Determination of the Lease Term according to NIF D-5

The term of a lease is a fundamental element for correct accounting under Financial Reporting Standards (FRS) D-5, since it affects the measurement of the related assets and liabilities.

1. Identification of the components of the contract

Before determining the term, the entity must correctly identify the components of the contract:

• Lease component: use of the underlying asset.
• Other components: services or obligations that do not constitute a lease.

If non-lease components cannot be easily separated because they are of limited significance, the lessee may account for them as if they were part of a single lease, except in the case of derivative financial instruments (IFRS C-10).

2. Lease term

He lease term includes:

1. The non-cancellable period of the contract.
2. Periods covered by options:
   • Extend the lease, if it exists reasonable certainty to exercise the option.
   • Terminate the lease, if any reasonable certainty of not to exercise the termination option.

3. Factors to determine the term

At the beginning of the lease, the entity must analyze all economic and contractual conditions, such as:

• Terms and payments for optional periods, compared to the market.
• Early termination penalties and residual value guarantees.
• Improvements to leased assets that encourage permanence.
• Costs for termination, relocation or replacement of the asset.
• Importance of the asset for the operation and availability of alternatives.

In general, The shorter the non-cancellable periods, the greater the likelihood that the lessee will exercise extension options to avoid additional costs.

4. History and economic use

He tenant history with similar assets is key to determining the term:

• If you frequently extend leases for a certain type of asset, it is assumed that there is reasonable certainty of extension.
• Very long-term leases or leases with no defined term can be considered similar to a purchase, using as a reference the economic life of the asset.

5. Reassessment of the deadline

The tenant must review the deadline if they occur significant events or changes, such as:

• Significant unforeseen improvements to the leased asset.
• Substantial customization or modification of the asset.
• Subleases longer than the original term.
• Strategic business decisions that depend on the use of the asset.

If the certainty of exercising or not exercising an option changes, the lease term must be modified to reflect the new situation.

6. Modification of the lease term

The deadline changes when:

1. A previously unincluded option is exercised or a previously considered option is not exercised.
2. An event occurs that contractually requires or prohibits the exercise of an option.

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Practical example

• Situation: A company leases a premises for 3 years with an option for 2 additional years.
• Initial evaluation: The company invests in expensive adaptations to the premises (significant economic benefit).
• Determination of the term: 5 years (3 initial + 2 optional with reasonable certainty of exercising).
• Post change: The company decides to close the branch before year 3, generating a re-evaluation of the term and accounting adjustment.

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Conclusion

The correct determination and review of the lease term It is essential to adequately reflect the rights and obligations of the tenant.
Take into account the economic, historical and contractual factors allows compliance with NIF and presentation of reliable financial information.