Explanation of Fair Value Assessment of Right-of-Use Assets

I will explain the fair value assessment of right-of-use assets, which is recognized based on IFRS 16. The fair value assessment of right-of-use assets is often a focal point in the post-measurement stage, particularly when considering impairment for investment properties. Understanding real estate valuation as well as international accounting standards is necessary for this calculation approach. In this article, I will explain the fair value assessment of right-of-use assets while referencing various criteria.

Fair Value Assessment of Right-of-Use Assets in relation to IAS 40 (Investment Property)

When a lessee applies the fair value model of IAS 40 (Investment Property) to investment properties, the lessee is required to apply the same fair value model to right-of-use assets that meet the definition of investment property under IAS 40 [IFRS 16, paragraph 34]. Specifically, this applies when the leased property is subleased to another party.

[IFRS16.34] If a lessee applies the fair value model in IAS 40 Investment Property to its investment property, the lessee shall also apply that fair value model to right-of-use assets that meet the definition of investment property in IAS 40.

According to IAS 40, paragraph 50(d), the fair value of a right-of-use asset is determined by adding the carrying amount of the lease liability to the fair value of the lease contract.

[IAS 40.50 (d)] The fair value of investment property held by a lessee as a right-of-use asset reflects expected cash flows (including variable lease payments that are expected to become payable). Accordingly, if a valuation obtained for a property is net of all payments expected to be made, it will be necessary to add back any recognized lease liability, to arrive at the carrying amount of the investment property using the fair value model.

Furthermore, based on IAS 40, paragraph 40, it is important to note that such assessment should reflect the assumptions (such as the lease term, discount rate, etc.) that market participants would consider in the current market when determining the income arising from the existing lease contract.

[IAS 40.40] When measuring the fair value of investment property in accordance with IFRS 13, an entity shall ensure that the fair value reflects, among other things, rental income from current leases and other assumptions that market participants would use when pricing investment property under current market conditions.

Fair Value Assessment of Right-of-Use Assets in Relation to IAS 40 (Investment Property) (Important Considerations)

In the fair value assessment of right-of-use assets, it is important to ensure that there is no double-counting of assets and liabilities, and specific examples are enumerated in IAS 40.50(a)(b)(c).

(a) Equipment such as elevators or air conditioning

For equipment that is integral to a building, such as elevators or air conditioning systems, they are often not separately recognized as individual accounts in the financial statements. Generally, the fair value assessment is conducted on the building as a whole. Therefore, if such equipment is separately recognized, that portion should be excluded from the fair value assessment of the right-of-use asset.

[IAS 40.50 (a)] Equipment such as lifts or air?conditioning is often an integral part of a building and is generally included in the fair value of the investment property, rather than recognised separately as property, plant and equipment.

(b) Lease Contracts Including Furniture and Similar Items

In the case of lease contracts that include furniture for offices or other spaces, it is presumed that the agreed-upon rent includes the lease payment for such furniture. Therefore, the furniture and similar items should be included in the fair value assessment of the right-of-use asset. However, similar to the previous point (a), if that portion is separately accounted for, it should be excluded from the fair value assessment of the right-of-use asset.

[IAS 40.50 (b)]?If an office is leased on a furnished basis, the fair value of the office generally includes the fair value of the furniture, because the rental income relates to the furnished office. When furniture is included in the fair value of investment property, an entity does not recognise that furniture as a separate asset.

(c) Prepaid or Accrued Lease Income in Operating Leases

If prepaid lease income or accrued lease income related to lease agreements is recognized in the financial statements, such income is recognized as a separate asset or liability from investment property. Therefore, it should be excluded from the fair value assessment of the right-of-use asset.

[IAS 40.50 (c)] The fair value of investment property excludes prepaid or accrued operating lease income, because the entity recognises it as a separate liability or asset.

Fair Value Assessment of Right-of-Use Assets in Considering Impairment

Right-of-use assets are subject to impairment accounting, and lessees are required to apply IAS 36 Impairment of Assets to determine whether the right-of-use asset is impaired and account for any identified impairment loss.

[IFRS 16.33] A lessee shall apply IAS 36 Impairment of Assets to determine whether the right-of-use asset is impaired and to account for any impairment loss identified.

In this process, in addition to estimating the recoverable amount, there are cases where the fair value assessment is considered, taking reference from the assessment process outlined in IAS 40 (Investment Property). Therefore, valuation professionals involved in impairment accounting need to have knowledge and experience related to impairment accounting, as well as an understanding of international accounting standards.

Similarly, in the fair value assessment of right-of-use assets that fall under the scope of IAS 40 (Investment Property), it is important to consider the practical insights related to the calculation steps for contract-related assets in Purchase Price Allocation (PPA) in the context of business combinations.

In summary, conducting fair value assessments for right-of-use assets, both in the context of impairment consideration and within the scope of IAS 40, requires expertise not only in valuation but also in impairment accounting practices and understanding of relevant international accounting standards.