
| Year | Opening liability | Interest @ 10% | Payment | Closing liability |
|---|---|---|---|---|
| 1 | 248,685 | 24,869 | (100,000) | 173,554 |
| 2 | 173,554 | 17,355 | (100,000) | 90,909 |
| 3 | 90,909 | 9,091 | (100,000) | 0 |
Year 1 P/L: depreciation ≈ R82,895 plus finance cost ≈ R24,869.
First establish an identified asset and control over its use.
Optional periods can matter when exercise/non-exercise is reasonably certain.
Use the implicit rate if readily determinable; otherwise use the incremental borrowing rate.
The basis of variability determines the accounting treatment.
They affect the ROU asset rather than simply becoming immediate income.
The lease term is normally relevant unless ownership transfers or a purchase option is reasonably certain to be exercised.
The lease liability is subsequently measured using an effective-interest approach.
Modification and sale-and-leaseback are Level 1; manufacturer/dealer lessor is excluded for IAC 2027.
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- Lease = identified asset + right to control use + consideration.
- Identified asset: substitution rights matter.
- Customer must obtain substantially all economic benefits.
- Customer must direct how and for what purpose the asset is used.
- Lessee model: ROU asset + lease liability.
- Consider short-term and low-value exemptions.
- Initial liability = PV of relevant unpaid lease payments.
- Implicit rate if readily determinable; otherwise incremental borrowing rate.
- ROU asset starts with lease liability and qualifying adjustments.
- Lease incentives reduce the effective ROU asset cost.
- Initial direct costs may form part of ROU asset.
- Restoration obligations can affect ROU asset and liability.
- ROU asset is generally depreciated.
- Lease liability = opening liability + interest − payments ± remeasurement.
- Interest is a finance cost.
- Consider impairment of ROU asset.
- Lease term includes relevant extension/termination option periods.
- Lessor: finance lease vs operating lease.
- Finance lease → net investment in lease.
- Operating lease → underlying asset remains recognised.
- Manufacturer/dealer lessor excluded from IAC 2027.
- Lease modifications = Level 1.
- Sale and leaseback = Level 1.
- Interest-rate benchmark reform excluded.
- IFRS 16 integrates with IAS 12, IAS 21, IAS 36 and IAS 7.