It is surprising that the lease of the land is considered to be a finance lease under IAS17 ‘Leases’. Land is considered to have an indefinite life and should, therefore normally be classified as an operating lease unless ownership passes to the lessee during the lease term. The lease of the land should be separated out from the lease and treated individually. The value of the land so determined would be taken off the balance sheet in terms of the liability and asset and the lease payments treated as rentals in the income statement. A prior period adjustment should also be made. The buildings would continue to be treated as property, plant and equipment (PPE) and the carrying amount not adjusted. However, the remaining useful life of the building should be revised to reflect the shorter lease term. This will result in the carrying amount being depreciated over the shorter period. This change to the depreciation policy is applied prospectively not retrospectively.
The lease liability must be assessed for derecognition under IAS39 ‘Financial Instruments: Recognition and Measurement’, because of the revision of the lease terms, in order to determine whether the new terms are substantially different from the old. The purpose of this is to determine whether the change in terms is a modification or an extinguishment. The change seems to constitute a ‘modification’ because there is little change to the terms. The lease liability is, therefore, amended by deducting the one off payment ($10 million) from the carrying amount (after adjustment for the lease of land) together with any transaction costs. The lease liability is then remeasured to the present value of the revised future cash flows, discounted using the original effective interest rate. Any adjustment made in remeasuring the lease liability will be taken to the income statement.
