For decades, Ind AS 17 (like its predecessor IAS 17) allowed companies to classify leases as either "finance leases" (on balance sheet) or "operating leases" (off balance sheet). The result was a massive off-balance-sheet financing problem — global companies had trillions of dollars in lease obligations that simply did not appear on their balance sheets.
Investors, analysts, and credit rating agencies had to manually add back estimated operating lease obligations using multiples of annual lease payments. This "add-back" was approximate, inconsistent, and often inaccurate. Different analysts used 6x, 7x, or 8x annual rental multiples to estimate the "true" debt burden — leading to significant valuation discrepancies.
IASB and FASB jointly concluded that the finance vs operating lease distinction was being manipulated — companies structured leases to be just below the thresholds for finance lease classification, keeping obligations off the balance sheet. The new model (IFRS 16/Ind AS 116) largely eliminated this by requiring all leases above a minimum threshold to be recognised on the lessee's balance sheet.
The single most important difference between Ind AS 17 and Ind AS 116 is the lessee's accounting model:
| Aspect | Ind AS 17 (Old) | Ind AS 116 (New) |
|---|---|---|
| Lessee's model | Dual model: Finance lease (on BS) or Operating lease (off BS) | Single model: All leases on balance sheet (except exemptions) |
| Operating lease on BS? | No — only disclosed in notes | Yes — as Right-of-Use (ROU) asset and lease liability |
| Finance lease on BS? | Yes — as asset and liability | Yes — same treatment as before (no change) |
| P&L for operating leases | Straight-line rental expense (single line) | Depreciation on ROU + Interest on lease liability (two lines) |
| EBITDA impact | Lease rent included in operating expenses → reduces EBITDA | Depreciation and interest are below EBITDA → EBITDA improves |
| Classification test | 5 bright-line tests required | No classification needed for lessee — all leases on BS |
| Lessor's model | Dual model (finance/operating) | Same dual model — Ind AS 116 mostly unchanged for lessors |
Under Ind AS 17, the entire framework for lessee accounting depended on classifying each lease as a finance lease or an operating lease using five tests. If a lease "transferred substantially all the risks and rewards incidental to ownership" to the lessee, it was a finance lease. Otherwise, it was an operating lease.
| Test | Finance Lease Indicator |
|---|---|
| 1. Ownership Transfer | Ownership transfers to lessee at end of lease term |
| 2. Bargain Purchase Option | Lessee has option to buy at below market price |
| 3. Lease Term Test | Lease term is for the major part of economic life of the asset (75% rule used in practice) |
| 4. Present Value Test | PV of minimum lease payments = substantially all of fair value of asset (90% rule used in practice) |
| 5. Specialised Asset | Asset is so specialised only the lessee can use it without major modification |
If a lease was classified as an operating lease, the lessee simply recognised:
Finance leases were capitalised — similar to the current Ind AS 116 treatment:
Under Ind AS 116, the lessee no longer needs to classify leases. All leases (above minimum thresholds) result in the recognition of a Right-of-Use (ROU) asset and a lease liability. This is essentially the old "finance lease" treatment applied to all leases.
Ind AS 116 also introduced a refined definition of a lease — a contract is a lease if it conveys the right to control the use of an identified asset for a period of time in exchange for consideration. This involves assessing:
At lease commencement, the lease liability is measured at the present value of future lease payments, discounted at the rate implicit in the lease (or the lessee's incremental borrowing rate if the implicit rate is not readily determinable).
Under Ind AS 17, companies often structured transactions specifically to achieve operating lease classification. Common techniques included:
The ROU asset represents the lessee's right to use the underlying asset during the lease term. It is initially measured at the amount of the lease liability plus:
An ROU asset can be measured using:
Companies transitioning from Ind AS 17 to Ind AS 116 had two choices:
Restate all prior periods as if Ind AS 116 had always applied. Comparative figures restated. Adjustment through retained earnings for cumulative effect at transition date.
Apply Ind AS 116 from April 1, 2019 without restating comparatives. The cumulative effect is adjusted in opening retained earnings as of April 1, 2019. This was the more commonly adopted approach by Indian companies due to practical complexity of retrospective restatement.
| Feature | Full Retrospective | Modified Retrospective |
|---|---|---|
| Comparatives | Restated | Not restated — footnote disclosure |
| Opening adjustment | In earliest period presented | April 1, 2019 (transition date) |
| Complexity | Very high | Moderate |
| Usage in India | ~15% of companies | ~85% of companies |
| Practical expedients | Limited | More available |
The shift from Ind AS 17 to Ind AS 116 had predictable — and in many cases dramatic — impacts on key financial metrics for lessees:
| Metric | Direction | Why |
|---|---|---|
| Total Assets | ↑ Increase | ROU assets added |
| Total Debt/Liabilities | ↑ Increase | Lease liabilities added |
| EBITDA | ↑ Increase | Rent expense removed (now depreciation + interest, below EBITDA) |
| EBIT/Operating Profit | Broadly neutral | Rent removed but depreciation added |
| Net Profit (PBT) | ↓ Decrease (early years) | Front-loaded interest expense exceeds rent in initial years |
| Operating Cash Flow | ↑ Improve | Cash rent reclassified to financing CF |
| Financing Cash Outflow | ↑ Increase | Lease repayments now appear here |
| D/E Ratio | ↑ Worsen | Lease liabilities classified as debt by lenders |
| Asset Turnover | ↓ Decrease | Assets increase without proportionate revenue increase |
| ROCE | ↓ Decrease (typically) | Capital employed increases |
Ind AS 116 provides two important practical exemptions that reduce the burden of bringing all leases onto the balance sheet:
Leases with a term of 12 months or less at commencement (including options) may be excluded from the full ROU asset / lease liability treatment. The lease payments are expensed on a straight-line basis. This is a policy choice by class of underlying asset (e.g., short-term IT equipment leases can be exempted while short-term vehicle leases are brought on balance sheet).
