IFRS 16 is an international accounting standard that requires lessees to recognise almost all leases on the balance sheet as a right-of-use (ROU) asset and a corresponding lease liability. Issued by the International Accounting Standards Board (IASB) in January 2016 and effective for annual reporting periods beginning on or after 1 January 2019, it replaced IAS 17 and ended the era of "off-balance sheet" operating leases.
If your organisation leases offices, vehicles, equipment, or land, those commitments now appear on your balance sheet. This guide explains what the standard requires, what the key concepts mean, and what ongoing compliance actually involves, written for Finance Managers and Financial Controllers who know accounting but are new to IFRS 16.
Updated April 2026.
Before IFRS 16, the accounting treatment of leases depended on their classification. Finance leases appeared on the balance sheet. Operating leases did not: they were disclosed only in the notes to financial statements as future commitments. For large lessees with hundreds of properties or thousands of vehicles, this meant enormous obligations sat entirely off-balance sheet.
The IASB estimated that approximately USD 3.3 trillion in lease obligations were invisible on company balance sheets globally before IFRS 16. Investors and analysts routinely had to make manual adjustments to compare the financial position of companies that owned assets against those that leased them. The standard was designed to fix that comparability problem once and for all.
The core principle is simple: if you control the right to use an asset for a period of time, that right has economic value and belongs on your balance sheet. IFRS 16 extended that logic to virtually all leases, with limited exemptions for short-term and low-value assets (covered below).
For Australian organisations, the relevant standard is AASB 16, issued by the Australian Accounting Standards Board. AASB 16 is substantively identical to IFRS 16 for lessees: the recognition requirements, measurement models, and disclosure rules are the same. The effective date in Australia was also 1 January 2019 for most entities.
New Zealand uses NZ IFRS 16, which follows the same framework. In the United Kingdom, the comparable standard is FRS 102 (updated), which brings lease accounting closer to the IFRS 16 model for UK GAAP reporters, with phased adoption underway. The US equivalent is FASB ASC 842, which takes a different approach: it retains the finance/operating lease distinction for income statement presentation, though both lease types now appear on the balance sheet.
In practice, if your organisation reports under IFRS or Australian equivalents (AASB), IFRS 16 and AASB 16 are interchangeable for compliance purposes. Throughout this guide, references to IFRS 16 apply equally to AASB 16.
IFRS 16 introduces specific terminology that underpins every calculation. These six concepts come up constantly in practice.
1. Right-of-use (ROU) asset. The ROU asset represents the lessee's right to use the leased asset over the lease term. It is recognised on the balance sheet at commencement and measured at the present value of future lease payments, plus initial direct costs, prepaid amounts, and estimated make-good costs, less any lease incentives received. The ROU asset is then depreciated on a straight-line basis over the lease term (or the useful life of the underlying asset, if shorter). For a detailed breakdown of how the ROU asset is calculated and what goes wrong in practice, see the plain-English ROU asset guide.
2. Lease liability. The lease liability is the lessee's obligation to make future lease payments, measured at the present value of those payments. It unwinds using the effective interest method: each period, interest accrues on the outstanding balance, and the lease payments reduce both the accrued interest and the principal. The liability is split between current (due within 12 months) and non-current on the balance sheet.
3. Interest rate implicit in the lease (IIR). The IIR is the discount rate that causes the present value of the lease payments and the unguaranteed residual value to equal the fair value of the underlying asset plus the lessor's initial direct costs. In plain terms, it is the effective interest rate built into the lease from the lessor's perspective. IFRS 16 requires lessees to use the IIR to discount lease payments if that rate can be readily determined. In practice, lessors rarely disclose it, so the IIR is not available for most leases, particularly property and equipment leases. When the IIR cannot be readily determined, IFRS 16 requires the lessee to use the incremental borrowing rate instead.
4. Incremental borrowing rate (IBR). The IBR is the rate a lessee would pay to borrow the funds necessary to obtain an asset of similar value in a similar economic environment over a similar term. It is the fallback discount rate used when the IIR is not readily determinable, which is the case for the vast majority of leases. Getting the IBR right matters significantly: a rate that is even slightly too high or too low changes the present value of the lease liability and, in turn, every period's interest charge and depreciation calculation. The IBR should reflect conditions at the commencement date of each lease (or modification date for remeasurements), not a single rate applied across all leases.
