Under the revised Section 20 of FRS 102, a premium a tenant pays to the landlord on the grant of a lease is a lease payment made at or before commencement, so it is added to the cost of the right of use asset and depreciated with it, usually over the lease term. Under the old operating lease rules the premium sat as a prepayment and was released to rent expense on a straight line basis over the lease term.
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What did the old FRS 102 do with a premium?
Under the previous edition of FRS 102, most property leases were operating leases. Old paragraph 20.15 required operating lease payments to be expensed on a straight line basis over the lease term, unless another systematic basis was more representative or the payments rose with expected general inflation. A premium was treated as part of the lease payments (old paragraph 16.6 says so expressly in the investment property context), so in practice it was held as a prepayment and charged as rent over the term.
What does the revised Section 20 require?
The revised section applies to accounting periods beginning on or after 1 January 2026 (paragraph 1.37(b)). At commencement the lessee recognises a right of use asset and a lease liability (paragraph 20.45). The asset is measured at cost (paragraph 20.46), and paragraph 20.47 lists what that cost comprises:
- the initial measurement of the lease liability;
- any lease payments made at or before the commencement date, less any lease incentives received, which is where the premium goes;
- any initial direct costs, defined in the glossary as incremental costs of obtaining a lease that would not have been incurred if the lease had not been obtained, such as legal fees on the grant;
- any provision under Section 21 for dismantling, removal or restoration; and
- any government grant or (for a public benefit entity) non exchange benefit within the lease.
If part of the premium is payable after commencement, for example in instalments, the unpaid part is a fixed lease payment and is included in the lease liability at its present value (paragraphs 20.49 and 20.51(a)), which then also feeds into the asset. For the components of cost in general see our page on measuring a right of use asset.
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Over what period is the premium depreciated?
The premium is no longer a separate balance; it is part of the right of use asset, which is depreciated under Section 17 (paragraph 20.57). Paragraph 20.58 sets the period: to the end of the underlying asset’s useful life if ownership transfers or the cost reflects a purchase option the lessee will exercise; otherwise to the earlier of the end of the right of use asset’s useful life and the end of the lease term. For most premises leases that means over the lease term, which includes rent free periods (paragraph 20.37) and periods covered by options the tenant is reasonably certain to exercise. Our page on break clauses and options explains how the term is set.
If the right of use asset meets the definition of investment property, for example a leasehold interest bought for a premium and sublet to earn rent, paragraph 20.60 applies the fair value model in Section 16, unless the exemption in paragraph 16.4A(b)(ii) applies. The premium is then part of the cost on initial recognition but is not depreciated.
How does it work in numbers?
Illustration only. A company takes a 15 year lease of a shop, paying the landlord a premium of £60,000 and rent of £20,000 a year in arrears. It also pays £3,000 of legal fees on the grant. Its discount rate is 6%.
| Component of cost | Amount |
|---|---|
| Lease liability (£20,000 a year for 15 years at 6%) | £194,245 |
| Premium paid at commencement | £60,000 |
| Initial direct costs | £3,000 |
| Right of use asset | £257,245 |
Entries at commencement: Dr Right of use asset £257,245, Cr Lease liability £194,245, Cr Bank £63,000. In year one the company charges depreciation of £17,150 (£257,245 over 15 years) and interest of about £11,655 on the liability, a total of £28,805. Under the old operating lease treatment the charge for rent and premium would have been £24,000 a year (£20,000 rent plus £4,000 of premium), so the new model gives a higher charge in early years and a lower one later, with the same total over the lease.
What happens to an existing premium prepayment on transition?
For a lease previously classified as an operating lease, paragraph 1.51 measures the lease liability at the present value of the remaining payments and sets the right of use asset equal to that liability, adjusted by any prepaid or accrued lease payments in the balance sheet immediately before the date of initial application. The unreleased part of a premium prepayment therefore moves into the right of use asset and is depreciated from then on. Comparatives are not restated (paragraph 1.47). See our page on lease transition.
How is the premium treated for tax?
HMRC’s Property Income Manual (PIM1202) says a premium is a sum paid on the creation of an interest in property and is capital on normal principles. Section 53 of the Corporation Tax Act 2009 denies a deduction for capital items in calculating trading profits, so the depreciation attributable to the premium is not simply allowed because the accounts now show it. HMRC’s guidance on right of use lessees (BLM50005) deals only with payments of rent.
Relief comes instead from the rules for taxed leases. Where the landlord is taxed on part of a premium for a lease of 50 years or less, a trading tenant is treated as incurring a revenue expense based on the landlord’s taxed receipt, spread on a daily basis over the receipt period for each day the premises are used for the trade (CTA 2009 sections 62 to 67; BIM46251 and BIM46255). Our page on tax on lease premiums explains how the taxed part is calculated, and SDLT on leases covers the stamp duty on the premium.
What mistakes come up most often?
- Expensing the premium immediately, or leaving it as a separate prepayment after 2026.
- Including the premium in the lease liability when it has already been paid.
- Depreciating over a term that ignores options the tenant is reasonably certain to exercise.
- Claiming a tax deduction for the whole depreciation charge, including the premium element.
- Confusing a premium paid to the landlord with a reverse premium received from the landlord, which is a lease incentive and reduces the cost of the asset.
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Related Accountapedia entries
- Can a dividend be paid out of share premium
- Insurance premium tax
- SDLT when a tenant holds over after a lease ends
- The share premium account
- Recording dividends in the accounts
Related cover: Landlord insurance explained, Tax investigation insurance for landlords and Rent guarantee insurance.
Sources
- Financial Reporting Council: FRS 102 The Financial Reporting Standard applicable in the UK and Repu
- Financial Reporting Council: FRS 102 September 2024 tmKYWO6
- GOV.UK: Manual page PIM1202
- legislation.gov.uk: Act 2009 c. 4, section 53
- GOV.UK: Manual page BLM50005
- GOV.UK: Manual page BIM46251
- GOV.UK: Manual page BIM46255
Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 24 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.