BLM51040 - IFRS 16 leases: IFRS 16 lessees: taxation of IFRS 16 lessees: long funding leases with variable rentals

A lease may have variable rentals.  This could arise, for example, where there is a change in future lease payments resulting from a change in an index or rate used to determine those payments.  Such a change will require the lessee using IFRS 16 to remeasure their lease liability.

See BLM17035 and BLM17040  for more information on leases with variable rentals and when remeasurement is appropriate. 

When a lessee, under IFRS16,has a long funding finance lease they are required to take account of any remeasurement of the lease liability when calculating the amount that can be deducted after taking account of the restriction under either section 377 CTA 2010 or section 148G ITTOIA 2005. 

The legislation applies to a right-of-use lessee where that lease is a long funding finance lease, and there is a change in the amounts payable under the lease which leads to a remeasurement of the lease liability, or the lessee accounts for a deduction in respect of the right-of-use lease other than as an interest expense or an amount of depreciation, or an impairment in respect of the right-of-use asset.

Where the legislation applies the deduction claimed by the lessee, after taking account of any limitation as a result of either section 377 CTA 2010 or section 148G ITTOIA 2005, is increased or decreased to take amount of the remeasurement or deduction. 

Example 1

A company lessee has adopted IFRS 16 and has a long funding finance lease. At the end of year 5, the lease terms require the lessee to pay a one off rental based upon the number of widgets produced by the leased plant and machinery, giving rise to an additional rental payment of £100,000. The lessee accounts for the payment as a debit in the profit and loss account, but not as an interest expense, in year 5.  New section 377A CTA 2010 provides that the deduction claimed by the lessee is whatever interest expense is recognised in respect of the lease liability, the limit of the deduction provided for by section 377, plus the £100,000. 

Example 2

A lessee has adopted IFRS 16 and has a long funding finance lease. At the end of year 5, the lease terms require the rentals to be adjusted based upon the movement of an index. This results in the lease liability and right-of-use asset being remeasured because the rental payments increase.  The lease liability is increased by £100,000 and the right-of-use asset is increased by £100,000.  The lease runs for another five years and the lessee depreciates the right-of-use asset on a straight line basis. New section 377A CTA 2010 provides that the deduction claimed by the lessee for each subsequent period of account after year 5 is whatever interest expense is recognised in respect of the lease liability, the limit of the deduction provided for by section 377 of CTA 2010, plus the £20,000 depreciation charge which relates to the remeasurement.