EY helps clients create long-term value for all stakeholders. Enabled by data and technology, our services and solutions provide trust through assurance and help clients transform, grow and operate.
At EY, our purpose is building a better working world. The insights and services we provide help to create long-term value for clients, people and society, and to build trust in the capital markets.
This episode covers the currency used in the determination of the incremental borrowing rate under IFRS 16.
This set of five EY IFRS podcasts on the determination of discount rates by lessees, when applying the new leases standard of IFRS 16 Leases is presented by Victor Chan and Luci Wright from EY’s Global IFRS team.
When a lessee applies IFRS 16, it must determine the discount rate to apply to the lease payments. This episode covers the currency used in the determination of the incremental borrowing rate under IFRS 16.
Learning outcomes
Evaluation of the currency used in determining the incremental borrowing rate.
For your convenience, full text transcript of this podcast is also available.
Luci Wright
Welcome to the fourth episode of this series of EY podcasts on the determination of discount rates when applying the new leases standard of IFRS 16. I am Luci Wright, an Executive Director with EY Global IFRS Services in London. In this episode, we will discuss the currency used in the determination of the incremental borrowing rate under IFRS 16. Today I am joined by Victor Chan, a partner with EY Global IFRS Services and a member of EY Global Subject Matter Group on leases. Victor, welcome to our podcast.
Victor Chan
I am glad to be here.
Wright
Do lessees need to consider the currency to be used for determining the incremental borrowing rate?
Chan
Yes, they do. In many situations, a lessee will likely use its functional currency to measure the incremental borrowing rate. However, given that the definition of the incremental borrowing rate, as we discussed in Episode 1, requires the lessee to take into account the economic environment, lessees need to evaluate the currency used in determining the incremental borrowing rate based on the payments to be made under the contract instead of using its functional currency.
Wright
Let’s take an example. A European airline enters into a contract to lease aeroplanes from a lessor based in the United States. The European airline uses Euro as its functional currency. As stated in the contract, the airline is required to make lease payments to the lessor in US dollars. Which currency should the lessee use in determining the incremental borrowing rate?
Chan
As the lessee needs to make the lease payments in US dollars, the incremental borrowing rate is determined based on the US dollars.
Wright
This means that the lessee in this case will have a US dollar-denominated lease liability in the balance sheet prepared using Euro as the functional currency. Would the lessee then need to revalue the lease liability using the period end exchange rate?
Chan
Yes. A lease liability is a financial liability and thus it is subject to foreign exchange revaluation at every period end and the revaluation is included in profit and loss for the current period, similar to other financial liabilities such as accounts payable denominated in a foreign currency. I think it is important to add that the right-of-use asset is not a financial asset and thus it is not subject to foreign exchange revaluation in subsequent periods. This means that the lessee is subject to foreign exchange risk in the form of unrealised foreign exchange gains or losses on the balance sheet. There is no unrealised foreign exchange difference recorded for an operating lease under the current leases standard of IAS 17. This would be a change when IFRS 16 becomes effective.
Wright
Thanks again for sharing your insights with us, Victor. In the next episode, we will consider the discount rates used for transition purposes.