5. Present value of future minimum lease payments (PVFMLP). This is the discounted value of all future lease payments the lessee is obliged to make over the lease term, calculated using either the IIR or the IBR. It forms the opening balance of the lease liability and, combined with initial direct costs and other adjustments, the opening ROU asset. For step-by-step calculation guidance, the IFRS 16 calculations guide walks through the mechanics in detail.
6. Short-term and low-value asset exemptions. IFRS 16 includes two practical exemptions that allow certain leases to remain off-balance sheet and be expensed on a straight-line basis.
While these exemptions exist, they require care. Applying them incorrectly, or choosing to apply them without considering the full implications, can create compliance gaps. The decision to use exemptions should be deliberate, not a default.
IFRS 16 reshapes all three primary financial statements. Understanding each effect helps finance teams communicate the changes to boards, lenders, and auditors.
Balance sheet. The most visible change. Every in-scope lease now adds a ROU asset to total assets and a lease liability to total liabilities. Both increase, which means leverage ratios (debt-to-equity, net debt) increase. The asset base grows. This was the fundamental purpose of the standard: to make lease obligations visible to anyone reading the accounts.
Income statement. Under IAS 17, operating lease payments were a single line item in operating expenses. Under IFRS 16, that single line disappears and is replaced by two separate charges: depreciation on the ROU asset (recognised above the EBITDA line) and interest on the lease liability (recognised below the EBITDA line as a finance cost). The total expense over the life of the lease is similar, but the timing changes: more expense falls in the early years of a lease because interest is higher when the liability balance is larger. EBITDA increases because what was an operating expense is now depreciation plus interest, both of which are excluded from EBITDA.
Cash flow statement. The total cash outflow does not change, but how it is classified does. Under IAS 17, operating lease payments were operating cash outflows. Under IFRS 16, the principal repayment portion is classified as a financing cash outflow, and the interest portion is classified as either an operating or financing outflow depending on the entity's accounting policy. This improves reported operating cash flow, which now excludes lease principal repayments.
These changes affect key financial covenants, analyst metrics, and credit assessments. Organisations with significant lease portfolios, particularly in retail, transport, and resources, typically saw meaningful balance sheet expansion on transition to IFRS 16.
One of the most common misconceptions about IFRS 16 is that it was a "transition project" completed in 2019. In reality, ongoing compliance is a continuous process, and for organisations with large or complex portfolios, the monthly workload is substantial.
Lease modifications are the most frequent source of ongoing work. A modification is any change to the scope or consideration of a lease that was not part of the original terms: extending a lease, adding or removing space, renegotiating the rent. Each modification triggers a remeasurement of the lease liability at the modification date using a revised IBR, with the adjustment flowing through to the ROU asset. For large portfolios, dozens of modifications can occur each month.
CPI and index adjustments require reassessment whenever lease payments are linked to an inflation index or market rate. When the index is updated, the lease liability must be remeasured and the ROU asset adjusted accordingly.
Reassessments of the lease term are required when a significant event or change in circumstances occurs that affects the lessee's reasonable certainty about exercising or not exercising an extension or termination option. This involves judgement and requires documented rationale.
New leases require fresh commencement calculations, including a current IIR or IBR and a complete initial measurement of both the ROU asset and the lease liability.
Audit trail requirements mean that every modification, reassessment, and adjustment must be documented with a complete record of what changed, when, and why. Auditors specifically request evidence for each event that triggers a remeasurement. For what auditors actually look for, the IFRS 16 audit preparation checklist covers the most common deficiencies in detail.
These errors appear regularly in practice, including in auditor findings. Knowing them in advance is far less costly than correcting them after the fact.
Many organisations started their IFRS 16 compliance journey on spreadsheets, and some still manage it that way today. Spreadsheets can work for very small, stable portfolios, but they create compounding risk as portfolio size and modification frequency increase.
The core problem is not the initial calculation. Spreadsheets can handle the commencement-date maths. The problem is ongoing maintenance: tracking every modification, ensuring the correct IBR is applied at each remeasurement date, managing CPI adjustments across dozens or hundreds of leases simultaneously, and maintaining an audit trail that satisfies auditors. Each of these tasks requires version control, formula integrity, and manual discipline that spreadsheets do not enforce.
