More examples on accounting for COVID-19-related rent concessions by lessees
In the July 2020 Accounting Alert, we demonstrated how simple COVID-19 related rent concessions such as rent waivers and deferrals are accounted for by a lessee that qualifies and elects to use the practical expedient included in the amendments to IFRS 16 Leases Covid-19-Related Rent Concessions.
This month we highlight two additional, more complex, examples where lessees qualify and elect to use the practical expedient to account for COVID-19-related rent concessions.
Example 1 – Deferral of rental payments for six months and lease term extended by six months
A common scenario expected to occur in practice is a rent concession where lease payments are deferred during the COVID-19 period, but paid to the lessor during an extended lease term.
An example of this would be where: · Six months of lease payments from the COVID-19 period are deferred · The lease term is extended by six months, and · The lease payments during the extended six-month period are equal to the lease payments deferred during the COVID-19 pandemic. In this case, the overall lease payments result in revised consideration for the lease that is substantially the same as, or less than, the consideration for the lease immediately preceding the change, and therefore meets the conditions for the practical expedient to be applied.Fact pattern
Tourism Co is a tourism operator and entered into a three-year lease for office premises on 1 January 2019. Lease payments are $100 per month paid in arrears. Tourism Co’s incremental borrowing rate is 5% or 0.42% per month.
Tourism Co’s business experienced a significant downturn towards the end of March 2020 when the New Zealand Government imposed a ‘Do not travel’ ban on all incoming tourism from overseas.
On 1 April 2020, the lessor therefore agreed to defer 100% of lease payments for the months April to September 2020, which would be recouped by extending the lease term by six months.Tourism Co meets the criteria and wishes to apply the practical expedient in accounting for this rent concession in its 30 June 2020 financial statements.
The present value of the future remaining lease payments on 1 April 2020, based on the original terms of the lease, is $2,007.
Step one: Recalculate lease liability on 1 April 2020
The benefit of the concession is accounted for when it is agreed between the lessee and lessor. The lease liability is therefore remeasured on 1 April 2020 (net present value is $1,957).
The amortisation table for the lease liability based on the revised lease terms (rounded to the nearest dollar) on 1 April 2020 is as follows:
| Opening | Interest | Payment | Closing | |
| 1 April 2020 | $1,957 | $8 | $0 | $1,965 |
| 1 May 2020 | $1,965 | $8 | $0 | $1,974 |
| 1 June 2020 | $1,974 | $8 | $0 | $1,982 |
| 1 July 2020 | $1,982 | $8 | $0 | $1,990 |
| 1 August 2020 | $1,990 | $8 | $0 | $1,998 |
| 1 September 2020 | $1,998 | $8 | $0 | $2,007 |
| 1 October 2020 | $2,007 | $8 | 100 | $1,915 |
| 1 November2020 | $1,915 | $8 | 100 | $1,823 |
| 1 December 2020 | $1,823 | $8 | 100 | $1,731 |
| 1 January 2021 | $1,731 | $7 | 100 | $1,638 |
| 1 February 2021 | $1,638 | $7 | 100 | $1,545 |
| 1 March 2021 | $1,545 | $6 | 100 | $1,451 |
| 1 April 2021 | $1,451 | $6 | 100 | $1,357 |
| 1 May 2021 | $1,357 | $6 | 100 | $1,263 |
| 1 June 2021 | $1,263 | $5 | 100 | $1,168 |
| 1 July 2021 | $1,168 | $5 | 100 | $1,073 |
| 1 August 2021 | $1,073 | $4 | 100 | $977 |
| 1 September 2021 | $977 | $4 | 100 | $882 |
| 1 October 2021 | $882 | $4 | 100 | $785 |
| 1 November 2021 | $785 | $3 | 100 | $688 |
| 1 December 2021 | $688 | $3 | 100 | $591 |
| 1 January 2022 | $591 | $2 | 100 | $494 |
| 1 February 2022 | $494 | $2 | 100 | $396 |
| 1 March 2022 | $396 | $2 | 100 | $298 |
| 1 April 2022 | $298 | $1 | 100 | $199 |
| 1 May 2022 | $199 | $1 | 100 | $100 |
| 1 June 2022 | $100 | $0 | 100 | $0 |
Step two: Recognise difference in profit or loss
The difference between the carrying amount of the original lease liability on 1 April 2020, and the revised lease liability (after taking into account revised lease payments from the concession) is recognised in profit or loss.
