IFRS 15 Sales with buyback options

IFRS 15 Sales with buyback options (ie IFRS 15 Sales with buyback options) – Original Equipment Manufacturers (OEMs) may have a right or obligation to repurchase vehicles as part of a contract with a customer or may provide residual value guarantees to certain customers. Examples include repurchase options on sales of fleet vehicles or residual value guarantees to fleet customers or third-party purchasers of vehicles (e.g., finance companies). While the economics of a repurchase agreement and a residual value guarantee may be similar, the accounting outcome could be quite different under IFRS 15.

Repurchase agreements IFRS 15 Sales with buyback options

Some agreements include repurchase provisions, either as part of the original sales contract or as a separate contract that relates to the original sales contract. These provisions affect how an entityIFRS 15 Sales with buyback options applies the guidance on control to affected transactions. At the time of the sale, an entity (seller) may enter into an agreement to repurchase the same goods at a later date or the seller may have an option to repurchase the goods at a later date.

An entity may also provide a guarantee to pay the customer any shortfall between the residual value of an item and a guaranteed amount. If the overall effect of the agreements is that the seller has not transferred the risks and rewards of ownership of the asset, then the transaction is considered to be a financing arrangement and no revenue is recognised with respect to the initial ‘sale’. Additionally, lease accounting may apply (see below). [IAS 18.IE5]

The IASB noted, in the Basis for Conclusions (IFRS 15 BC262), that the existence of a leaseback, in isolation, does not preclude a sale. This is because a lease is different from the sale or purchase of an underlying asset, as a lease does not transfer control of the underlying asset. IFRS 15 Sales with buyback options

Instead, it transfers the right to control the use of the underlying asset for the period of the lease. However, if the seller-lessee has a substantive repurchase option for the underlying asset (i.e., a right to repurchase the asset), no sale has occurred because the buyer-lessor has not obtained control of the asset. IFRS 15 Sales with buyback options

Sales and leaseback

For both the seller-lessee and buyer-lessor, the accounting for a sale-and-leaseback transaction depends on whether the initial transfer of the underlying asset from the seller-lessee to the buyer-lessor is a sale. The parties apply the new revenue standard to determine whether a sale has taken place. [IFRS 16 99] IFRS 15 Sales with buyback options

If the seller-lessee has a substantive option to repurchase the underlying asset, then the transfer is not a sale. [IFRS 16 99] IFRS 15 Sales with buyback options

Forward or call option held by the entity IFRS 15 Sales with buyback options

The standard indicates that if the entity has the right or obligation to repurchase the asset at a price less than the original sales price (taking into consideration the effects of the time value of money), the entity would account for the transaction as a lease in accordance with IFRS 16 Leases, unless the contract is part of a sale-leaseback transaction. When an OEM has the obligation or right to repurchase a vehicle, the transaction will most often be accounted for as a lease because the repurchase price is typically less than the original sales price.

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Put option held by the customer IFRS 15 Sales with buyback options

If the customer has the ability to require the OEM to repurchase a vehicle (i.e., a put option) at a price lower than the vehicle’s original selling price, the standard requires the OEM to consider at contract inception whether the customer has a significant economic incentive to exercise that right. This determination influences whether the customer has control over the asset received and, therefore, whether the contract is treated as a lease or a sale with the right of return. IFRS 15 Sales with buyback options

To determine whether a customer has a significant economic incentive to exercise the repurchase option, OEMs need to consider various factors, including the relationship of the repurchase price to the expected market value (e.g., auction price) of the vehicle at the date of repurchase and the amount of time until the right expires. For example, if the repurchase price is expected to significantly exceed the market value at the time of repurchase, this may indicate that the customer has a significant economic incentive to exercise the repurchase option.

Under IFRS 15, arrangements with repurchase features must be evaluated to determine whether they represent a sale, lease or financing, based on specified criteria. This evaluation includes considering factors such as the likelihood of a customer exercising a put option or the relationship between the repurchase price and the market value of the asset at the date of repurchase. Contracts that include residual value guarantees and make whole provisions may qualify for sale accounting under the revenue standard and also may include a component of variable consideration. These assessments will require considerable judgement. IFRS 15 Sales with buyback options

Residual value guarantees

A residual value guarantee is defined as “[a] guarantee made to a lessor by a party unrelated to the lessor that the value (or part of the value) of an underlying asset at the end of a lease will be at least a specified amount”. [IFRS 16 Appendix A] IFRS 15 Sales with buyback options

For a lessee, lease payments include amounts expected to be payable by the lessee under residual value guarantees. [IFRS 16 Appendix A] IFRS 15 Sales with buyback options

A lessee should estimate the amount that it expects to pay to the lessor under a residual value guarantee and include that amount in the measurement of its lease liability. This treatment reflects the fact that payments resulting from a residual value guarantee cannot be avoided by the lessee – the lessee has an unconditional obligation to pay the lessor if the value of the underlying asset moves in a particular way. Accordingly, any uncertainty relating to the payment of a residual value guarantee does not relate to whether the lessee has an obligation.

