Treatment of lease liabilities

Treatment of lease liabilities – The recognition of right-of-use assets with corresponding lease liabilities raises the question of whether and how the lease liabilities associated with the right-of-use assets should be considered when performing impairment assessments.

The treatment of lease liabilities may differ in practice depending on whether the recoverable amount is based on the assets’ fair value less cost of disposal (FVLCD) or value in use (VIU).

In general, liabilities are ignored when performing an impairment test of a cash generating unit (CGU), meaning that the starting point would be that both the carrying amount of the lease liabilities and the respective future lease payments would be ignored when determining the carrying amount and the recoverable amount of a cash generating unit.

However, there are exceptions to this general rule. This may occur if the disposal of a cash generating unit would require the buyer to assume associated liabilities.Treatment of lease liabilities

In this case, the fair value less cost of disposal of the cash generating unit would be the sale price for both the cash generating unit and the liabilities, less the cost of disposal. To perform a meaningful comparison, the carrying amount of the liabilities would then need to be deducted when determining both the carrying amount of the cash generating unit and its value in use based on paragraph 78 of IAS 36. Treatment of lease liabilities Treatment of lease liabilities Treatment of lease liabilities

When it comes to lease arrangements, in most cases, a cash generating unit would be disposed of together with the associated lease arrangements. In such case, the fair value less cost of disposal for the cash generating unit would consider the associated lease arrangements and, therefore, the need to make the contractual lease payments.

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This would require the carrying amount of the lease liabilities to be deducted when determining the carrying amount of the cash generating unit, in order to allow a meaningful comparison, and when determining the cash generating unit’s value in use. Treatment of lease liabilities

It is important to note that if the carrying amount of the lease liabilities is deducted to arrive at the carrying amount of the cash generating unit, the same carrying amount of the lease liabilities would need to be deducted from the value in use. Treatment of lease liabilities

Under IAS 36.78, as confirmed by the IFRS Interpretations Committee at its March 2016 meeting, it is not appropriate to calculate the value in use by reducing the cash generating unit’s future cash flows by the lease payments as distortion may arise due to the difference in the discount rate used to obtain the present value of the cash generating unit’s future cash flows and the discount rate used to calculate the carrying amount of the lease liabilitieUSDs. Treatment of lease liabilities

From a practical point of view, it may be sufficient to simply ignore lease liabilities and lease payments when determining the value in use and the carrying amount of the cash generating unit.

While this would mean that the value in use is not necessarily comparable to the fair value less cost of disposal, this would not cause an issue as long as the calculated value in use is above the cash generating unit’s carrying amount, and there is, therefore, evidence that the cash generating unit is not impaired, in line with paragraph 19 of IAS 36. Treatment of lease liabilities

To illustrate this, consider a cash generating unit consisting of the goodwill of 50, fixed assets of 320 and a right-of-use asset of 133, resulting in a total carrying amount of 503. The calculated value in use, ignoring lease cash outflows reflected in the lease liability of 140, is 524. Treatment of lease liabilities

Since there is headroom of 21 in this case (recoverable amount of 524 less carrying amount of the cash generating unit of 503), a comparison by the entity of the value in use and the carrying amount of the cash generating unit, ignoring the lease liability, would be sufficient. Treatment of lease liabilities

The lease liability in such case would not need to be deducted from the value in use nor the carrying amount of the cash generating unit (gross basis).

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If the entity needs to compare the value in use with the fair value less cost of disposal, based on a situation where the associated lease liability would be transferred to the buyer, the entity must determine the carrying amount of the cash generating unit deducting the lease liability and must deduct the lease liability from the value in use as well (net basis).

Under either basis, the headroom will be the same, in this example amounting to 21. Treatment of lease liabilities

Treatment of lease liabilities
* VIU = value in use

Consistency is an important principle in IAS 36. In testing for impairment, entities must ensure that the carrying amount of the cash generating unit is consistent with the basis used for the recoverable amount. Treatment of lease liabilities

In summary Treatment of lease liabilities
In most cases, a cash generating unit would be disposed of together with the associated lease arrangements. fair value less cost of disposal for the cash generating unit would, therefore, consider the associated lease arrangements and the need to make contractual lease payments.

This would require the carrying amount of the lease liabilities to be deducted when determining the carrying amount of the cash generating unit and, for consistency purposes, from the value in use.

It may be sufficient to simply ignore lease liabilities and lease payments when determining both the carrying amount and value in use of the cash generating unit.

While this would mean that the value in use is not comparable to the fair value less cost of disposal, it would be a reasonable shortcut as long as the calculated value in use is above the cash generating unit’s carrying amount, providing evidence that the cash generating unit is not impaired. Treatment of lease liabilities

Treatment of lease liabilities

Treatment of lease liabilities

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