| 1 April 2020 | $ |
| Lease liability – prior to rent concession | 2,007 |
| Lease liability – after to rent concession | (1,957) |
| Difference | 50 |
Tourism Co therefore recognises the following journal entry on 1 April 2020:
Dr Lease liability $50
Cr Profit or loss $50
Example 2 – Deferral of rental payments for six months – recouped over remainder of lease with additional interest on deferred payments to compensate for time value of money
All the following conditions must be met in order for lessees to apply the practical expedient when accounting for COVID-19-related rent concessions:
(a) The change in lease payments results in revised consideration for the lease that is substantially the same as, or less than, the consideration for the lease immediately preceding the change (b) Any reduction in lease payments affects only payments originally due on or before 30 June 2021 (for example, a rent concession would meet this condition if it results in reduced lease payments on or before 30 June 2021 and increased lease payments that extend beyond 30 June 2021), and (c) There is no substantive change to other terms and conditions of the lease. Extract of IFRS 16 paragraph 46BStraight deferrals of lease payments, to be repaid by the lessee at a later date, with no changes to the amount of the deferred lease payments would clearly meet criterion (a) above. However, the question arises:
What if the lessor adds interest to the deferred payments to compensate it for the time value of money?The International Accounting Standards Board’s (IASB’s) view, when setting the practical expedient, was that ‘The Board was of the view that a rent concession that increases total payments for the lease should not be considered a direct consequence of the covid-19 pandemic, except to the extent the increase reflects only the time value of money.’. Refer to IFRS 16, Basis for Conclusions, paragraph BC205D(a).
From this we can conclude that the practical expedient can still be used if the total payments for the lease increases, but only to the extent that the increase reflects the time value of money.
The example below illustrates the accounting for this type of scenario.
Fact pattern
Tourism Co is a tourism operator and entered into a three-year lease for office premises on 1 January 2019. Lease payments are $1,000 per month paid in arrears. Tourism Co’s incremental borrowing rate is 5% or 0.42% per month.
Tourism Co’s business experienced a significant downturn towards the end of March 2020 when the New Zealand Government imposed a ‘Do not travel’ ban on all incoming tourism from overseas.
On 1 April 2020, the lessor therefore agreed to defer 100% of lease payments for the months April to September 2020, which would be recouped over the remaining period of the lease by increasing lease payments from October 2020 to December 2021 from $1,000 to $1,420 per month.The overall remaining consideration on the lease has therefore increased from $21,000 to $21,300. Tourism Co concludes that this increase in the nominal consideration is only to compensate the lessor for the time value of money.
Tourism Co therefore meets the criteria and wishes to apply the practical expedient in accounting for this rent concession in its 30 June 2020 financial statements.
The present value of the future remaining lease payments on 1 April 2020, based on the original terms of the lease, is $20,067.
Step one: Recalculate lease liability on 1 April 2020
The benefit of the concession is accounted for when it is agreed between the lessee and lessor. The lease liability is therefore remeasured on 1 April 2020, taking into account the additional $420 per month lease payments due from October 2021 onwards (net present value is $20,099).
The amortisation table for the lease liability based on the revised lease terms (rounded to the nearest dollar) on 1 April 2020 is as follows:
| Opening | Interest | Payment | Closing | |
| 1 April 2020 | $20,099 | $84 | $0 | $20,182 |
| 1 May 2020 | $20,182 | $84 | $0 | $20,267 |
| 1 June 2020 | $20,267 | $84 | $0 | $20,351 |
| 1 July 2020 | $20,351 | $85 | $0 | $20,436 |
| 1 August 2020 | $20,436 | $85 | $0 | $20,521 |
| 1 September 2020 | $20,521 | $86 | $0 | $20,606 |
| 1 October 2020 | $20,606 | $86 | 1,420.00 | $19,272 |
| 1 November2020 | $19,272 | $80 | 1,420.00 | $17,933 |
| 1 December 2020 | $17,933 | $75 | 1,420.00 | $16,587 |
| 1 January 2021 | $16,587 | $69 | 1,420.00 | $15,236 |
| 1 February 2021 | $15,236 | $63 | 1,420.00 | $13,880 |
| 1 March 2021 | $13,880 | $58 | 1,420.00 | $12,518 |
| 1 April 2021 | $12,518 | $52 | 1,420.00 | $11,150 |
| 1 May 2021 | $11,150 | $46 | 1,420.00 | $9,776 |
| 1 June 2021 | $9,776 | $41 | 1,420.00 | $8,397 |
| 1 July 2021 | $8,397 | $35 | 1,420.00 | $7,012 |
| 1 August 2021 | $7,012 | $29 | 1,420.00 | $5,621 |
| 1 September 2021 | $5,621 | $23 | 1,420.00 | $4,225 |
| 1 October 2021 | $4,225 | $18 | 1,420.00 | $2,822 |
| 1 November 2021 | $2,822 | $12 | 1,420.00 | $1,414 |
| 1 December 2021 | $1,414 | $6 | 1,420.00 | -$0 |
Step two: Recognise difference in profit or loss
The difference between the carrying amount of the original lease liability on 1 April 2020, and the revised lease liability (after taking into account revised lease payments from the concession) is recognised in profit or loss.
| 1 April 2020 | $ |
| Lease liability – prior to rent concession | 20,067 |
| Lease liability – after to rent concession | (20,099) |
| Difference | 31 |
Tourism Co therefore recognises the following journal entry on 1 April 2020:
Dr Profit or loss $31
Cr Lease liability $31
Note: Although there is a slight increase in the lease liability, it may nevertheless be appropriate for Tourism Co to conclude that the increase in the nominal payments are to compensate the lessor for the time value of money.
However, a more significant increase in the lease liability may indicate that the increase in the remaining lease payments may be to compensate the lessor in addition to merely the time value of money (e.g. penalties).
For more on the above, please contact your local BDO representative.