BLM11030 - Lease accounting: lease classification: inception and commencement

FRS102 distinguishes between inception and commencement:

• 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).

FRS102 Section 20.8 provides that 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 Section 20.9 also confirms 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 until commencement of the lease term.

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 assert is complete. The latter 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.