FRS 116 Leases – Recognition and Initial Measurement of Right-of-use Asset and Lease Liability by the Lessee

x Posted - FRS 116 Leases – Recognition and Initial Measurement of Right-of-use Asset and Lease Liability by the Lessee

According to FRS 116: Leases, a lessee should recognise a right-of-use asset as well as a lease liability when a lease commences. These two terms may sound new to you if you are unfamiliar with accounting (Also see An Overview of Accounting Assumptions). Thus, if you need help in dealing with them, do not hesitate to hire an accounting firm in Singapore.

The initial measurement of a right-of-use asset involves measuring the right-of-use asset at cost on the day the lease has commenced. The lessee should include the sum of initial measurement of the lease liability, and any payment for the lease the lessee has made before or at the commencement date. It should also include any initial direct costs that the lessee has incurred. The initial direct costs refer to the incremental costs of getting a lease which would not have incurred if the lessee has not obtained the lease. However, this does not include the costs that a dealer or manufacturer lessor has incurred regarding a finance lease.

The right of use asset should also include the amount of costs that the lessee predicts to incur to remove or dismantle the underlying asset, restore the place that the asset is located, or restore that asset to the condition specified in the terms and conditions of that lease. The only exception is that if the lessee incurs those costs when producing inventories. The obligation for these costs incurs due to the use of the underlying asset in a certain period or upon commencement of the lease.

When a lessee incurs an obligation for the costs, it needs to recognise the costs mentioned above as part of the right-of-use asset’s costs. It should apply FRS 2 to the costs that it has incurred in a certain period as a result of using the right-of-use asset in manufacturing inventories. One should apply FRS 37 when recognising and measuring the obligations of those costs that one should deal with by implementing FRS 2 and FRS 116.

On the other hand, the initial measurement of a lease liability involves a process of measuring the lease liability at the present value of lease payments that the lessee has not yet paid on that day. The lessee should use the interest rate implicit in the lease (Also see FRS 116 Leases – Recognising and Measuring Operating Leases) to discount the lease payment if it can readily identify the rate. The term “interest rate implicit in the lease” stands for the interest rate which makes the present value of the unguaranteed residual value and the lease payments to be the same as the amount of the underlying asset’s fair value as well as any initial indirect cost that the lessor has incurred.

If the rate is unable to be identified readily, it should use the lessee’s incremental borrowing rate instead. This is the interest rate which a lessee need to pay if it wants to borrow something throughout a similar timeframe and the funds it needs to get an asset that has a similar value of the right-of-use asset with similar security and economic environment.

On the date the lease commences, some lease payments are included in the measurement of the lease liability for the right of using the underlying asset within the lease term that the lessee has not paid yet. These payments include the fixed payment related to that lease, excluding lease incentives receivable, if there is any. Besides, the payments consist of the amounts that the lessee predicts that it needs to pay under the residual value guarantee, as well as variable lease payments which rely on certain rate or index.

If the lessee is pretty sure that it is going to exercise the purchase option, it should include the option’s exercise price into the payment. Also, if the lease term shows the lessee implements a termination option, the payments of penalties for the termination should make up part of the payment too.

Contact Us!

    Your Name (Required)

    Your Email (Required)


    Your Message