Indian Accounting Standard 116, Leases which is applicable from period
beginning on or after 1 April 2019 sets out principle for recognition,
measurement, presentation and disclosure of leases. Ind AS 116 supersedes Ind AS
17, Leases. Ind AS 116 is based on the same principal as mentioned in IFRS 16,
which is applicable for period beginning on or after 1 January 2019. Ind AS 116
has replaced the dual classification model of finance lease and operating lease
in the books of lessee, however, there is no fundamental changes to existing
lessor accounting model.
Ind AS 116 is applicable only for long term leases. Any leases
exceeding for a period of 12 months at the time of commencement of lease is
considered to be a long-term lease. The entity needs to check lease period at
the time of commencement and not remaining useful life on the date of
If a lease contract consists of lease and non-lease component, the
standards will be applicable only for lease component and other non-lease
component treatment needs to be determined based on other applicable standards.
At the commencement date of lease, a lessee shall recognise a right to
use asset and a lease liability in the books. Right to use asset shall comprise
- Present value of future lease payments
- Any initial direct costs paid
- Any lease payment made before the commencement of lease.
Lease liability shall be calculated by discounting future lease
payments using the interest rate implicit in the lease or entity’s incremental
rate of borrowing.
As per Appendix C of the standard Effective date and transition, the
lessee has an option of applying standard retrospective by adjusting cumulative
effect of applying this standard to the opening balances of retained earnings.
Impact of interest free rent deposits
As required under para 5.1.1 of Ind AS 109, except for trade
receivables an entity is required to measure a financial asset or financial
liability at its fair value plus or minus, in the case of a financial asset or
financial liability not at fair value through profit or loss, transaction costs
that are directly attributable to the acquisition or issue of the financial
asset or financial liability.
Accordingly, interest free rent deposits used to be recognised at fair
value and balance used to be treated as prepaid rent, which was amortised over
the period of lease. However, after introduction of Ind AS 116, the concept of
rent has been replaced by the concept of right to use asset. In the current
scenario, there will be no change to the accounting treatment of interest free
deposits, except for the nomenclature, the amount earlier classified as prepaid
rent will now be classified as ‘Right to use asset’.
Right to use asset = Present value of financial assets (interest free
deposits- Ind AS 109) + Present value of future lease payments (Ind AS 116)
Right to use asset
|Right to use assets (Ind AS 116)||Right to use asset under (fair value of deposits)|
After the commencement date, the lessee should measure the lease
- Increasing the carrying amount to reflect interest expense on
lease liability, and
- Reduce the carrying amount to reflect the lease payments made.
Right to use assets should be measured using cost method. Cost method
represents assets at cost less any accumulated depreciation and any
re-measurement of lease liability.
Impact on financial statement
New standard is expected to have a significant impact on EBITDA of the
entities, leading to increase in profit margins, as rent expense which were
earlier part of expenses considered to calculate EBITDA will now be considered
after calculation of EBITDA. This may impact the company’s performance
evaluation and incentives schemes. Also, the new standard will gross-up the
Example: Let us assume, the Company has taken 1 property on lease at
rent of Rs.200,000 per annum for 5 years and there is no interest free deposit.
Assuming incremental rate of borrowings is 10% p.a.
Accounting treatment under Ind AS 17 Leases, the accounting will be as
|Lease expenses for year 1 to 5||200,000||1,000,000|
Accounting treatment under Ind AS 116 Leases, the accounting will be as
|Lease per annum||200,000|
|Discounting rate (assumed)||10%|
|Lease period||5 years|
|Present value of lease on day 1||758,157|
|Depreciation per annum||151,631|
|Accounting treatment (refer annexure 1 for calculation)|
|Particulars||Depreciation||Finance cost||Total PL impact|
Analysis of impact under Ind AS and Indian GAAP
|Particulars||Ind AS 17||Ind AS 116||Difference|
Annexure 1 – Calculation for lease under Ind AS 116
|Year||Lease liability||Interest @ 10%||Total||Payment||Balance|
For the purpose of understanding the calculation, we have not
considered deposits, as there is no impact on accounting treatment of interest
free deposits, except for the change in the nomenclature.