Introduction to FRS 102

FRS 102 is the UK’s financial reporting standard, established by the Financial Reporting Council (FRC) as “The Financial Reporting Standard applicable in the UK and Republic of Ireland”. Designed to ensure a true and fair view of a reporting entity’s financial position, FRS 102 standardises financial reporting for private companies, non-profits and certain public sector entities that do not adopt IFRS, FRS 101 or FRS 105.

The requirements in FRS 102 are based on the IASB’s IFRS for SMEs Accounting Standard, with modifications to align with UK-specific needs. Compliance with FRS 102 is essential for financial transparency, regulatory adherence and accurate financial statement preparation.

In this post, we explore key accounting principles under FRS 102, recent amendments taking effect in 2026 and the impact on businesses, particularly lease accounting.

 

Key principles of FRS 102

Overview of financial statements under FRS 102

Entities applying FRS 102 are required to prepare a full set of financial statements that provide a true and fair view of their financial position and performance. These statements must include:

• A balance sheet, also known as a statement of financial position which outlines the entity’s assets, liabilities and equity at the reporting date. This helps stakeholders assess the financial health and stability of the organisation
• A profit and loss account, formally referred to as the statement of comprehensive income, which presents revenue, expenses and profit or loss for the reporting period. This statement gives a clear picture of an entity’s financial performance over time, allowing for comparison across financial periods.
• A statement of cash flows, except for small entities exempt under Section 1A of FRS 102. This statement details cash movements from operating, investing and financing activities, providing insight into liquidity and cash management.
• Notes to the accounts, which provide disclosures on accounting policies, key financial data and any additional information necessary for a full understanding of the financial statements. These notes ensure transparency and compliance with regulatory requirements.

Measurement, recognition and disclosure requirements

FRS 102 establishes clear principles for recognising and measuring assets, liabilities, income and expenses, ensuring consistency in financial reporting. The standard requires entities to classify and measure financial elements using different bases, including historical cost, fair value or amortised cost, depending on the nature of the item. For instance, certain financial instruments may be carried at fair value, while tangible fixed assets are typically recorded at cost, with depreciation applied over their useful life.

Disclosure requirements under FRS 102 are designed to improve financial transparency and help stakeholders make informed decisions. Entities must provide sufficient detail on accounting policies, significant estimates and key judgements, as well as any risks that may affect the business. These disclosures ensure that users of financial statements can assess the entity’s financial health and the assumptions underpinning its financial reporting.

Differences between FRS 102, IFRS and old UK GAAP

FRS 102 is largely based on IFRS for SMEs, but it has been tailored for smaller entities in the UK and Ireland, making it less complex than full International Financial Reporting Standards (IFRS). One of the key differences is the simplified approach to financial instruments, as FRS 102 does not follow the intricate classification and measurement rules found in IFRS 9.

In addition, revenue recognition under FRS 102 is simpler than under IFRS 15, making it easier for smaller entities to apply. However, changes taking effect in 2026 will bring FRS 102 closer to IFRS standards, particularly in the area of lease accounting. Updates will align FRS 102 with IFRS 16, requiring most leases to be recognised on the balance sheet.

Fair value measurement is another key area of difference. While IFRS standards require frequent fair value adjustments, FRS 102 allows for simpler methods of valuation, which reduces the reporting burden on smaller businesses. These differences make FRS 102 a practical and streamlined reporting framework for entities that do not require the full complexity of IFRS but still need robust financial reporting standards.

 

Recent changes to FRS 102

The FRC announced significant updates to FRS 102 with changes taking effect from 1 January 2026. The key amendments include:

• A new revenue recognition model, aligning with IFRS 15 but simplified for easier application.
• On-balance sheet lease accounting for lessees, in line with IFRS 16, meaning businesses must recognise most leases as assets and liabilities.
• Modifications to fair value measurement, treatment of uncertain tax positions and business combination accounting.

Why these changes were introduced

These updates aim to align FRS 102 more closely with IFRS standards while maintaining usability for smaller entities. The revised lease accounting model enhances financial statement transparency, ensuring investors and stakeholders have a clearer understanding of an entity’s financial obligations.

Implementation timeline

The FRC issued these amendments on 27 March 2024, with the changes taking effect for periods beginning on or after 1 January 2026. Businesses must begin assessing the impact of these changes now to ensure smooth compliance.