Purpose-built lease accounting software automates the remeasurement workflow, stores a complete modification history, and generates audit-ready reports directly. For organisations managing more than 30 leases, or portfolios with frequent modifications, the risk reduction and time saving typically justify the switch. The LOIS lease accounting platform is built specifically for this: combining automated IFRS 16 calculations with the expertise of CA-qualified lease accountants to support compliance at every stage.
What is the difference between IFRS 16 and AASB 16?
AASB 16 is Australia's adoption of IFRS 16, issued by the Australian Accounting Standards Board. For lessees, the two standards are substantively identical: the recognition, measurement, and disclosure requirements are the same. The effective date in both cases was 1 January 2019 for most entities. In practice, IFRS 16 and AASB 16 are interchangeable for compliance purposes in Australia.
Which leases are exempt from IFRS 16?
IFRS 16 provides two practical exemptions. The short-term exemption covers leases with a term of 12 months or less at commencement (leases with a purchase option cannot use this exemption). The low-value asset exemption covers individual assets worth approximately USD 5,000 or less when new, based on the IASB's basis for conclusions. Examples include small IT equipment such as laptops, tablets, and mobile phones, and some office furniture. Cars and most photocopiers are specifically outside the scope of this exemption. Both types can be expensed on a straight-line basis rather than recognised on the balance sheet.
What is the difference between the IIR and the IBR under IFRS 16?
IFRS 16 requires lessees to discount lease payments using the interest rate implicit in the lease (IIR) if it can be readily determined. The IIR is the effective interest rate built into the lease from the lessor's perspective. In practice, lessors rarely disclose it, so the IIR is not available for most leases. When the IIR cannot be readily determined, the lessee must use the incremental borrowing rate (IBR): the rate it would pay to borrow funds to acquire a similar asset over a similar term. The IBR is the discount rate used for the vast majority of real-world IFRS 16 calculations.
What is an incremental borrowing rate (IBR) under IFRS 16?
The IBR is the rate a lessee would pay to borrow funds to acquire an asset of similar value over a similar term in a similar economic environment. It is used to discount future lease payments when the IIR cannot be readily determined, which applies to the vast majority of leases. The IBR should reflect market conditions at the commencement date of each lease and must be updated when modifications or reassessments occur.
How does IFRS 16 affect EBITDA?
IFRS 16 typically increases EBITDA. Under IAS 17, operating lease payments were an operating expense included in EBITDA calculations. Under IFRS 16, those costs are replaced by depreciation on the ROU asset (excluded from EBITDA) and interest on the lease liability (a finance cost, also excluded from EBITDA). The cash outflow is unchanged, but reported EBITDA improves for any organisation with significant operating lease commitments.
Does IFRS 16 require a new calculation every time a lease changes?
Yes. Any change to the scope or consideration of a lease that was not part of the original terms (including extending the lease, adjusting rent, adding space, or partially terminating) triggers a remeasurement of the lease liability at the modification date. The IIR or IBR at that date must be used for the remeasurement, and the adjustment flows through to the ROU asset. CPI-linked payments also require remeasurement when the index is updated.
What is a right-of-use asset under IFRS 16?
A right-of-use (ROU) asset is the lessee's balance sheet recognition of the right to use a leased asset over the lease term. It is initially measured at the present value of future lease payments, plus initial direct costs, prepayments, and make-good provisions, less any lease incentives received. It is then depreciated on a straight-line basis over the lease term. The ROU asset always has a paired entry: the lease liability, which represents the obligation to make future payments.
When did IFRS 16 come into effect?
IFRS 16 was issued by the International Accounting Standards Board in January 2016 and became mandatory for annual reporting periods beginning on or after 1 January 2019. Australia's AASB 16 adopted the same effective date. New Zealand's NZ IFRS 16 followed the same timeline. Organisations with calendar year-ends first applied IFRS 16 in their 2019 financial statements.
How does IFRS 16 change the cash flow statement?
Under IFRS 16, lease payments are split on the cash flow statement. The principal repayment portion is classified as a financing cash outflow. The interest portion is classified as either an operating or financing outflow, depending on the entity's accounting policy. Under IAS 17, operating lease payments were classified entirely as operating cash outflows. The result is that operating cash flow typically improves under IFRS 16, as the principal repayment element moves to financing activities.