Changes to requirements for lease accounting have been on the cards for some time and from 1st January 2019, AASB 16 / NZ IFRS 16 will supersede AASB 117 / NZ IAS 17, meaning that operating leases as well as finance leases must be accounted for on the balance sheet. This shift of focus will require not only an asset reclassification exercise, but also the ability to account for lease details on the balance sheet.
By utilising software tools that can assist with the calculation and payment of all types of leases, organisations can not only achieve compliance with the demands of AASB 16/NZ IFRS 16, but also deliver financial transparency on the management of leases. As Richard Exley, Commercial Manager at Real Asset Management argues, an all encompassing solution that improves lease accounting and integrates with a comprehensive fixed asset management system makes both business and financial sense, so why wait?
Lease Accounting
Over the past few years, organisations across both the public and private sector have shifted towards AASB/IFRS accounting. The AASB’s latest requirements for lease accounting are designed to deliver additional asset transparency and provide organisations across the board with the opportunity to improve the day to day management of leases.
To comply with AASB 16 and NZ IFRS 16, organisations will have to look closely at current lease arrangements – covering everything from IT equipment, cars and commercial property. Arrangements are ‘capitalised’ by recognising the present value of lease payments and showing them either as leased assets (right-of-use assets) or as fixed assets, together with property, plant and equipment. For organisations with material off balance sheet leases, AASB 16 and NZ IFRS 16 changes the nature of related expenses. It replaces the typical straight-line operating lease expense and applies AASB 117 and NZ IAS 17 with a depreciation charge for leased assets (included within operating costs) and an interest expense on lease liabilities (included within finance costs).
Under the new rules, operating leases will have to be reclassified and accounted for on the balance sheet. Some notable exceptions are short-term leases (generally with lease terms less than 12 months) and leases for low-value assets.
Whilst reluctant to embark upon another compliance project so soon after the shift to IFRS, most finance directors would concede that lease accounting practices are often insufficient for the level of transparency required. Instances of overpayment on leases for assets that are no longer in use are far from unusual; numerous companies struggle to produce information regarding current lease obligations, let alone predict such information one or two years ahead.
Many organisations manage hundreds of leases on both a lessee and lessor basis and there is now a pressing need to impose far greater control in this area.
AASB 16/NZ IFRS 16 Requirements
Today, too few organisations can readily access information on the number of leases, when they terminate, when they need to be rescheduled and whether there is a break clause. Lease records are, at best, recorded on a spreadsheet, placing the onus on individuals to proactively seek information when problems occur.
The new standards are designed to impose far more control over this process and deliver greater clarity over lease accounting. Under the AASB/IFRS demands, in addition to providing a clear link between the lease and asset information there is a requirement to record more detailed information about each lease, including associated legal documents.
So what are the options? The temptation will be to extend the use of existing spreadsheets to meet the new requirements. However, for all but the smallest organisations with just a handful of leases, the manual effort demanded to extend information and link individual lease information to possibly multiple assets will be unmanageable. Furthermore, auditors will require verification of spreadsheet based information and are likely to demand a more robust solution.
The other obvious option would be to exploit the existing finance system. However, with the vast majority of these failing to offer a lease accounting module, organisations can risk waiting for the vendor to rush out some form of compliant answer in time for the deadline – although many have no plans to address this issue. A far better way is to remove all risk by embracing a proven solution that can automate and streamline the process today.
Moving towards AASB 16 and NZ IFRS 16 compliance will require organisations to generate finance lease information and associated assets from existing operating lease data. A system that features functionality to assist with this transition would be advisable, otherwise it will be very time consuming to manually collate and make amendments.
When processing operating leases to finance lease records, organisations will be faced with the choice of utilising either a Partial or Full Retrospective method. Once the decision has been made and the process completed, maintaining an existing record of the original operating lease will allow users to produce comparison reports to view the impact on the balance sheet and depreciation costs.
Integrated Model
A system that can combine a unique lease identifier with a unique asset identifier provides immediate compliance with the new demands for integrated lease and asset information. In addition, standard reports provide invaluable information regarding the current lease obligations in one year, two to five years and over five years, offering organisations a chance to rapidly assess the role of lease expenditure and income within future strategic planning.
Financial Clarity
With a dedicated lease accounting solution that can uniquely associate finance leases with asset(s) and post journals to the finance system, the process of meeting the new lease requirements is not onerous. However, organisations will need to spend some time classifying leases and recording information in far greater depth. Companies should, therefore, be considering the classification process as soon as possible, whilst also assessing the options for meeting the new requirements in order to avoid the risk of poor audit performance and the knock on effect on audit costs.
Furthermore, making this move delivers additional benefits over and above AASB/IFRS compliance. Improved insight into the status of leases and associated assets provides tangible opportunities to reassess leasing strategies and improve efficiency. With immediate visibility of current and future lease obligations, organisations can avoid over paying on out of date leases and set up real time alerts via email about when a lease is due for renewal, for example, to impose far more control over the entire lease accounting process. Add in the improved clarity and insight into the cost/value of leased assets and organisations will be well placed to deliver the improved transparency required.
