There are several options for calculating your ARO. These are chosen in System Options, ARO tab.
Accretion Compounding
The ARO accretion can be compounded on a daily basis, or monthly. If compounded monthly, each day of a month has the same accretion expense. If compounded daily, the accretion expense slightly increases each day. The best choice is usually dependent on your fiscal calendar: week-based fiscal calendars should use Daily, while a period that ends the same day of the month each month should use Monthly.
ARO Rates Shown
This applies to both the inflation rate and the credit-adjusted risk-free rate. If you choose pre-compounding, the actual per-day or per-month interest is the stated rate divided by 365.25 or 12, respectively. When this is compounded, the effective interest rate will be higher; for instance, a stated rate of 6% compounded monthly (0.5% per month compounded) is effectively 6.16778%.
If you choose post-compounding, the interest rate will be calculated so that after compounding, the annual rate is the rate stated. For example, a 6% post-compounding rate, compounded monthly, is 0.486755% per month.
Start Calculating ARO Expense
For AROs with a begin date that is not the first day of the month, you can choose whether to start calculating ARO expenses (ARO accretion and ARC depreciation) on the first day of that month, or on the begin date.
Economic Penalty Test
If you enter the options on a lease, you can have EZLease test AROs to see if their cost is high enough to impose an economic penalty that compels renewal of the lease for some or all of the options. You may require recognizing options that cover a specific percentage of the useful life of an ARO’s associated asset, or at least the number of months specified (whichever is less). You may also instruct EZLease to skip minimal AROs, having a current cost less than a specified amount. If the percentage or months are zero, that test is skipped and only the other test applies.
With this test selected, when you enter an ARO, its useful life is compared to the remaining life of the lease (including currently recognized options). If the minimums specified are not met, and the lease has renewal options that have not been recognized, enough options are recognized to cover the minimum life required. EZLease informs you that options have been recognized to meet the economic penalty test, and also whether some of the useful life remains uncovered.
Example: A lease starts 7/1/2012 and runs for 10 years, with 4 5-year renewal options, none of which are deemed reasonably assured of exercise at lease inception. On 11/1/2012, an ARO is recognized on leasehold improvements with a useful life of 25 years. The economic penalty system options state that the penalty calculation should require renewal to cover 75% of the useful life, or at least 180 months, whichever is less. 75% of 25 years is 225 months, so our minimum lease term is 180 months from 11/1/2012, to 10/31/2027. The first lease option covers from 7/1/2022 to 6/30/2027. The second lease option covers from 7/1/2027 to 6/30/2032, which covers the minimum useful life. The first two options are marked as recognized, and the lease is recalculated using the changed end date. The ARO is given a life of 236 months (11/1/2012 to 6/30/2032).
The economic penalty test applies only to AROs that are attached to actual capital or operating leases. If an ARO is attached to an ARO-only record, the end date of the base record is automatically extended to cover the entire useful life of an attached ARO.
Continue to Accrue ARO After Scheduled End Date Using Inflation Rate
If unchecked, the ARO liability does not change after the ARO end date is reached, though it remains on the books until the ARO is explicitly terminated. If checked, ARO accretion continues, using the ARO’s inflation rate as the interest rate to calculate accretion. The asset side remains at zero after the scheduled end date either way, unless you change the end date.
Stop After-End-Date Accrual Effective
To aid in transitions, you may choose to recognize inflation-based ARO accretion after the ARO end date only until a specific date. This is intended to assist companies that have decided to discontinue inflation- based accretion. If an ARO ends after the date shown, no inflation-based accretion will happen.
Accretion Rates Table
You may enter credit-adjusted risk-free rates to be used for accreting the ARO. This has two purposes:
- For U.S. users complying with FAS 143/ASC 410, this table can be used to automatically fill in the Risk-Free Rate field when the ARO Begin Date is entered. If the Risk-Free Rate is zero or blank when the ARO Begin Date is changed, the appropriate rate (the most recent rate dated on or before the begin date) is filled in.
- For users complying with IAS 37, this table provides both the initial rate for an ARO and subsequent IAS 37 requires recalculating the ARO at any reporting date when the current market rates have changed. When an ARO is active and the rate changes, EZLease adjusts the ARO and the ARC asset in tandem.
Select your purpose for this table using the “Recalculate accretion when rate changes” box below.
Enter the rate, and its effective date. If you are using the table for IAS 37 recalculation, please note that entering an effective date before today will cause any reports that end after the effective date to give different results from when they were originally run. If you enter an effective date before the start of your current fiscal reporting period, your beginning balances for the period will not match previously run reports for the prior period ending balance.
If you need to delete a rate change, change the rate to 0 and EZLease will confirm that the change should be deleted.
To create a spreadsheet with the contents of this table, hold down Ctrl key and click on the checkbox “Recalculate accretion when rate changes (IFRS).”
Recalculate Accretion When Rate Changes (IFRS)
Users complying with IFRS should check this box. U.S. users should leave the box unchecked. This determines the use of the Accretion rates table as noted just above.
Group-Specific Rates
You may have different accretion rates for different divisions of your company (most commonly, for different countries). Check this box to expand the Accretion Rates table to include a column to specify the group to which a rate applies. Use * for the group name for all groups that are not otherwise specified; select the actual group name to specify a rate for just that group. “Group” is specified in whichever User-defined field you select. Groups must be chosen from a list; the list of acceptable choices is set up in the UDF Choices tab of System Options. If you set the title of the User-defined field, that title is used in this checkbox’s description.
The * catch-all group is only used if there are no entries at all in the rates table for the lease’s group. If the rate changes at the same time for a named group and the * catch-all group, you need to enter two separate rate records.
Recalculate AROs
Whenever you change any of these options (except the economic penalty test), all AROs in the currently open database are recalculated (since changing any of these options alters the present and future values of AROs). If a database with AROs is not open when you change the options, you should force a recalculation of its AROs by opening the database and clicking this Recalculate button. Otherwise, report results may be inconsistent.