Last week, I was sitting across the table from the head of financial reporting and group financial controller at a large listed business. Having had a few months of going back and forth on their IFRS 16 conversion, we had moved beyond the celebrations of having a fully functioning model signed off by their auditor. We had now commenced the adventure of finding the lost lease balances of IFRS 16…

The lost lease balances live in the general ledger and start to make themselves known to finance teams when they start to work through month end processes. Questions such as ‘what do I do with the rent accrual on my balance sheet?’ are a good sign that you have begun the journey of unearthing them.

To help you on your way, we’ve included a map below, signposting a few of the balances that you should consider. 

What are some of these lost lease balances?

Although IFRS 16 spotlights the right-of-use asset and the lease liability, all transactions and balances that relate to leasing activity need to be factored into an entity’s transition to IFRS 16. These include:

  •  Lease incentives (including rent-free periods) 
  •  Pre-paid or accrued rent
  •  Security deposits, and
  •  Rent receivable from sub-lessees.

How are these lost lease balances treated under IFRS 16?

Lease incentives

The treatment of lease incentives under IAS 17 Leases was governed by SIC 15 Operating leases – Incentives. Under this interpretation, the aggregate benefit of the incentives was recognised on the balance sheet and released to the income statement as a reduction of the rental expense over the lease term on a straight-line basis [SIC 15 para 5].

IFRS 16 on the other hand, restricts lease incentives to include only payments made by a lessor to a lessee associated with a lease, or the reimbursement or assumption by a lessor of costs of a lessee (i.e. excludes rent-free periods). During the transition period, companies should assess these incentives based on whether they have or will be received before or after transition to IFRS 16.

  Prior to transition Post-transition
Lease incentives

The treatment prior to transition of IFRS 16 will largely depend on the choice of transition approach. 

Most of the companies we’ve worked with have chosen to apply IFRS 16 paragraph C8b(ii): the right-of-use asset at the transition date will be measured at an amount equal to the lease liability, adjusted by the amount of any prepaid or accrued lease payments relating to that lease recognised in the statement of financial position immediately before the date of application. 

In this case, the right-of-use asset should  be adjusted for any rent-free periods or lease incentives at the date of initial application. 

The reason behind this is that when a lessor offers a rent-free period to a lessee, they will most likely inflate the remaining lease payments to compensate for any lost rent. The lease liability on transition will then include these inflated lease payments, which will cause the right-of-use asset to be measured at an amount higher than it’s actual value. A downward adjustment to the asset ensures it appropriately reflects the benefits expected to be received from its use.


The treatment of the lease incentives depends on whether they have been received or are receivable.

The cost of the right-of-use asset should comprise (amongst others), any lease payments made at or before the commencement date, less any lease incentives received [IFRS 16 para 24].

The initial measurement of the lease liability should include (amongst others) fixed payments, less any lease incentives receivable [IFRS 16 para 27].


Rent free periods We have seen companies apply IFRS 16 paragraph C8b(i) to some of their leases. In this case, the impact of any rent-free period and lease incentive accrual will already be incorporated into the value of the right-of-use asset.  Any accrual for these balances on transition should be then be derecognised with the contra entry being against the transition adjustment reserve in equity. Any rent-free periods after the transition date will have no impact on the measurement of the right-of-use asset balance and instead be incorporated as part of the lease liability (as part of the discounted cash flow model).


Pre-paid rent

Unlike lease incentives, prepaid and accrued rent balances form part of the transition guidance (assuming the simplified modified retrospective approach is adopted): the right-of-use asset should be measured at an amount equal to the lease liability, adjusted by the amount of any prepaid or accrued lease payments relating to that lease recognised in the statement of financial position immediately before the date of initial application [IFRS 16 para C8b(ii)]. 

This means that any rent prepayment or accrual on the balance sheet on the date of the initial application of IFRS 16, will need to be derecognised, with the contra entry against the right-of-use asset.

Security deposits

Some lease arrangements require lessees to make a security deposit when entering the lease. In these cases, it is important for management to ascertain whether the deposit is a payment relating to the right to use the underlying asset (and would then be considered a lease payment) or is for another purpose.

Security deposits that are refundable at the end of the lease, less any damage incurred on the property, would most likely not be considered lease payments. They would continue to be recognised on the balance sheet, having no impact on the right-of-use asset and lease liability.

Rent receivable from sub-lessees

For those companies subleasing to other entities, the question has arisen as to whether the amount receivable can be set-off against the amount payable (i.e. as part of the lease liability) under the head lease. The basis of conclusions paragraph BC235 of IFRS 16 makes it clear that this is generally not permitted: in applying the requirements for offsetting in IAS 1 Presentation of financial statements, an intermediate lessor should not offset assets and liabilities arising from a head lease and a sublease of the same underlying asset, unless the financial instruments requirements for offsetting are met.

Don’t forget to watch out for the tax trap!

Using the signposts above should help you on your journey to find the lost balances of IFRS 16. It takes a bit of work, but you will quickly end up with several further adjustments that are likely to affect reserves. 

We had only just sat back to bask in the glory of finding the lost balances when there was a knock at the door…it was the head of tax.

Have you thought about the deferred tax on the lost balances? The tax trap had been sprung!