Following the consultation on taxation of leased plant or machinery (P&M) started on 9th August 2016, the Government has decided to maintain the current system of lease taxation by making legislative changes so that the rules ‘broadly’ continue to work as they do currently post 1st January 2019.
It had been considering a replacement with an accounts based variant but these options appear to have been shelved and it will be interesting to see what, if any, impact this will have on the ongoing review by the Office of Tax Simplification into the replacement of capital allowances more widely with an accounts based system.
Back in the 1970’s, tax based leasing arrangements were an integral part of big ticket plant items such as ships, planes and oil rigs. The accelerated tax benefits such as capital allowances afforded to the lessor were reflected in reduced rentals for lessees. This continued well into the 1990’s but by the 2000’s the government started to introduce additional anti-avoidance legislation, most notably the long funding lease rules in 2006, to tax P&M leases (both finance leases and certain operating leases) by their commercial substance.
Because the concept of operating versus finance lease will be lost for users of International Accounting Standards (IAS) with the requirement to adopt IFRS 16 for periods of account beginning or ending after 1 January 2019, changes are needed to the existing system to ensure it operates as the government intends.
The latest tax lease consultation is largely technical in nature but there are minor potential adjustments included (most notably for short leases) that those interested may wish to look at and respond accordingly.
Another change arising from IFRS 16 is the interaction with the new rules on corporate interest restrictions (CIR) and to reflect this the government published an additional CIR lease consultation at the same time as the above.
Lessees under IFRS 16 will record at the outset a right of use asset and a liability to pay rentals under the lease. Both are valued at commencement of the lease by reference to the present value of the payments under the lease. The right of use asset is depreciated, normally on a straight line basis over the term of the lease. In its profit and loss statement, the lessee will show interest expense on the liability separately from the depreciation charge in respect of the right of use.
It is the interest expense, for affected leases, and its inclusion in the CIR calculations that has driven the need for further consultation and the government is seeking views on the following options:-
Follow the accounting
Keep a distinction between operating leases and finance leases for CIR purposes
Introduce a distinction between funding leases and non-funding leases, to be defined in tax legislation for CIR purposes
The government is also seeking views on the proposed treatment for short-term leases and leases of low-value assets for intra-group leases.
It is worth noting that there are specific exclusions for short leases (<12mths) and low value assets (<$5,000), IFRS 16 treats all leases as on-balance sheet leases.
In addition, certain items are scoped out of IFRS 16. These items include biological assets, leases to explore for minerals or oil, and service concession arrangements within the scope of IFRIC 12 Service Concession Arrangements. Licences of intellectual property that fall within the scope of IFRS 15 Revenue Recognition are also scoped out, as are certain rights held by lessees under licencing agreements within the scope of IAS 38 Intangible Assets for items such as films, recordings, patents and copyrights. For other intangible assets, the lessee has a choice whether or not to apply IFRS 16.
The deadline for responses to both consultations is 28 February 2018. If you would like more details please do not hesitate to get in touch.