New accounting requirements impacting professional firms

In the near future the latest triennial update of the UK accounting standard ‘FRS 102’ will become effective in the UK and this will result in significant changes to professional practice financial statements.

The Financial Reporting Council is finalising the new standard which will be effective for periods commencing after 1 January 2026 (this has recently been deferred by 12 months from 2025 but we do not anticipate further delays).

The key proposed change relevant to professional practices (both LLPs and Companies) is that it will be a requirement to capitalise most operating leases as if they were finance leases, this aligns with the current treatment under the international standards (“IFRS”). Most firms lease their offices and may also have other operating leases for equipment. Under the new rules the majority of these will need to be capitalised on the balance sheet and shown in the fixed asset note as a ‘right of use asset’ with the corresponding liability being shown as a lease liability within creditors.

The complication comes in that the charge to the profit and loss account is no longer simply the rent cost. Instead, the profit and loss is charged with depreciation on the ‘right of use asset’ along with a finance charge based on the unwinding of the lease liability. The aggregate of these numbers will not equal the historic rent charge because the cost is front loaded as the interest on the lease is greater when the capital value is higher in the early years of the agreement. The longer the lease the greater the potential impact on profits.

The proposed new treatment of leases will mean firstly, added complication in the accounting process as many finance teams will not have previously dealt with lease capitalisations. In the year of adoption the comparatives will require restatement, as will the opening balance sheet at the beginning of the comparative period. Therefore, if your first applicable period is 30 April 2027, you will have to restate the numbers for 30 April 2026 plus the opening balance sheet at 30 April 2025.

The other key implication is that there will be an impact on reported profits through the adoption of this accounting method. This will need explaining to partners, as will the sudden increase in liabilities presented in the financial statements. We recommend the change is planned and communicated well in advance to avoid over distributions and to get all partners comfortable.

There are other changes in the new Standard of less relevance, the most significant of which is an alteration to the requirements for revenue recognition, again to align more closely with IFRS. For most professional service firms there will be little if any impact, but it is again worth a sense check particularly if you have complimentary income streams or unusual accounting treatments.

If you are concerned about the impact on your business the team at MHA would welcome the opportunity to discuss the implications with you in more detail.