Adopting the New Leasing Standard? Have you considered the tax implications?
The new accounting standard AASB 16 Leases makes significant changes to how operating leases are accounted for, with most operating leases being brought virtually in line with finance leases, with all lessees required to show a lease liability and a corresponding right-of-use asset. There is however, a relief for small value items and leases with terms less than 12 months. These changes mostly effect lessees, with lessors not significantly impacted. This standard applies to periods commencing on or after 1 January 2019.
Entities applying AASB 16 will need determine how this new standard will impact each of their new and existing operating leases. More detailed information on the new standard and its implications on the financial statements can be found in our previous articles: AASB16 Leases: The New Standard and The new AASB16 Standards and Subleases - What you need to know .
The change in accounting for leases gives rise to tax implications as the basis for the preparation of tax computations is impacted by the change in the underlying accounting treatment.
The recognition of the lease asset (Right of Use) and lease liability do not generally have a tax cost base and therefore the recognition of these items on the balance sheet can give rise to new temporary tax differences. The unwinding of these assets and liabilities need to be tracked to ensure the correct tax treatment is arrived at.
In addition to the above, the recognition of additional assets and liabilities may impact taxpayers thin capitalisation positions where they utilise the safe harbour method. The recognition of new assets and liabilities will change the safe harbour threshold available to a taxpayer and therefore impact the level of debt that can be supported.
Tax consolidation groups must be aware of the additional lease liabilities on the balance sheet from the operating leases, as these are not included in the current law that covers finance leases. Unless there is a change in the law to expand the modifications that currently applies to finance leases, there may be distorted tax cost setting outcomes on entry to the tax group as well as potentially impacting the tax outcomes on exit.
As a result of the above, the finance team and tax teams of taxpayers will need to work closely together to ensure that the required information for the tax return are captured. An example of this will be the required split of the interest expense that relates to the lease liabilities and the other financing instruments and the tax base used to calculate the deferred tax. This will be particularly important for entities with a significant number of operating leases.
The new standard will not only effect the balance sheet by increasing assets and liabilities recognised, it will also effect the profit / loss. Operating leases will no longer account for the operating expense through the P/L but will instead recognise an interest expense and a depreciation expense. Accordingly, historically agreed transfer pricing positions based on profit ratios may be adversely impacted.
Where taxpayers are applying the new leasing standard, the flow on tax consequences must also be addressed. Should you have any questions in relation to the leasing standard or the associated tax consequences please contact your engagement partner on 02 9283 1666.Article by Tim Valtwies & David Prichard