The new balance sheet accounting changes coming into effect won’t impact a large number of businesses who lease cars/vans, explains Vehicle Consulting, established contract hire specialists based in Stockport.
One of the primary advantages traditionally highlighted surrounding car and van leasing or ‘contract hire’ is the way in which the vehicles are kept ‘off balance sheet’ with the lessor taking responsibility for the assets’ risks and rewards, while the fixed monthly rentals are accounted for on profit and loss accounts on a straight-line basis over the lease term. Even the BVRLA has long promoted this beneficial aspect of contract hire that helps keep organisations’ debt-to-equity ratios low.
According to Sewells’ Fleet Market Report Barometer 2016, 81% of the fleets surveyed said the ability to keep operating-lease vehicles off of their balance sheets is important to them, with only 5% saying it had no influence on their vehicle acquisition activities.
New accountancy rules are set to change things
From Brexit and VED increases to Facebook algorithms and the supply of weather data to the BBC, change is in the air everywhere one looks, and thanks to a new lease accounting standard published in January 2016 by the International Accounting Standards Board (IASB), off-balance sheet contract hire will soon end to reflect ‘right of use’ models.
The motivation behind this change is to obtain a more complete picture of companies’ financial positions. Anyone really wanting to sink their teeth into the details might benefit from the comprehensive IFRS 16 guides published by EY and PWC.
What will the effects be?
Replacing IAS 17 with IFRS 16 means in basic terms that, at the latest, monthly rentals must have been transferred to balance sheets for financial years including January 1st 2019, with many organisations opting to implement the new rules sooner.
In accountancy speak, leased vehicles will need to be depreciated, the lease liability amortised and the interest accounted for. The organisations affected will see their gearing and capital ratios along with debt to equity relationships altered, while metrics including taxation, depreciation, amortisation and earnings before interest will also see change.
Industry reaction shows different stances
Speaking to FleetNews on the issue, Nexus’ David Brennan recognises the need for these important accountancy changes to be communicated to fleets who should as a result start to think seriously about how they procure vehicles as the January 2019 deadline looms.
The UK Finance & Leasing Association (FLA) continues to voice concerns to the UK Financial Reporting Council (FRC) and other European bodies over the potential for organisations becoming deterred from leasing vehicles due to perceived additional burdens.
The BVRLA believes, though, that vehicle leasing will continue to grow ever more popular as it doesn’t perceive that the traditional balance sheet advantages have attracted finance directors as strongly as contract hire’s other benefits such as liberating working capital and protecting companies from fluctuating vehicle values.
Alphabet is also confident that the majority of relevant organisations will continue to lease their vehicles through operating leases, including full-service offerings. This is because contract hire in their view still poses less of a risk than ownership even after the move over to balance sheets, with organisations avoiding getting bogged down in servicing, quarterly asset risk assessments and eventual remarketing or disposal.
More recent findings from Sewells identify that 74% of fleet decision-makers are unclear on the implications of IFRS 16. Helping clarify things for current and future Vehicle Consulting clients, we would first like to rebuff PWC’s statement that “virtually every company uses rentals or leasing as a means to obtain access to assets and will therefore be affected by the new standard.”
Good news for small-to-medium firms that will likely remain exempt
IFRS 16 rules are set to affect only companies listed on the stock exchange and those that report and publish under IASB and IFRS standards. The majority of UK SMEs report under Generally Accepted Principles (GAAP) and therefore aren’t likely to be impacted.
Furthermore, short-term rental customers aren’t set to be affected by the new balance sheet accountancy changes either, as leases with a duration of less than 12 months will continue to be kept off-balance sheet.
We would certainly encourage fleet managers, finance directors and other personnel involved in vehicle procurement to seek advice from their accountants as early as possible, but contract hire will remain the most cost-effective and low-risk mobility route for many organisations, with small-to-medium firms unlikely to be affected by the on-balance sheet move.
If you’re an existing Vehicle Consulting client or are keen to explore the pros and cons of operating lease contract hire for the first time, we would welcome your contact by telephone or email.