BLM18000 - Lease accounting under IFRS 16 and FRS 102 (2024 amendments): lessee example
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.
The accounting for lessees under IFRS 16 or FRS 102 (2024 amendments) Section 20 is the same whatever the nature of the underlying asset is. The following example will look at the accounting for a property lease using the right-of-use model.
The example below covers the accounting by the lessee under IFRS 16 for the right-of-Use asset and the lease liability. The accounting for this example under FRS 102 (2024 amendments) Section 20 is identical.
The accounting from a lessor’s perspective under IFRS 16 and FRS 102 (2024 amendments) is broadly similar to lessor accounting under FRS 102 (pre 2024 amendments) and will follow the rules for operating lease accounting or finance lease accounting depending on where the risks and rewards of ownership of the underlying asset lie - see BLM12000 for rules for operating leases and BLM13000 for rules for finance leases.
Example
Company A enters into a 10-year lease of a building. Lease payments are £100,000 per annum, all payable at the beginning of each year.
Prior to the commencement of the lease, company A pays a lease premium of £9,998 to the landlord.
It is assumed that the interest rate implicit in the lease is not readily determinable. Company A’s incremental borrowing rate as defined in the standard is 5%.
At the commencement date, company A makes the initial annual lease payment and incurs the initial direct costs.
The terms of the lease contract require Company A to restore the building to a certain condition at the end of the lease. At commencement date the estimate of the costs for this is £20,000.
Lease liability
The initial lease liability is measured at the present value of the remaining nine annual payments, discounted at 5%, which is £710,782.
The lease liability and interest expense over the life of the lease are as follows in the table below:
| Year | Beginning balance (£) | Lease Payment (£) | 5% interest expense (£) | Ending balance (£) |
|---|---|---|---|---|
| 1 | 710,782 | 100,000 | 35,539 | 746,321 |
| 2 | 746,321 | 100,000 | 32,316 | 678,637 |
| 3 | 678,637 | 100,000 | 28,932 | 607,569 |
| 4 | 607,569 | 100,000 | 25,379 | 532,948 |
| 5 | 532,948 | 100,000 | 21,647 | 454,595 |
| 6 | 454,595 | 100,000 | 17,730 | 372,325 |
| 7 | 372,325 | 100,000 | 13,616 | 285,941 |
| 8 | 385,941 | 100,000 | 9,297 | 195,238 |
| 9 | 195,238 | 100,000 | 4,762 | 100,000 |
| 10 | 100,000 | 100,000 | 0 | 0 |
It can be seen that the interest charged each year will reduce each year as the lease liability reduces.
Right-of-use asset
The right- of- use asset will initially be the present value of the lease payments (£710,782 above, plus the initial lease payment of £100,000) plus the lease premium of £9,998 and the estimate of future costs to be incurred to restore the building at the end of the lease of £20,000. The carrying value of the right-of-useROU asset is as follows:
| Year | Beginning balance (£) | Depreciation charge (£) | Ending balance (£) |
|---|---|---|---|
| 1 | 840,870 | 84,078 | 765,702 |
| 2 | 756,702 | 84,078 | 672,624 |
| 3 | 672,604 | 84,078 | 588,546 |
| 4 | 588,546 | 84,078 | 504,468 |
| 5 | 504,468 | 84,078 | 420,390 |
| 6 | 420,390 | 84,078 | 336,312 |
| 7 | 336,312 | 84,078 | 252,234 |
| 8 | 252,234 | 84,078 | 168,156 |
| 9 | 168,156 | 84,078 | 84,078 |
| 10 | 84,078 | 0 | 0 |