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7 Lease modications 73
7.2 Lessee modication accounting
Example 40 – Lease modication: Not a separate lease: Increase in
lease term
IFRS 16.45–46, A, Ex16 Lessee X enters into a 20-year lease of a manufacturing plant with Lessor Y.The
annual lease payments are 150,000 payable in arrears. The interest rate implicit
in the lease cannot be readily determined and X uses its incremental borrowing
rate. The incremental borrowing rate at commencement of the lease is 5%.
There are no initial direct costs, lease incentives or other payments between X
and Y. Accordingly, X initially recognises a lease liability and right-of-use asset of
1,869,332.
At the end of year 18 (i.e. two years before the end of the original lease term),
X and Y agree to modify the lease by extending the lease term for an additional
10years – i.e. the lease term will be 30 years in total. Because there were no
renewal options in the original lease, this is not a reassessment of the lease
term. This is a lease modication that increases the lease term only – i.e. it does
not grant X the right to use an additional underlying asset. Therefore, it does not
result in a separate lease.
The annual lease payments remain unchanged and X’s incremental borrowing
rate at that date is 8%. There are no initial direct costs, lease incentives or other
payments between X and Y as a result of the modication. The pre-modication
carrying amount of the lease liability and right-of-use asset are 278,912 and
186,933, respectively.
X remeasures the lease liability at 1,130,412
(1)
and recognises the difference
between the carrying amount of the lease liability before the modication and
the carrying amount of the modied lease liability of 851,500
(2)
as an adjustment
to the right-of-use asset.
Notes
1. The lease liability after the modication is determined based on:
– annual lease payments payable in arrears of 150,000;
– a remaining lease term of 12 years; and
– a revised incremental borrowing rate of 8%.
2. Calculated as 1,130,412 - 278,912.
Example 41 – Lease modication: Not a separate lease: Decrease in
scope and consideration
Lessee E entered into a 10-year lease for 10,000m
2
of ofce space with
Lessor F.The rental payments are 100,000 per annum payable in arrears. The
interest rate implicit in the lease cannot be readily determined and E uses its
incremental borrowing rate. The incremental borrowing rate at commencement
of the lease is 7%. There are no initial direct costs, lease incentives or costs to
restore the leased asset to its original condition. Accordingly, E recorded a right-
of-use asset and a lease liability of 702,358 at the commencement date.
At the beginning of Year 7, E and F agree to modify the lease by reducing the
space to 7,500m
2
(i.e. a reduction of 2,500m
2
) and the lease payments to 75,000
per annum, payable in arrears for the remaining four years. The incremental
borrowing rate at this date is 8%, the pre-modication carrying amount of the
right-of-use asset is 280,943 and the lease liability is 338,721.