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Lease M does not contain a purchase option, but the present value of the lease payments is equal to 91% of the fair value of the leased asset. Lease P does not transfer ownership to the lessee by the end of the lease term, but the lease term is equal to 77% of the estimated economic life of the leased asset. How should the lessee classify these leases

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Answer:

  • Lease M → Finance Lease
  • Lease P → Finance Lease

Explanation:

An operating lease is one where the leasee simply pays rental for the asset. A finance lease on the other hand, has ownership attributes even though ownership is not transferred.

According to U.S. GAAP provisions, a lease is a finance lease if the lease term in more than 75% of the estimated economic life of the leased asset and seeing as this is the case for both Lease M and P, they are both finance leases.

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