Recognition Exemption for Short Term Leases

Facts of the case

PQR Limited entered into a lease agreement for an office building from ABC Limited for a period of one year. The contract has been renewed every year for a further period of one year at a time.
As per the past practice, it is likely that the contract will be renewed for another one year at the expiry of its current term. The lease agreement does not provide any purchase option in respect of the leased asset to the lessee.

Clarification required

Whether the recognition exemption for short term leases as per paragraph 5 of Ind AS 116, Leases, is available to PQR Limited?

Contention of Ind AS Technical Facilitation Group (ITFG)*

In determining the lease term (short-term/long-term), only the enforceable rights of the lessee to renew or extend the lease beyond the non-cancellable period are taken into consideration.
Where a lease agreement is entered into for a period of 12 months or less and does not grant a renewal or extension option only to the lessee, it qualifies as a short-term lease (provided it also does not grant a purchase option to the lessee). This is so even if there is a past practice of the lease being renewed upon expiry for a further one year at a time with the mutual consent of the lessee and the lessor.
Therefore, the lease agreement referred in the case qualifies as a ‘short-term lease’. Accordingly, PQR Limited can avail the exemption of not applying the lessee accounting model of the standard to the lease.

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