FRS102 Lease Accounting Changes: 3 Ways PE Firms Can Prepare

The updated FRS102 lease accounting rules are now in force for periods beginning on or after 1 January 2026. The changes introduce a fundamentally different lease accounting model under UK GAAP. 

Much of the discussion so far has focused on the impact on financial reporting and EBITDA. However, the corporation tax implications could be just as significant. 

For PE-backed groups the change does not sit in isolation. It can have knock-on effects across corporation tax, transitional adjustments, interest restrictions, deferred tax and distributable reserves. 

These changes may influence cash forecasting, covenant modelling and exit planning. Understanding the tax impact early can help reduce the risk of unexpected distortions later. 

How the FRS102 LEASE ACCOUNTING CHANGES Affect Tax-Deductible Expenses

Under the revised framework, operating lease rentals will no longer appear in the profit and loss account. Instead, businesses will recognise: 

• Depreciation on the Right-of-Use (ROU) asset 
• Finance charges on the lease liability 

From a corporation tax perspective, two questions usually arise.

Are deductions preserved?

Yes. Both the depreciation and the finance charge remain deductible for corporation tax purposes. Overall tax relief should therefore remain broadly similar to the previous rental deduction. 

How does the timing change?

The new model applies an amortised cost approach. This means finance charges are typically higher in the early years of a lease and reduce over time. 

The total tax relief across the lease term will often be similar. However, the timing of deductions will change. 

For businesses with significant lease portfolios, this may create: 

• Initial tax relief uplifts 
• Reduced charges later in the lease term 
• Greater variation in forecast tax cash flows 

For PE-backed groups relying on tight cash forecasting and fund-level modelling, the key issue is usually timing rather than the total relief available. 

Transitional Adjustments and Tax Treatment

When businesses first adopt the new standard, they will recognise an opening reserves adjustment. This reflects: 

• Recognition of Right-of-Use assets 
• Recognition of lease liabilities 
• Differences between historic straight-line rental accounting and the new model 

This adjustment has direct tax consequences. 

How is the adjustment brought into tax?

Under existing tax rules, the opening reserves movement is typically spread over the average remaining lease term. This prevents a large one-off spike in taxable profits or losses and spreads the tax impact more evenly. 

What about deferred tax?

The transition will often create temporary differences. This happens because the accounting values of lease assets and liabilities differ from their tax values. 

As a result, businesses will recognise deferred tax balances, which unwind over time as the leases run down. 

For PE houses, this can matter where: 

• Deferred tax balances influence enterprise value 
• Timing differences affect purchase price mechanisms 
• Buyers review the strength and accuracy of tax provisions during due diligence

Interaction with Corporate Interest Restriction (CIR)

Groups within the Corporate Interest Restriction (CIR) regime should also consider how the new FRS102 lease accounting changes interact with the rules. 

Under the current legislative position, the treatment remains broadly aligned with existing UK GAAP. 

In practice: 

• Finance charges on operating leases do not increase “tax-interest” for CIR purposes, and 
• Depreciation on Right-of-Use assets continues to sit within tax-EBITDA

This means the accounting change should not in itself create additional CIR restrictions. 

However, groups operating close to their interest capacity should still update their models. Changes in accounting profiles can still affect forecast calculations and headroom. 

Gross Assets, Thresholds and Compliance Regimes

Recognising lease assets on the balance sheet will increase gross assets. This can affect whether certain tax or compliance thresholds are met. 

Areas where this may be relevant include: 

• EIS / SEIS investment limits 
• SME size tests, including eligibility for some R&D reliefs 
• The Senior Accounting Officer (SAO) regime 
• Quarterly Instalment Payments (QIPs) where profit expectations change 

HMRC has not yet issued detailed guidance for all edge cases. Businesses operating close to these thresholds may benefit from early scenario modelling. 

3 Practical Steps PE-Backed Groups can take to prepare for the frs102 lease accounting changes

For PE-backed groups, preparation now will help avoid problems later. Taking a few practical steps can reduce risk, improve tax forecasting and make future transactions smoother. 

1. Build a complete lease inventory

Accurate data is essential. Missing leases can distort transitional adjustments, CIR calculations and future tax forecasts. 

2. Model the tax timing impact

Groups should assess: 

• Early-year tax deductions 
• Deferred tax movements 
• Transitional adjustments 
• Possible impacts on QIP forecasts 

3. Prepare for buyer scrutiny

Lease liabilities will now be far more visible on the balance sheet. Buyers and their advisers are likely to review: 

• The accuracy of transitional entries 
• Deferred tax calculations 
• The completeness of lease data 

How AAB can help

If you are unsure how the FRS102 lease changes could affect your corporation tax position, our Corporate Tax Services can help. 

Our tax specialists can review your lease profile, model the tax impact and help you plan ahead. This includes support with transitional adjustments, CIR capacity, deferred tax and cash tax forecasting. 

Speak to Greg Smythe or your usual AAB contact to start the conversation.