What is the incremental borrowing rate (IBR)?
The incremental borrowing rate (IBR) is the interest rate a lessee would pay to borrow, over a similar term and with similar security, the funds needed to obtain an asset of similar value. Under IFRS 16 and ASC 842 it discounts lease payments when the rate implicit in the lease cannot be readily determined.
Also calledIBRlessee borrowing ratelease discount rate
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- Used when
- Implicit rate not determinable
- Specific to
- Lessee, term, currency, security
- US private companies
- May elect risk-free rate
How the incremental borrowing rate is used
Lessees rarely know the rate implicit in a lease, because it depends on the lessor's residual value and costs, so most use their IBR. The rate is specific to the lessee and to each lease: a longer term, a different currency or a weaker entity in a group means a different rate. Companies usually build it from a reference rate for the currency and term, add a credit spread for the lessee, and adjust for security and the lease's payment profile. A higher rate gives a lower lease liability and ROU asset and more of the cost as interest early on. Under ASC 842, private companies may elect a risk-free rate instead, by class of asset, which raises the liability. The rate is set at commencement and updated only on certain remeasurements. Trullion applies discount rates to each lease in its lease accounting calculations.
Common questions
Why do lessees use the incremental borrowing rate?+
Because the rate implicit in the lease depends on the lessor's own estimates, which lessees usually cannot see. The standards then require the lessee's incremental borrowing rate.
How is an incremental borrowing rate estimated?+
Usually from a reference interest rate for the lease's currency and term, plus a credit spread reflecting the lessee's credit risk, adjusted for the security the leased asset provides.
Can a private company use a risk-free rate under ASC 842?+
Yes. Entities that are not public business entities can elect a risk-free rate for a comparable term, by class of underlying asset, instead of the incremental borrowing rate.
Lease accounting software
Part of Accountio’s accounting technology coverage · Glossary
