This helpsheet has been issued by ICAEW’s Technical Advisory Service to help ICAEW members to understand the definition of lease term under UK GAAP and provides an example of how to apply the definition.

Members may also wish to refer to the following related helpsheets:

• Accounting for leases under FRS 102
• How does a lessee account for a rent free period under FRS 102?
• COVID-19-related rent concessions under FRS 102 and FRS 105

Lease term is defined in the glossary of FRS 102 as ‘the non-cancellable period for which the lessee has contracted to lease the asset together with any further terms for which the lessee has the option to continue to lease the asset, with or without further payment, when at the inception of the lease it is reasonably certain that the lessee will exercise the option’.

The definition of lease term is the same under FRS 105 and therefore the application is the same under both FRS 102 and FRS 105.

Significant judgement is often required when assessing the lease term where the lease contains break clauses or options to extend the lease agreement. At the inception of the lease, consideration should be given to all relevant factors including, but not limited to:

• Contractual rental payments for any optional periods (e.g. periods covered by an option to extend or before which a break clause could be exercised) compared with market rates;
• The nature and extent of any planned leasehold improvements;
• Costs relating to the termination of the lease (e.g. termination penalties, negotiation costs and relocation costs); and
• The importance of the leased asset to the operations of the entity.

An entity has taken out a 10 year lease on a property and has the option to exercise a break clause after 7 years.

The non-cancellable period for which the lessee has contracted to lease the asset would therefore be 7 years. The lessee has the option to continue to lease the property for a further 3 years (by not exercising the break clause).

The entity will need to assess whether, at the inception of the lease, it is reasonably certain that it will continue to lease the asset for the further 3 year period.

• If it was reasonably certain to do so, then the lease term would be 10 years (the 7 year non-cancellable period the lessee has contracted to lease the property for plus the additional 3 years it has the option to continue to lease the property for if it does not exercise the break clause).
• If it was not reasonably certain to do so, then the lease term would be 7 years (just the non-cancellable period the lessee has contracted to lease the property for).

ICAEW members, affiliates, ICAEW students and staff in eligible firms with member firm access can discuss their specific situation with the Technical Advisory Service on +44 (0)1908 248 250 or via webchat.