Incremental Borrowing Rate (IBR)
The incremental borrowing rate (IBR) is the rate of interest a lessee would have to pay to borrow, on a collateralized basis over a similar term, an amount equal to the lease payments in a similar economic environment.
Leasing
Explanation
Lessees discount lease payments using the rate implicit in the lease when it is readily determinable. Because lessees rarely know the lessor's residual value assumptions and initial direct costs, most use the IBR instead. Under ASC 842, the IBR reflects a collateralized borrowing over a term similar to the lease. IFRS 16 describes it in terms of borrowing the funds necessary to obtain an asset of similar value to the right-of-use asset. Under ASC 842, lessees that are not public business entities may elect to use a risk-free rate by class of underlying asset. The IBR is set at commencement and updated only when the lease liability is remeasured with a revised discount rate, for example after certain modifications. Lessors do not use an IBR; they use the rate implicit in the lease.
Why It Matters
The discount rate drives the size of the lease liability and right-of-use asset. For lessee accounting in SAP CLM, each lease valuation depends on the rate assigned to it, which requires a documented and auditable rate methodology.
Related Terms
Interest Rate Implicit in the Lease · Lease Liability · Right-of-Use Asset · Lease Modification · SAP CLM
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