Manufacturer or Dealer Lessor Operating Lease Accounting. Do we depreciate our Inventory?


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Hi,

We're in the motor industry selling cars. We often have repurchase agreements with our dealers (not the end customers). These agreements state that we will buy back the cars we sold (forward option - obligation) to them after a fixed term (usually 3-12 mos) with the buy-back price lower than the original selling price.

IFRS 15 states that we should account for these type of sales under IFRS 16.

IFRS 16 states that when there is no transfer of significant risks and rewards, these should be accounted for as operating leases.

Operating Leases under IFRS 16 did not specifically scope out Inventory as object of the lease and it requires objects of leases to be depreciated using IAS 16 (PPE).

I was wondering if we should be depreciating our Inventory during the fixed term in this case. We would buy them back with the intention of selling them again (sometimes to the same dealer as a final sale). The sale to dealers with repurchase agreements (rental buyback) is mainly just a marketing/promotion strategy.
 
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kirby

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Depends on your agreement. If it says there was a bona fide sale then the 3 - 12 month payments you get are just term financing and not a lease.
 
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Hi Kirby,

Thanks for the reply. I don't think it's term financing though. Quoting IFRS 15:

"If an entity has an obligation or a right to repurchase the asset (a forward or a call option), a customer does not obtain control of the asset because the customer is limited in its ability to direct the use of, and obtain substantially all of the remaining benefits from, the asset even though the customer may have physical possession of the asset. Consequently, the entity shall account for the contract as either of the following: (a) a lease in accordance with IFRS 16 Leases if the entity can or must repurchase the asset for an amount that is less than the original selling price of the asset"

IFRS 16 says:

"A lessor shall recognise costs, including depreciation, incurred in earning the lease income as an expense."

"The depreciation policy for depreciable underlying assets subject to operating leases shall be consistent with the lessor’s normal depreciation policy for similar assets. A lessor shall calculate depreciation in accordance with NZ IAS 16 and NZ IAS 38. "

"A lessor shall present underlying assets subject to operating leases in its statement of financial position according to the nature of the underlying asset. "

So basically, my question is whether our inventory will be reclassified from current asset to a non-current asset subject to depreciation.
 

kirby

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If you go back to this post, you will see that the lessor's treatment of (US GAAP) a financing lease vs an operating lease is equivalent as to income earned IF the lessor under the operating lease does charge depreciation on the asset. Therefore, if you have an Operating lease (as you do) and you do NOT record depreciation then your income is overstated temporarily, until the repurchase. I am guessing that this is balanced out when your company records the repurchase at a lower amount and must then record a loss.

Before you consider making a change, be sure to consult your fixed asset accounting and tax folks as recording depreciation will give both of them a lot more work.
 
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kirby

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No problem. An IFRS Operating lease equates to a US GAAP Operating lease and an IFRS Finance lease equates to a US GAAP DFL.
Point of the example from my old post is that depreciation is needed for a lessor who has an operating lease or else the lessor's income is overstated.
 
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