Understanding the differences between FRS 102 and IFRS 16 lease accounting

It can be difficult at the best of times for finance teams to keep pace with the latest standards – leases can prove one of the most challenging areas to understand.

So, it’s important to know that updates to the UK and Ireland’s leasing standard, FRS 102, are only months away at the time of writing.

These changes are meant to bring lease accounting in line with the international standard, IFRS 16, but how similar are they?

How IFRS 16 and FRS 102 relate to one another

In short, IRFS 16 is an international standard and has been in effect for annual reporting periods beginning on or after 1 January 2019. It implements a single accounting model for finance and operating leases.

Meanwhile, FRS 102 is the accounting standard for United Kingdom and Irish entities that fall under the UK GAAP standard.

FRS 102 has received amendments that bring its standard into line with IFRS 16; they will be effective for periods on or after 1 January 2026, with early adoption permitted.

Although it’s worth seeing how the two standards will align thanks to these amendments, it’s also worth noting how they will diverge.

IFRS 16 and FRS 102 both protect the benefits of leases

The new standards determine that all leases must appear on a balance sheet, even if they are operating leases, which used to be counted as an expense.

However, that’s where the changes begin and end.

The new standards do not affect the leases themselves and the benefits they bring; they remain a viable alternative to buying vehicles, equipment and infrastructure outright.

• Companies can continue to cut capital expenditure and its impact on cash flow by spreading the cost of assets across the lifetime of a lease.
• Businesses can keep equipment up to date by refreshing it.
• Selling used assets, like a company car, can often be surprisingly expensive. Because it’s not our core business, we might undervalue the asset and not get the best price. Plus, the whole process of selling takes up valuable time. In contrast, simply returning the asset to the leasing company is a much more cost-effective and time-saving option, which explains its popularity.
• The lower outlay and ready stock mean businesses enjoy quick access to new assets.

So, although leases will have more scrutiny, they will still often demonstrate better cash flow than making major purchases.

How the new standards decide what counts as a lease

Since the introduction of IFRS 16, a lease exists when a customer controls the right to use an item. This is when that customer: 

• Has exclusive use of the item for a period of time
• Can decide how to use it 

This means services don’t have to be included as leases on your balance sheet. That means accountants might want to check every lease and ensure they separate lease elements from service elements.

There is some flexibility, however. If you prefer, you can recognise the full contract – the lease and service elements – as one.

The amendments to FRS 102 adopt a similar definition.

Leases under IFRS 16 and FRS 102 both impact the balance sheet in similar ways

Before, leases were recognised as an expense on the profit and loss statement. Now you have to set out the right-of-use (ROU) assets and liabilities arising from these contracts.

Some exceptions exist, including agreements for low-value assets.

Under IFRS 16, these latter small ticket leases can be left off the sheet if they are not interrelated in some way with larger leases and fall within the suggested threshold of $5,000.

Where FRS 102 is different

In the UK, FRS 102 provides some examples of leases that are not low value:

1. cars, vans, buses, coaches, trams, trucks and lorries;
2. cranes, excavators, loaders and bulldozers;
3. telehandlers and forklifts;
4. tractors, harvesters and related attachments;
5. boats and ships;
6. railway rolling stock;
7. aircraft and aero engines;
8. land and buildings; and
9. production line equipment.

An important note about short-term leases

IFRS 16 sets the standard for short-term leases and allows them to be exempt. FRS 102 follows suit.

In addition to a contract needing to be 12 months or less for this exemption to apply, they must not include purchase options, and the treatment must be the same for all underlying assets.

It’s worth remembering that both the short-term and low-value exemptions are optional and they only apply to lessees.

How FRS 102 is making things easier

To align more closely with IFRS 16, FRS 102 has introduced some simplifications and transition reliefs to make things easier. This is so that lease accounting feels proportionate for or organisations reporting under FRS 102.

Simplifications

With IFRS 16, finance teams have to use a lessor’s implicit borrowing rate where possible, and incremental borrowing rate where it is not. This is the same for FRS 102, but there is also the option of referring to the simpler obtainable borrowing rate where the lessor’s implicit borrowing rate is not available.

The ‘lessee’s obtainable borrowing rate’ is defined as: the rate of interest a lessee would have to pay to borrow, over a similar term, an amount similar to the total undiscounted value of lease payments to be included in the measurement of the lease liability.

Transition reliefs

FRS 102 allows businesses to adopt a simplified transition method, either by using a modified retrospective approach (choosing a specific date in the past to align with the new standard) or an accumulative catch-up approach (aligning with the new standard going forward). This means businesses do not need to restate comparative figures for previous periods.

Additionally, an exemption for group reporting allows businesses to use previously determined carrying amounts that were calculated in accordance with IFRS 16. If this exemption is not used, businesses must calculate the lease liabilities and right-of-use assets using the modified retrospective approach.

Learn more about FRS 102

Read our guide to all the essential updates to this important leasing standard.

Or

Discover how IRIS can help you when it comes to lease accounting.