Depreciation of ROU related to land
Question
We entered into a contract to lease a plot of land. We will be using the land for 20 years and then we will vacate it and return it to its legal owner.
We are aware that under IFRS 16, we need to account for the right of use asset. How shall we treat its depreciation since the land has an infinite useful life and is not depreciated at all?
Answer
Here, you do not have the land, just the right to use it – that’s the different asset. Thus yes, you do depreciate it.
Over which period?
It depends.
If you will return the land to its legal owner after 20 years, then you have the right to use the land for 20 years. Thus the depreciation period is 20 years.
So, if the ownership is not transferred, then depreciation of ROU is over shorter of the useful life and the lease term (that is – lease term in this case since useful life is infinite).
However if the rental contract transfers the ownership to the land to the lessee at the end of the lease term (not this case though), then you should not depreciate the right-of-use asset related to the land. At the end of the lease term, you would transfer it from ROU to the land (or reclassify it).
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Hi Sylvia,
Hope you can help with this. Assuming that the leased asset is a building, has an EUL of 30 years (shorter than the 20-year lease term), and that the ownership will be transferred at the end of the term. Upon transfer of ownership, how will I recognize the building? Does the difference in EUL impact the fair presentation with regard to the economic benefit from the said fixed asset? Thanks in advance. 🙂
Hi Silvia,
I got confused for the treatment of land lease under IFRS16. The case is that, the company entered the land lease contract of 20 years, and at the end of the lease, the lessee has the right to return the land to it legal owner or extend the contract to another specific duration. The rental is one off payment made at the commencement date for the whole lease term. Then if we record the right-of-use of the land, how to record the lease liability because all the whole rental already paid for the whole lease term?
https://www.cpdbox.com/question/ifrs-leases-prepaid-for-years-in-advance/
Dear Silvia
One of my friends (Finance manager) got confused after reading your answer here. he told me that “IFRS 16 states that:
The right-of-use asset shall not include land or property interests in land. The lessee shall account for land and property interests in land that are not within the scope of this Standard in accordance with other IFRSs.
I’ve answered him, but I need to send your answer to him for better understanding. (thanks)
Dear Hamdy,
I am not sure what your friend is referring to. As to my knowledge, IFRS 16 does not state anything related to exclusion of the lease of land from its scope. Maybe if you ask him for the specific reference, I will be able to help. Thank you!
Hi Sylvie,
Thank you for information.
I understand that the asset has to be depreciated if the lessee will return the land to the lessor.
But what about the lease (and the depreciation) if the company has a purchase option at the end of a the lease ? (with the 2 scenarios : the company is not certain to exercise the option and the compnay is certain to exercise the option)
Do we have to depreciate the RoU and the purchase option ?
Thanks for your answer.
That is where the management needs to say its best intentions and estimates at the end of the reporting period.
lessor giving land at operating lease for earning rental income
from lessor point of view shouldn’t land be classified under IAS 40?
and logically thinking of the matching concept, shouldn’t rental income generated by land must be matched with expenses used to generate that rental income?
yes, I am talking about land depreciation in this case.
This question is from the lessee’s viewpoint, not the lessor’s. The person asking was actually taking the land under the lease, not providing it for rental, and they incurred expenses, not rental income.
From the lessor’s point of view you are partially right (unless the land’s ownership title passes to the lessee at the end of the lease term). IAS 40 should be applied, that’s true. However, land is not depreciated since it has infinite useful life (with exceptions). So no, no depreciation of land in lessor’s books.