Service Agreement Ifrs 16

Posted: December 17, 2020 in Uncategorized

Service contracts should not be capitalized from the balance sheet, but a taker may decide not to separate the service elements from the lease and to count the entire contract as a lease. It is expected that entities will choose this option only if the service components of the contracts are small or if they cannot simply distinguish the values. To combat this phenomenon, the IASB provided detailed guidelines, examples and definitions to provide a clear picture of what a leasing element is and what would be considered an element of service. This underscores a change in the categorization of leases, since the focal point of “What type of lease is this agreement?” moves to “Is it a lease or not?” This may be a new point of contention among investors and accountants, as contracts containing service contracts will not be included on the balance sheet, as there is the same potential misrepresentation as at present, as companies can structure agreements accordingly. This is one of the main reasons for the reform of leasing accounting, since the absence of operational leasing elements on balance sheets did not reflect the real economic reality, as companies could have excessive debts worth thousands of assets that were simply not counted as liabilities. Although unlikely, it is possible that this new categorization will lead to similar economic inconsistencies between relationships and reality. The distinction is very important because some contracts currently considered leases are now recognized as service contracts under IFRS 16 and vice versa. Contracts considered leases are activated on the balance sheet, with the amortization of ROU assets being recorded separately and the lease debt being recorded separately. This requires companies to audit all their contracts for goods and equipment to determine if they contain a leasing element in accordance with the new accounting rules. On the other hand, if the customer had the right to use only a capacity of five fibres in a 15 strand cable and not five specific strands, the contract would not include an identified asset or a lease agreement, since the capacity represented by five fibres does not essentially represent the entire capacity of the 15-legged cable. In this case, the provider would only provide data capabilities (i.e.

a service). Boards have provided guidance and relief to tenants, which means they do not need to check current active leases to determine if they contain a leasing or service element. From the effective date, companies must have a clear idea of how their agreements are classified and accounted for.

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