How Lease Modifications and Remeasurements Are Accounted for under IFRS 16 and ASC 842

Graziano Stefanelli
11 hours ago
6 min read

Lease modifications change the scope or consideration of an existing lease—adding or removing the right to use underlying assets, extending or shortening the term, or changing payments. Under IFRS 16 and US GAAP (ASC 842), lessees and lessors must determine whether a modification is a separate lease; if not, the existing lease is remeasured using the modification date assumptions and discount rate. The mechanics affect the lease liability, the right-of-use (ROU) asset, and current-period profit or loss.

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How lease modifications arise.

Modifications arise from events such as renegotiations, space expansions or reductions, early terminations, index or rate resets (beyond originally contemplated indices), and lease concessions formalized by contract amendments. The key accounting questions are:

Is the modification a separate lease?
If not separate, how do we remeasure the lease liability and ROU asset?
Does the scope decrease, increase, or only payments change?

Lessees and lessors apply mirror analyses but arrive at different journal patterns because one recognizes an ROU asset/liability, while the other recognizes lease receivables or operating lease income.

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Lessee accounting under IFRS 16.

Separate lease test (IFRS 16.44–46). A modification is a separate lease if both:

The scope increases by adding the right to use one or more underlying assets; and
The consideration increases by an amount commensurate with the stand-alone price for the increase (adjusted for contract facts).

If separate, the lessee accounts for the added component as a new lease from the modification date; the original lease remains unchanged.

If not separate, the lessee remeasures the existing lease liability using a revised discount rate at the modification date, and adjusts the ROU asset accordingly:

Decrease in scope (e.g., fewer floors): decrease the carrying amount of the ROU asset proportionately, then recognize a gain or loss for the difference between the reduction in the lease liability and the proportionate reduction in the ROU asset.
Change in consideration only / increase in scope not separate: remeasure the lease liability with the new cash flows at the new discount rate; adjust the ROU asset on a carryforward basis (no immediate P&L unless the adjustment drives impairment).
Term extension: remeasure at a new incremental borrowing rate (IBR) and adjust the ROU asset.

Worked example — decrease in scope (IFRS).A lessee rents 2 floors. Carrying amounts on modification date: Lease liability 1,200,000, ROU asset 1,000,000. The lessee gives up one floor (50% of scope). Revised future payments reduce the liability to 700,000 when discounted at the new IBR.

Proportionate ROU reduction: 50% × 1,000,000 = 500,000.
Decrease lease liability: 1,200,000 − 700,000 = 500,000.
Because reductions match, no gain/loss arises. If they differed, recognize the difference in P&L.

Journal entry (IFRS — scope decrease):

Debit: Lease Liability 500,000
Credit: Right-of-Use Asset 500,000

Worked example — payment increase (not separate).Revised NPV of lease payments at new IBR increases the lease liability by 90,000.

Debit: Right-of-Use Asset 90,000
Credit: Lease Liability 90,000

Subsequent amortization and interest follow the updated schedules.

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Lessee accounting under ASC 842.

Separate contract test (ASC 842-10-25-8). A modification is a separate contract if both:

The scope increases by adding the right to use one or more underlying assets that were not part of the original lease; and
The lease payments increase by an amount commensurate with the stand-alone price for the additional right of use (plus/minus adjustments).

If separate, account as a new lease; the original lease is unchanged.

If not separate, the lessee must:

Reassess classification (operating vs finance) only if the modification would have resulted in a different classification at commencement.
Remeasure the lease using the discount rate at the modification date (new IBR for most lessees) and adjust the ROU asset.
Decreases in scope reduce the ROU asset and lease liability; any difference goes to P&L immediately (gain or loss).
Payment changes without scope changes trigger liability remeasurement with a corresponding adjustment to the ROU asset.

Journal entry (ASC 842 — scope decrease, difference to P&L):Suppose ROU reduction (proportionate) is 420,000 and liability reduction from remeasurement is 400,000. The 20,000 difference is a loss.

Debit: Lease Liability 400,000
Debit: Loss on Lease Modification 20,000
Credit: Right-of-Use Asset 420,000

Journal entry (ASC 842 — payment increase, not separate):

Debit: Right-of-Use Asset 75,000
Credit: Lease Liability 75,000

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Lessor accounting under IFRS 16.

Operating leases (lessor). Treat most modifications as a new lease from the effective date, with updated lease income recognized prospectively. Past amounts are not adjusted.

Finance leases (lessor). If a finance lease is modified not accounted for as a separate lease, the lessor applies IFRS 9 to the net investment in the lease (i.e., modify the receivable). If the modification is substantial, derecognize the original receivable and recognize a new one, capturing a modification gain or loss in P&L.