 

The impact of FRS 102 changes on businesses

Effects on financial reporting especially for leases

With most leases now appearing on the balance sheet, businesses will experience shifts in financial metrics such as gearing ratios, EBITDA and net asset values. Companies with extensive lease agreements must reassess financial reporting structures to accommodate these changes.

Balance sheet treatment for leased assets

Lessees will now record a “right-of-use” asset and a corresponding lease liability for most lease agreements. This contrasts with the previous distinction between operating and finance leases, leading to increased reported liabilities.

Implications for financial statements, tax and compliance

• Increased disclosures on lease arrangements
• Potential tax implications due to changing expense classifications
• Changes in financial covenants that businesses must monitor

 

FRS 102 lease accounting: Key changes and compliance

Shift to on-balance sheet recognition of leases

Historically, many businesses classified leases as operating leases, meaning lease expenses were recorded in the profit and loss account without appearing as liabilities on the balance sheet. This method allowed companies to keep significant financial obligations off their balance sheets, leading to potential inconsistencies in how financial obligations were reported.

Under the revised FRS 102, which aligns more closely with IFRS 16, most leases will now need to be recorded as balance sheet liabilities, alongside corresponding right-of-use assets. This change significantly impacts key financial metrics, such as debt ratios, EBITDA (earnings before interest, taxes, depreciation and amortisation) and financial planning strategies. Companies that previously relied on operating lease structures to reduce their reported liabilities will need to reassess their financial position and long-term obligations.

How businesses must adjust their financial reporting

To comply with the revised lease accounting requirements under FRS 102, businesses must take a structured approach to identifying, categorising and reporting their leases accurately.

Identify and categorise all existing leases

The first step is to identify and categorise all existing leases, including property, vehicle and equipment leases. Businesses must review lease agreements to determine which contracts now require recognition on the balance sheet and whether any exemptions apply, such as short-term leases or low-value assets.

Calculate lease liabilities and right-of-use assets

Next, companies need to calculate lease liabilities and right-of-use assets. Lease liabilities must be measured based on the present value of future lease payments, while right-of-use assets represent the value of leased assets recorded on the balance sheet. These calculations will impact financial statements and may require adjustments to financial planning and debt covenants.

Update accounting systems and software to accommodate changes

Finally, businesses should update their accounting systems and software to accommodate the new lease recognition requirements. Traditional spreadsheets and manual processes may no longer be sufficient, making it necessary to invest in lease accounting software that can automate calculations, generate required disclosures and ensure compliance with audit and regulatory requirements. Proper training for finance teams is also essential to ensure a smooth transition and accurate reporting under the new FRS 102 framework.

 

Common challenges in lease accounting under FRS 102

Navigating lease accounting under FRS 102 presents several challenges for businesses, particularly as new compliance requirements demand greater accuracy and transparency. These include:

1. Compliance risks: Errors in lease classification or incomplete data can lead to non-compliance and financial penalties.
2. Manual processing inefficiencies: Without dedicated personnel, leases may go untracked, leading to missed deadlines and financial discrepancies.
3. Decentralised lease information: Dispersed lease records make audits and financial reporting more challenging.
4. Increased workload for finance teams: Without automation, finance teams must manually collect, analyse and process lease data.
5. Risk of misstatements: The complexity of lease calculations increases the likelihood of financial reporting errors.

 

How to ensure compliance with FRS 102 changes

A comprehensive review of lease agreements is essential to ensure compliance with the updated FRS 102 lease accounting requirements. Businesses must identify all lease obligations, assess the financial impact of the transition to on-balance sheet recognition and update their financial reporting processes accordingly.

To facilitate this transition, organisations should begin extracting, collating and analysing lease data as early as possible. Cross-departmental collaboration is crucial to maintaining accurate, complete and auditable lease records, helping to streamline compliance and minimise the risk of reporting errors.

 

The role of lease accounting software in compliance

By implementing lease accounting software, businesses can achieve financial accuracy, efficiency and full regulatory compliance. Specialist software provides a centralised platform offering key features and benefits including:

• Automated lease calculations to ensure accurate financial reporting under FRS 102 and IFRS 16.
• Comprehensive reporting tools to generate audit-ready disclosure reports.
• Compliance tracking to mitigate risks and maintain compliance effortlessly.

 

How MRI Software helps with FRS 102 compliance

MRI’s proven AI powered lease accounting solution provides organisations with the tools to navigate smoothly through lease auditing, compliance and reporting with automated AI data extraction and accounting workflows. Contact us today to learn how your business can significantly reduce compliance risks.

 

FAQs