changes to

lease accounting

DOWNLOAD FACT SHEET

View a summary of the important changes

DOWNLOAD WHITE PAPER

Find out more about IFRS16

WHY IS THIS CHANGING?

The new rules are aimed at creating greater transparency by treating all leases in the same way for accounting purposes. This means users of financial statements will more easily be able to compare the performance of one organisation with that of another.

WHAT HAS HAPPENED?

A new lease accounting standard (IFRS16) was published last year and will come into effect on 1st January 2019. This will apply to all organisations reporting under International Financial Reporting Standards which includes PLCs, foreign owned companies and some public sector bodies. For UK limited companies, the new rules are expected to become effective in 2022.

All leases will be reported on balance sheet under the new rules, whereas previously operating leases (including contract hire) were reported off balance sheet. This applies to leases of property, ships, planes, trains, plant & machinery as well as motor vehicles.

WHAT ARE THE CHANGES?

A Right of Use (ROU) asset is created based on future remaining finance rentals, discounted at the interest rate implicit in the lease or incremental borrowing rate.

A corresponding liability will appear on the balance sheet alongside the ROU asset.

The ROU asset will depreciate over the term of the contract on a straight line basis.

The interest on the lease liability will be charged to the profit and loss (P&L) account on a reducing balance basis to match the underlying value of the liability as it reduces.

This means a higher interest charge at the start of the lease compared to the end.

WHAT OTHER IMPACTS ARE THERE?

The new lease accounting rules will impact key financial performance ratios which will be of interest to investors and lenders.

These include:
Gearing ratio (Debt to equity) will increase because financial liabilities increase.

EBITDA (Earnings before Interest Tax & Depreciation) will increase as lease costs are now treated as depreciation and interest.

Operating cash flow will increase because lease payments are now treated as financing activities.

Interest cover will decrease due to the effect of higher reported interest costs.

For property and large value equipment leases, the effect could be significant. This is unlikely to be the case for vehicle leases, however, even where large fleets are involved. This is because the value of each lease is relatively small and the term is relatively short.

However, there will be an increased reporting requirement. As each vehicle lease will be treated as a fixed asset, the volume of vehicles within a fleet will potentially present organisations with a greater administrative challenge. Any revaluation of the asset (such as a change in contract term or mileage), would require possible adjustment to the depreciation charge and an amendment to the corresponding liability and interest charge.

Additionally, if vehicles transfer between different companies within a group then there may be the need to treat the transfer as a disposal of a fixed asset within one company and an addition in another, based on the book value at the time of transfer.

IS VEHICLE LEASING STILL A GOOD OPTION?

Whilst the changes may initially be challenging, at Lex Autolease, we're committed to helping our customers deal with the new accounting rules so that they can continue to enjoy the many benefits of contract hire. These include (see table).

Find out more about IFRS16:

WHAT IS LEX AUTOLEASE DOING TO HELP?

We want to help our customers to comply with the changes as easily as possible. To help with the increased administrative burden, we have designed a management information system which will provide the right data for customers needing to create the appropriate accounting entries.

This will be available for release during the second half of 2017 so customers have the opportunity to familiarise themselves with the inputs well ahead of the required 1st January 2019 deadline.

To find out more and to discuss the impact of the change on your fleet, contact your Lex Autolease Customer Relationship Manager.