Leases of low-value assets (assessed at underlying asset level, when new — typically IASB guidance suggests USD 5,000 per item as a benchmark) may also be expensed directly. Examples include laptops, tablets, small office furniture, and similar individually low-value items.
In India, ICAI has not prescribed a specific INR threshold — companies typically use the USD 5,000 equivalent (approximately ₹4 lakh per item) or define their own threshold in accounting policy, which must be disclosed and applied consistently.
IndiGo is India's largest airline with 350+ aircraft, virtually all of which are leased under sale-and-leaseback arrangements with international lessors (SMBC Aviation, AerCap, GECAS, etc.). Aviation is the sector most dramatically impacted by the Ind AS 17 → Ind AS 116 transition.
IndiGo's transition highlighted how dramatically Ind AS 116 changes aviation financial optics. The same EBITDA that was ₹4,000 crore under Ind AS 17 became ₹12,000+ crore under Ind AS 116 for the same operations — EBITDA improved dramatically without any change in underlying economics.
Reliance Retail, India's largest retailer with 18,000+ stores, operates on a predominantly leased store model. The transition from Ind AS 17 to Ind AS 116 brought thousands of crore in store lease obligations onto Reliance Retail's balance sheet.
Retail sector transitions highlighted that while Ind AS 116 improved EBITDA optically, sophisticated analysts moved to EBITDAR as the true operational metric — and lease liabilities are now central to retail credit analysis.
Bharti Airtel leases thousands of telecom towers from Indus Towers, American Tower, and other infrastructure providers. These ground leases, tower leases, and rooftop leases created massive Ind AS 116 obligations on transition.
Airtel's Ind AS 116 transition was one of India's largest by absolute quantum. It fundamentally changed how analysts assess Indian telecom company leverage — the traditional net debt metric became largely meaningless without including lease liabilities.
The Incremental Borrowing Rate (IBR) is the rate of interest a lessee would pay to borrow funds, on a collateralised basis, over a similar term, in a similar economic environment, to obtain an asset of similar value to the right-of-use asset. It is used when the interest rate implicit in the lease cannot be readily determined (which is the case for most real estate and equipment leases in India).
Why it matters: The IBR determines the present value of future lease payments, which in turn determines: (a) the lease liability recognised, (b) the ROU asset recognised, (c) the interest expense each year, and (d) the depreciation charge. A 1% variation in IBR on a large lease portfolio can change recognised liabilities by hundreds of crore rupees for a large company.
How to determine IBR for Indian companies:
Practical approach: Many Indian companies establish IBR "matrices" — tables by tenor (1 year, 3 year, 5 year, 10 year) and currency (INR, USD) — updated quarterly based on market conditions. These matrices are applied consistently and disclosed in accounting policy notes. The finance team typically derives these with treasury/banking team inputs, reviewed by the statutory auditor.
For companies in financial difficulty (high credit risk), the IBR can be substantially above risk-free rates — which reduces the lease liability recognised (higher discount rate means lower PV) but increases annual interest expense significantly.
This is one of the key asymmetries of Ind AS 116 — the lessee's accounting changed dramatically, but the lessor's accounting remains essentially the same as under Ind AS 17.
Lessor accounting under Ind AS 116: Lessors still classify leases as finance leases or operating leases using the same fundamental principle (does the lease transfer substantially all risks and rewards to the lessee?). If yes → finance lease (recognise receivable, not the asset). If no → operating lease (continue to recognise the asset, recognise income on a straight-line basis).
Changes for lessors: While the fundamental model is unchanged, Ind AS 116 introduces some new requirements for lessors:
Impact on Indian real estate companies: Real estate developers and mall operators (like DLF, Phoenix Mills, Nexus Malls) who primarily act as lessors saw minimal change — they continue to account for their lease income as operating lease income under Ind AS 116. The dramatic balance sheet changes were felt by their tenants (the lessees), not by the property owners themselves.
The lease term under Ind AS 116 is not simply the non-cancellable contract period — it includes optional periods that the lessee is "reasonably certain" to exercise. This is a critical judgement that significantly affects the lease liability recognised.
Lease Term = Non-cancellable period + Optional extension periods (if reasonably certain to exercise) − Optional termination periods (if reasonably certain NOT to exercise)
What does "reasonably certain" mean? This is a high threshold — close to "probable" in other Ind AS standards. Factors indicating reasonable certainty to exercise extension options include:
Why this matters: A retail store with a 5-year initial term + 5-year renewal option + 5-year renewal option could have a recognised lease liability based on 5 years, 10 years, or 15 years — depending on whether extension options are included. Including 10-year vs 5-year term can triple the recognised lease liability.
Indian context: Indian retailers often have 3+3+3 or 5+5+5 year lease structures with renewal options. Companies like Reliance Retail, DMart, and Shoppers Stop must carefully assess extension option inclusion at each lease commencement date. These assessments are revisited when significant events occur (e.g., renovation, strategic review) as "remeasurement events" under Ind AS 116.
Disclosure requirement: Ind AS 116 requires disclosure of the key judgements made in determining the lease term, particularly where extension or termination options are included or excluded — making this a frequently cited significant accounting estimate in Indian company annual reports post-transition.