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How will renting contracts be affected now that the new regulation NIIF 16 has come into power

14 November 2017

The new regulation NIIF 16 will regulate accounting of lease contracts in place of NIC 17. The big change between the two, affects operational leases, which were previously recorded as expenditure.

How will renting contracts be affected now that the new regulation NIIF 16 has come into power

Leasing is important for many companies. It involves a means of access to assets, obtaining financing and reducing the company’s exposure to the risks that come with owning the property.

The new regulation NIIF 16 will regulate the accounting of leasing contracts in place of regulation NIC 17.

The big change between the two affects operational leases, which were previously recorded as expenditure, and will now be counted in balance, from the beginning, by way of lease recognition, as if it were the financed purchase of an asset.

For the renters, there are no relevant changes in theory, unless they have goods that are subleased and will need to revise their rating.

When will the new regulation NIIF 16 come into effect?

It will come into effect on the 1st January 2019, and can be applied earlier.

Who will be affected by the new regulation NIIF 16?

The regulation will mainly affect companies that have lease contracts and are subject to international accounting standards.

Cases where the lease is not more than $5,000 in total and are for less than 12 months in total without the inclusion of right to buy, are exempt from this.

How will the change affect my company?

Regulation NIIF 16 will set a unique accounting blueprint for all accounting purposes, which means recognising the asset for its right of use and recognising liability by the obligation that leasing represents.

However, operational leases (traditional leases), which until now have been put down as expenditure (with an impact that only affects the income statement), will be recognised in the balance by the current value of all the payments pledged in the contract, as a financed purchase of an asset.

Companies will therefore be more indebted and must reflect in their income statements the financial expenditure and the corresponding repayments.

This new situation will have an important impact on financing, given that debt levels are key factors in the conditions for loans. Consequently, there will also be fiscal, legal, and real estate effects. It is vitally important to anticipate the changes and correctly quantify their impact.

How will the new regulation NIIF 16 be implemented?

In the asset, the rented properties right to use will be recognised, and with the liability, the obligation to pay future payments.

To determine the current value of future payments, the discount rate will be the implicit interest rate of the lease or, failing that, and in the event that it cannot be obtained, it will be the interest rate at which the lease would be financed in the market for an operation of similar risk and age.

What does this change hope to achieve?

With the introduction of this regulation, the IASB are looking for improved homogeneity, for the comparison of financial situations and ratios, between companies, avoiding distortions that introduce a different strategy in the management of the asset portfolio.

The driving force behind this is greater transparency of information, against the increase of balance sheet debt.

What strategies would be the best?

In normal conditions, it would be of interest to renegotiate leasing contracts to fewer years and study the interest of buying the asset instead of leasing.

These considerations must however be carried out by each company in terms of their aims and forecasts.

How can Gesvalt help your company?

Gesvalt gives advice to companies on the impact of this regulation on a financial, accounting, fiscal, legal and real estate level.

It is important to analyse beforehand the effect the regulation has on financial statements, in order to make better decisions in the following areas:

  • ACCOUNTING: Is it better to rent or buy? Are Sale & Leaseback operations still of use?
  • FINANCIAL: what is the impact on financial “covenants”, ratios and finance conditions, renegotiation of debt, dividend policies, etc.?
  • LEGAL: Can rent be renegotiated, is there a need to readjust renting periods, make contractual revisions etc.?
  • FISCAL: Will this impact corporate tax? How will this affect interest deducibility?
  • REAL ESTATE: How can we optimise our leased space?

What services do Gesvalt provide to minimise the impact?

Gesvalt assesses companies on what effect the regulation will have and minimises the impact on the income statements, providing the following services:

  • Lease valuation.
  • Impact analysis relative to the definition of the lease.
  • Establishing a lease period.
  • Impact on business indicators.