BLM11030 - Lease accounting: lease classification: inception and commencement

This manual is being updated to reflect FRS 102 (2024 amendments). For guidance on the tax treatment of accounts prepared under IFRS 16 or the revised FRS 102, please refer to pages within the BLM50000 chapter.

Accounting standards distinguish between inception and commencement of a lease: 

  • the inception of the lease is the earlier of the date of the lease agreement and the date of commitment by the parties to the principal provisions of the lease. 

  • the commencement of the lease term is the date from which the lessee is entitled to exercise its right to use the leased asset. It is the date of initial recognition of the lease (ie the recognition of the assets, liabilities, income or expenses resulting from the lease, as appropriate). (FRS 102 (pre and post 2024) Glossary, IFRS 16 Defined Terms) 

FRS 102 (pre 2024 amendments) & FRS 105 

FRS 102 (pre 2024 amendments) Section 20.8 and FRS 105 Section 15.9 provide that, for both lessees and lessors, at inception of a lease it is classified as either an operating or a finance lease and that lease classification is not changed during the lease term unless the lessee and lessor agree to change the provisions of the lease, in which case the lease classification is re-evaluated.  

FRS 102 (pre 2024 amendments) Section 20.9 and FRS 105 Section 15.10 also confirm in the case of a finance lease, that the amounts to be recognised at the commencement of the lease term are determined at the inception of the lease. However, the assets, liabilities, income or expenses resulting from the lease, as appropriate, are not recognised in the accounts until commencement of the lease term. 

FRS 102 (2024 amendments) and IFRS 16 

For lessors only, FRS 102 (2024 amendments) 20.91 and IFRS 16.66 also require the lease classification to be determined at the inception of the lease. 

For finance lessors only, FRS 102 (2024 amendments) 20.93 and IFRS 16.67 state that the assets held under a finance lease should be recognised at the commencement date. 

The need to distinguish between inception and commencement is usually only significant where the leased asset takes a long time to construct and the lease is entered into before the asset is complete. This is quite common, particularly in ship leasing, where the lease may be entered into (‘inception’) several years before the ship is available to the lessee (‘commencement’). Where provision is made in a lease agreement to adjust for changes in the construction or acquisition costs of the leased asset or changes in some other measure of cost or value between inception and commencement, such changes are deemed to have taken place at inception.