From 1 January 2026, amendments to FRS 102 will fundamentally change how leases are accounted for in your annual financial statements.
These changes bring UK accounting standards used by many SMEs in line with IFRS and international accounting standard across the globe.
Preparing early for these changes is essential to allow time for reviewing your existing lease arrangements and the impact on your financial position. If you would like to discuss what this could mean for your business, please contact us.
What is changing?
For accounting periods starting on and after 1 January 2026, lease payments will no longer simply be expensed as a charge against income and allowable for corporation tax deductions in the profit and loss account. s, you will now need to recognise them on the face of the balance sheet – as both a right of use asset and a lease liability
You will now need to report leases as both:
- A liability i.e the total future lease payments still owed to the lessor, discounted to today’s value
- A Right-of-Use (ROU) asset i.e the right to use the leased item (for example, an office building, a vehicle, or a piece of equipment) for the remaining lease period.
As you make regular lease payments, the amount you owe (the liability) will decrease, and the interest element will be recognised over the life of the lease. The asset itself will then be written down each year through depreciation, which appears as a cost in your profit and loss account.
This marks a fundamental shift in how you will account for day-to-day expenditure and manage internal reporting. The impact will also influence tax treatment, valuations, loan covenant calculations and lender relationships.
Why is this changing?
The lease accounting changes under FRS 102 are aiming to bring greater transparency and alignment with international practice, and ensure the financial statements reflect the economic reality of leasing arrangements.
What this means for businesses with lease arrangements
- Balance sheet and ratios impact – Most leases will move on balance sheet, increasing assets and liabilities, which can affect leverage, debt covenants, EBITDA, and KPIs.
- Systems & data readiness – Companies need complete lease inventories and systems to track new metrics such as lease term, interest rates, discount rates, and modifications.
- Tax considerations – Depreciation and interest replace straight lease expense for accounting; tax planning and reliefs may be affected.
- Stakeholder communication – Forecasts, budgets, and internal reporting should reflect new accounting to maintain consistency and transparency.
- Lease review and contract adjustments – All leases, including embedded options, rent free periods and decommissioning provisions should be reviewed; some may need renegotiation or updated treatment.
The changes are substantial for many lessees, so businesses should prepare now (rather than wait until the effective date of 1 January 2026).
There are some minor exemptions from this transition regarding low value and short life leases.
Please note that there is no change to lease accounting for companies reporting under FRS105.
A summary of the lease accounting changes
| Feature | Before (Legacy FRS 102) | After (Amended FRS 102 – revised Section 20) |
|---|---|---|
| Lease classification (lessee) | Distinction between operating leases (off-balance sheet) and finance leases (on-balance sheet). | Single lessee accounting model: most leases (except short-term and low-value) must be recognised on the balance sheet with a right-of-use asset and lease liability. The operating vs finance lease distinction for lessees is effectively eliminated for accounting purposes. |
| Balance sheet recognition (lessee) | For operating leases: lease expense through P&L; no recognition of asset/liability. For finance leases: asset and liability recognised. | For almost all leases (unless exempt): recognise a lease liability (present value of future lease payments) and a right-of-use (ROU) asset. |
| Profit & loss (lessee) | Operating lease: lease/rental expense (straight-line or other systematic basis). Finance lease: interest charge + depreciation of leased asset. | Expense split: interest on lease liability (finance charge) + depreciation of ROU asset. For many leases, the pattern will result in higher expense early in the lease term (front-loading). |
| Exemptions / reliefs | Some reliefs existed (e.g., small entities may apply simplified disclosures, but the operating/finance classification remained). | Permitted exemptions: short-term leases (lease term 12 months or less) and leases of low-value assets may be accounted for off-balance sheet (i.e., as expense) rather than applying full balance-sheet model. |
| Discount / measurement of lease liability | For finance leases: discount rate implicit in lease or incremental borrowing rate applied. Some obligations off-balance sheet under operating leases so no discounting. | For new model: measure lease liability as present value of future lease payments; discount rate: rate implicit in lease if readily determinable; otherwise lessee may use either the incremental borrowing rate (IBR) or the obtainable borrowing rate (OBR) (OBR is a simplification introduced under FRS 102 amendments). |
| Transition / comparatives | Under prior model, legacy classification remained; comparatives under previous rules. | The standard provides a practical expedient allowing entities to not restate comparative information for prior periods. Instead, the cumulative effect of initial application is recognised at the date of transition (i.e. the start of the reporting period in which the amendments are first applied). Comparative periods are presented as previously reported under old Section 20. |
| Impact on key financial metrics | Balance sheet may have lower liabilities and assets (due to operating leases off-balance sheet), EBITDA lower (lease expense included in operating expenses). | Increase in assets and liabilities (due to ROU asset and lease liability) for many entities; EBITDA likely to increase (lease expense moves from operating expense to interest + depreciation) but interest and depreciation charges must be shown; gearing, leverage, net debt, key ratios may be impacted. |
| Lessor accounting | Lessor accounting largely unchanged: distinction between finance and operating leases remains under legacy; operating lease lessor recognises rental income. | For lessors, the classification and accounting remain broadly the same as before (i.e., lessor model largely unchanged) though some wording and disclosures may change. |
| Effective date | Legacy model: existing rules applied; no major change. | Amendments issued Mar 2024; effective for accounting periods beginning on or after 1 January 2026. Early adoption permitted if all amendments applied together. |
How we can help
We work with clients across a wide range of sectors, including those with property, vehicle and equipment leases.
Our team can support you at every stage – from identifying all lease arrangements and assessing the impact on your balance sheet, to modelling financial effects, advising on systems and data readiness, to ensure that you are fully compliant ahead of the 2026 deadline.
We will be assisting our clients with these changes and are also able to support new clients as part of our broader accountancy services. If you would like to discuss how we can support you, please contact us.
Jo has over 20 years of experience focusing on audit and business advisory, from small SME clients to AIM listed corporates.