Separate lease for lessor (IFRS). If scope increases at stand-alone price, account as a separate lease.

Journal entry (IFRS — finance lessor, modification gain):

Debit: Lease Receivable (new) xxx
Credit: Lease Receivable (old) xxx
Credit: Modification Gain xxx

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Lessor accounting under ASC 842.

Operating leases (lessor). Account for most modifications as a new lease; recognize lease income prospectively based on the revised terms.

Sales-type and direct financing leases. Reassess and remeasure the net investment in the lease. If the modification would have resulted in a different classification at commencement, reclassify prospectively if permitted by guidance; otherwise, adjust the receivable and recognize a modification gain/loss.

Separate contract criteria (lessor, GAAP). Similar to the lessee’s separate contract test: added rights + commensurate price → separate lease.

Journal entry (ASC 842 — sales-type, modification loss):

Debit: Loss on Lease Modification xx
Debit: Net Investment in Lease (adjustment) xx
Credit: Net Investment in Lease (old) xx

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Comparative table: IFRS 16 vs ASC 842.

Aspect	IFRS 16 (Lessee/Lessor)	ASC 842 (Lessee/Lessor)
Separate lease / separate contract	Scope increases + commensurate consideration → separate lease.	Same conditions for separate contract.
Discount rate at modification	New discount rate at modification date for non-separate modifications.	New discount rate (typically new IBR) at modification date.
Decrease in scope (lessee)	Proportionately reduce ROU and liability; difference → P&L.	Reduce ROU and liability; difference → P&L.
Change in consideration only	Remeasure liability; adjust ROU carryforward.	Remeasure liability; adjust ROU carryforward.
Lessor operating lease	Usually new lease prospectively.	Usually new lease prospectively.
Lessor finance/sales-type	Modify lease receivable (IFRS 9); recognize gain/loss.	Modify net investment in lease; potential gain/loss; reclassification considerations per ASC 842.
Reassessment of classification (lessee)	Not required unless modification changes terms to create a separate lease scenario requiring reassessment of elements.	Required if, at commencement, new terms would have led to different classification.

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Presentation and disclosures.

Lessee presentation. The lease liability remains within borrowings/lease liabilities (current/non-current split). The ROU asset sits within non-current assets (by asset class). Modifications drive changes in carrying amounts and create discrete P&L effects on scope decreases.

Disclosure focus (both frameworks):

Nature of modifications (scope, term, payments).
Weighted-average discount rates post-modification.
Gains/losses recognized on scope reductions.
Maturity analysis of revised lease payments.
For lessors: changes in net investment in lease, reassessments, and classification impacts.

Illustrative balance sheet excerpt (lessee):

Assets	Amount (USD)
Right-of-Use Assets – Property	2,380,000
Property, Plant and Equipment	7,900,000
Other Non-Current Assets	620,000

Liabilities	Amount (USD)
Current Lease Liabilities	520,000
Non-Current Lease Liabilities	1,980,000
Borrowings and Other Liabilities	3,100,000

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Journal entries for common scenarios.

1) Separate lease (lessee).Additional floor at commensurate price: account as new lease.

Debit: Right-of-Use Asset (new lease) xxx
Credit: Lease Liability (new lease) xxx

2) Non-separate increase in consideration.

Debit: ROU Asset xxx
Credit: Lease Liability xxx

3) Decrease in scope with gain.Liability reduction exceeds proportionate ROU reduction by 12,000.

Debit: Lease Liability xx
Credit: Right-of-Use Asset xx
Credit: Gain on Lease Modification 12,000

4) Term extension (revised IBR).

Debit: Right-of-Use Asset xx
Credit: Lease Liability xx

5) Lessor – operating lease modification (new lease).Prospective income recognition using updated consideration; no catch-up entry required.

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Impact on financial performance and ratios.

Modifications alter EBITDA patterns (through revised straight-line amortization of the ROU asset for operating leases under GAAP and depreciation under IFRS), interest expense (new EIR on the lease liability), and leverage ratios (through changed liabilities). Scope decreases can yield gains or losses at the modification date, affecting operating metrics. Analysts reconcile non-cash remeasurement effects to assess underlying occupancy costs and contractual flexibility.

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Operational considerations.

Contract teams should align legal amendments with accounting triggers: explicitly state added/removed areas, term changes, payment schedules, and commensurate pricing. Finance must capture the modification date, recalculate the discount rate, and update lease subledgers. Internal controls should ensure classification reassessment (where required), timely impairment testing of ROU assets if terms worsen, and clear disclosure of modification impacts.

Accurate modification accounting gives stakeholders a faithful view of real-estate and equipment commitments as they evolve during the lease life.

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DATA STUDIOS

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