Tax implications of FRS 102 changes – lease accounting

How companies present their lease accounting in their financial statements is changing for accounting periods starting on or after 1 January 2026. The new FRS 102 rules may also mean considerable tax effects, which companies must prepare for. Here we explain the tax impact of the amendments to lease accounting.

General rule

Operating leases that are capitalised as right-of-use (ROU) assets will generally be treated for tax purposes in the same way that finance leases are currently treated. This means that a deduction will be available for both the depreciation of the ROU asset and for the finance costs charged to the income statement each year.

In some cases, where a lease provides for a transfer of ownership (e.g. hire purchase arrangements), an asset may qualify instead for capital allowances. However, as such leases should already have been capitalised under the old FRS 102 rules, their accounting and tax treatment should not change.

It is important to note that, if ROU assets include direct costs of a capital nature, such as SDLT on a land lease, these amounts will need to be separately identified and likely disallowed for tax purposes.

Deferred tax – including on transition

As the tax treatment of operating leases follows the new accounting treatment, there should generally be no book-tax differences, so no deferred tax implications. However, if there is an adjustment to reserves upon implementation of the new rules, this will be spread for tax purposes across the average life of the leases in question. Deferred tax may therefore need to be accounted for over the first few periods after adoption of the new approach.

Corporate interest restriction

As some of the costs of leasing will now be treated as finance charges under the new rules, companies’ total interest expense shown in their accounts will be higher than before.

They may therefore expect a greater likelihood of a disallowance under the corporate interest restriction (CIR) rules. However, where a ROU asset would have been treated as an operating lease under the old rules, the finance costs relating to that asset are excluded from the CIR calculation. This is beneficial, but it does mean that companies will continue to have to determine whether leases would have been operating leases or finance leases under the old FRS 102 rules, despite there being no difference in their accounting treatment.

Other implications

The underlying accounting changes may affect a company’s gross assets, which may be used as part of the criteria for determining eligibility for certain investment tax reliefs. This could include the enterprise investment scheme (EIS) and seed enterprise investment scheme (SEIS). Companies that are close to the limits for these schemes should therefore carefully assess the likely impact of the changes.

Similarly, the changes may cause a company to exceed audit exemption limits or, for larger companies, fall into Senior Accounting Office (SAO), Pillar Two and country-by-country reporting requirements.

Although the overall costs of operating leases for both accounting and tax purposes will remain the same, the new rules tend to front-load these costs, reducing profitability in earlier years. This may mean that companies find their taxable profits are higher than previously expected in the latter part of lease lifecycles, which could trigger additional requirements, such as the need to make quarterly instalment payments if certain taxable profit levels are breached for the first time.

You can read about the tax impact of the changes to revenue recognition here.

How we can help

At Moore Kingston Smith, our tax experts help ensure you are fully compliant with all tax aspects of lease accounting under the new FRS 102 regulations. Whether you need to account for operating or finance leases, review your tax reliefs or alter your payment cycle, we cover it all.

Contact us for a no-obligation discussion.