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Instead, it relates to the amount that the lessee may have to pay, which can vary in response to movements in the value of the underlying asset. In that respect, residual value guarantees are similar to variable lease payments that depend on an index or a rate for the lessee. [IFRS 16 BC170 & IFRS 16 BC171] IFRS 15 Sales with buyback options

For a lessor, lease payments include any residual value guarantees provided to the lessor by the lessee, a party related to the lessee or a third party unrelated to the lessor that is financially capable of discharging the obligations under the guarantee. [IFRS 16 Appendix A] IFRS 15 Sales with buyback options

Lease payments

Payments made by a lessee to a lessor relating to the right to use an underlying asset during the lease term, comprising the following:IFRS 15 Sales with buyback options

  1. fixed payments (including in-substance fixed payments), less any lease incentives; IFRS 15 Sales with buyback options
  2. variable lease payments that depend on an index or a rate; IFRS 15 Sales with buyback options
  3. the exercise price of a purchase option if the lessee is reasonably certain to exercise that option; and IFRS 15 Sales with buyback options
  4. payments of penalties for terminating the lease, if the lease term reflects the lessee exercising an option to terminate the lease.

For the lessee, lease payments also include amounts expected to be payable by the lessee under residual value guarantees. Lease payments do not include payments allocated to non-lease components of a contract, unless the lessee elects to combine non-lease components with a lease component and to account for them as a single lease component.

For the lessor, lease payments also include any residual value guarantees provided to the lessor by the lessee, a party related to the lessee or a third party unrelated to the lessor that is financially capable of discharging the obligations under the guarantee. Lease payments do not include payments allocated to non-lease components. IFRS 15 Sales with buyback options

Remeasurement lease liability

A lessee shall remeasure the lease liability by discounting the revised lease payments, if either: (a) there is a change in the amounts expected to be payable under a residual value guarantee. A lessee shall determine the revised lease payments to reflect the change in amounts expected to be payable under the residual value guarantee.

Amounts expected to be payable under residual value guarantees – lessees only

IFRS 16 requires lessees to include amounts expected to be payable to the lessor under residual value guarantees as lease payments. A lessee may provide a guarantee to the lessor that the value of the underlying asset it returns to the lessor at the end of the lease will be at least a specified amount. Such guarantees are enforceable obligations that the lessee has assumed by entering into the lease. Uncertainty related to a lessee’s guarantee of a lessor’s residual value affects the measurement of the obligation rather than the existence of an obligation.

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Residual value guarantee included in lease payments

Entity R (lessee) enters into a lease and guarantees that the lessor will realise CU15,000 from selling the asset to another party at the end of the lease. At lease commencement, based on Entity R’s estimate of the residual value of the underlying asset, Entity R determines that it expects that it will owe CU6,000 at the end of the lease.

Analysis: Because it is expected that it will owe the lessor CU6,000 under the residual value guarantee, Entity R includes that amount as a lease payment.

IFRS 16 does not state how frequently reassessment should occur for expected changes under residual value guarantees. Entities have to apply (and document) judgement to determine the frequency of reassessment based on the relevant facts and circumstances. IFRS 15 Sales with buyback options

Residual value guarantees – lessors only

IFRS 16 requires lessors to include in the lease payments, any residual value guarantees provided to the lessor by the lessee, a party related to the lessee, or a third party unrelated to the lessor that is financially capable of discharging the obligations under the guarantee. This amount included in the lease payments is different from that for a lessee which only includes the amount expected to be payable (see above lessees only). IFRS 15 Sales with buyback options

Residual value guarantees included in the lease classification test

In evaluating IFRS 16’s lease classification criteria, lessors are required to include in the ‘substantially all’ test any (i.e., the maximum obligation) residual value guarantees provided by both lessees and any other third party unrelated to the lessor.

Disclosure

Additional information relating to residual value guarantees that, depending on the circumstances, may be needed to satisfy the disclosure objective could include information that helps users of financial statements to assess, for example:

  • The lessee’s reasons for providing residual value guarantees and the prevalence of those guarantees
  • The magnitude of a lessee’s exposure to residual value risk
  • The nature of underlying assets for which those guarantees are provided
  • Other operational and financial effects of those guarantees

IFRS 15 Sales with buyback options

IFRS 15 Sales with buyback options

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