Enquiry:

Please guide whether the finance lease liability of our client, which is a  medium sized entity, be classified as operating lease as per Islamic Financial Accounting Standard 2 (IFAS 2), Ijarah, or finance liability as per International Financial Reporting Standards for Small & Medium Sized Entities (IFRS for SMEs)?

IFAS 2 was made applicable on companies through SRO 431(1)/2007. However, later SECP made changes in the Companies Ordinance, 1984 by classifying companies as small, medium and large companies and vide their SRO 929(1)/2015, SECP has specified applicability of IFRS for SMEs for medium sized entities for financial periods beginning or after January 01, 2015 and thus restricting to apply these standards while preparing financial statements of medium sized entities. These standards do not require medium sized entities to record Ijarah Assets as operating lease instead it requires applying the concept of substance over form and record asset as finance lease if it qualifies the said criteria.

Our client is a medium sized entity as per fifth schedule of the Companies Ordinance, 1984. In accordance with the SRO No. 929(1)/2015, SECP has directed the non-listed small and medium sized entities, classified under fifth schedule to the Companies Ordinance 1984, to follow applicable financial and accounting reporting standards. The applicable financial and accounting reporting standards for non-listed small and medium sized entity include IFRS for SMEs.

Opinion: 

The Board considered your query and would like to draw your attention to SRO 929 of 2015 issued under the repealed Companies Ordinance, 1984 which provides classification of the companies and the accounting framework to be followed by such companies.

Further, under the repealed Companies Ordinance, 1984, SECP has notified the Islamic Financial Accounting Standard (IFAS) 2, Ijarah, through S.R.O 431(I)/2007 which states that:

 “In exercise of the power conferred by sub-section (3) of section 234 of the Companies Ordinance, 1984 (XLVII of 1984), the Securities and Exchange Commission of Pakistan is pleased to direct that the Islamic Financial Accounting Standard 2, annexed to this notification, issued by the Institute of Chartered Accountants of Pakistan, shall be followed in regard to the financial statements by companies and modarabas while accounting for Ijarah (Lease) transactions.” 

With regard to the enquired scenario, an Ijarah contract shall be accounted for in accordance with the IFAS 2, and the statement of compliance shall include IFAS as part of the approved accounting standards.

                                                                                                            (October 02, 2017)