Lessor: Components of a Lease

Lease contracts typically include various elements other than the leased asset. Common examples include service and maintenance of the asset, recoveries such as water, electricity, sewerage, rates and taxes and insurance (to name a few).

The lessee is paying for these elements as part of a single lease contract, however, IFRS 16 requires lessors to identify the various elements as follows:

  • ‘Components’ of the lease contract, being either:
    • Lease components, representing the lessee’s right to use one or more assets; or
    • Non-lease components, made up of additional goods or services that the lessor provides to the lessee; or
  • Elements of the contract that do not represent ‘components’.

So what?

While lessees are provided with a practical expedient to account for lease and non-lease components as a single lease component, lessors are required to identify and separate the lease and non-lease components and account for them accordingly.

Separating the lease and non-lease components ensures that the lessor is accounting for their income from the lease contract in accordance with the correct standard:

  • Lease income (from lease components) in accordance with IFRS 16 Leases; and
  • Other revenue (from non-lease components) in accordance with IFRS 15 Revenue from Contracts with Customers

What is a non-lease component?

A non-lease component is an additional good or service that the lessor provides to the lessee as part of a lease contract in addition to the use of the actual leased asset (or assets). Maintenance and cleaning services are common examples of separate non-lease components. Recoveries such as water, electricity, sewerage service and other utilities are also common examples.

Okay, so I have separated my lease and non-lease components, how do I account for them?

The lessor must allocate the total consideration received from the lessee to each lease and non-lease component identified in the contact on a relative stand-alone selling price basis. The stand-alone selling price is “the price at which an entity would sell a promised good or service separately to a customer”.

IFRS 16 refers to IFRS 15 for detailed guidance on how to determine the stand-alone selling prices and the allocation of the transaction price on this basis (refer below for practical examples).

What about rates and taxes or insurance? Are these also non-lease components?

Rates and taxes that are paid to third parties are owed by the lessor regardless of whether the building is leased; these are not considered to be a transfer additional goods or services to the lessee. Likewise, insurance is taken out by the owner of the asset (i.e. the lessor is protecting their investment and any proceeds on claims are paid out to the lessor) that is on-charged to the lessee is not considered to be an additional good/service.  These charges are neither non-lease components nor lease components, and any payments received by the lessor relating to these items are included as part of the total consideration to be allocated to the identified lease and non-lease components.

What do I do with variable consideration?

In practice it is common for lease contracts to include both fixed and variable payments. The variable consideration might be attributable to the entire lease contract or to a specific part of the lease contract and should be allocated accordingly.

If the separate lease and non-lease components have been priced at their relative stand-alone selling prices and the variable consideration reflects the stand-alone selling price of a specific component of the lease contract, the variable consideration should only be allocated to that specific component.

Where the variable consideration does not reflect the stand-alone selling price of a specific component of the lease contract then the variable consideration should be allocated to all separately identified lease and non-lease components.

Where the lease contract requires the lessee to reimburse the lessor for rates and taxes, these are often variable and not fixed amounts agreed upfront.  In cases where the separately identified components have been priced at their stand-alone selling prices and the stand-alone selling price of the lease component includes rates and taxes, the variable consideration from the rates and taxes would be entirely allocated to the lease component. If this is not the case, the variable consideration from rates and taxes will need to be allocated across all identified lease and non-lease components based on a stand-alone selling price.

What does this look like practically?

Scenario 1

A lease has a total consideration over the lease term of R120 and variable consideration for rates and taxes of 0.1% of the value of the property billed monthly. The lessor also provides cleaning services.

Step 1: determine the stand-alone selling price of each lease and non-lease component

Assume that the stand-alone selling prices of the various components are as follows:

  • Lease component (building): R100 plus rates and taxes
  • Non-lease component (cleaning service): R50

Step 2: allocate the consideration to the various lease and non-lease components based on the stand-alone selling prices

At inception: Allocation of the R120

Separate lease component

Stand-alone selling price

Allocation calculation

Consideration allocated

Building 

100

[100/150*120]

80

Separate non-lease component

     

Cleaning service

50

[50/150*120]

40

Total

150

 

120

The consideration allocated to the lease component, the use of the building, is accounted for in accordance with IFRS 16.

The consideration allocated to the non-lease component, the cleaning services, is accounted for in accordance with IFRS 15.

Month 1: Allocation of the 0.1% property tax

The stand-alone selling price of the lease component is considered to be the fixed R100 per month plus any rates and taxes therefore the variable consideration relating to the rates and taxes is allocated entirely to the lease component. This is accounted for in accordance with IFRS 16 as variable lease income (i.e. taken immediately to profit or loss as incurred).

Scenario 2

A lease includes R100 fixed payments that represent the stand-alone selling price of the building rental; water is billed based on usage. Additional turnover rental of 5% of the lessee’s revenue is calculated and payable each quarter.

Step 1: determine the stand-alone selling price of each lease and non-lease component

Assume that the stand-alone selling prices of the various components are as follows:

  • Lease component (building): R100
  • Non-lease component (water): Varies based on usage

Step 2: allocate the consideration to the various lease and non-lease components based on the stand-alone selling prices

The fixed rental relating to the building will be allocated entirely to the lease component and is accounted for in accordance with IFRS 16.

The variable payments relating to the water is based on usage, reflecting the stand-alone selling price of the water. The variable consideration would therefore be allocated entirely to the non-lease component and accounted for in accordance with IFRS 15.

The variable payments of 5% of the lessee’s revenue does not represent the stand-alone selling price of any of the identified components. Each quarter when this income is earned it will need to be allocated to the lease and non-lease components on a stand-alone selling price basis and accounted for in accordance with the applicable standard (IFRS 15 or IFRS 16).

12/05/2022