BLM50005 - Right-of-use assets: introduction to taxation of right-of-use asset lessees

This part of the manual only deals with payments of rent (including rent rebates received on termination).  It does not consider incidental costs concerned with leasing transactions (often capital – see BLM32040) or costs concerned with the modification of the leased asset.

IFRS 16 mandatorily replaced the accounting standard IAS 17 for accounting periods beginning on or after 1 January 2019.  Entities had the option to adopt the standard early if they also adopted certain other new IFRS accounting standards.

The 2024 amendments to FRS102 mandatorily replace the previous FRS102 version for accounting periods beginning on or after 1 January 2026.  Entities have the option to adopt the revised standard early.  Section 20 is the specific section of the standard which relates to leases. 

The main change is that the distinction between on-balance sheet leases (finance leases) and off-balance sheet leases (operating leases) for lessees, is removed.  Both new standards require a lessee to recognise all leases on its balance sheet, except certain exempted leases. 

The lessee recognises the right-of-use asset and a lease liability on its balance sheet.  Over the life of the lease the right-of-use asset is depreciated.  Cash rentals are set against the lease liability and the interest charge.  The cash rentals amount is usually equivalent to the sum of the depreciation and the interest charge (which is recognised on the reducing liability).  

On adoption of a new or revised accounting standard, accounting differences between operating lease and right-of-use lease accounting and transitional options could result in large debits being recognised in equity.  

Further background on accounting for right-of-use assets is given in BLM17000 onwards. 

Commercially nothing has changed for a lessee who has adopted the new standards.  Although the accounting timing recognition of the rentals has changed, the actual cash rentals have not and neither have the commercial reasons for entering into leases.  The same basic principles remain for the taxation of a lease held by a right-of-use lessee, such as most rentals being on revenue account despite the on-balance sheet accounting and the need to test whether the lease is a long funding lease.  

Legislation was introduced in Schedule 14 FA 2019 that aimed to ensure that the new or revised accounting standards did not change the tax treatment of lessees and requires the spreading of any amounts recognised on adoption of those standards.  The spreading rules are explained in BLM52000.