Under older GAAP terms, how is a lease classified as a finance (capital) lease?

Under older GAAP terms, how is a lease classified as a finance (capital) lease?

• A. If ownership transfers, there is a bargain purchase option, the lease term is a substantial portion of asset life, or the present value of lease payments is substantially all of the asset's fair value.
• B. Only if payments equal or exceed 75% of asset value.
• C. If the asset is intangible.
• D. If the lessee has option to renew for 99 years.

Answer: (A)

Under older GAAP, a lease is classified as a finance (capital) lease when the lessee effectively assumes the risks and rewards of ownership. The tests used to determine this focus on whether ownership or near-ownership benefits are transferred: if ownership transfers at the end, if there is a bargain purchase option, if the lease term is a substantial portion of the asset’s economic life, or if the present value of the minimum lease payments is substantially all of the asset’s fair value. If any one of those conditions is met, the lease is treated as a finance lease and the asset and liability are recorded on the lessee’s balance sheet, with depreciation and interest expense recognized accordingly. The other options don’t align with those criteria—a fixed 75% threshold, an intangible asset, or a long renewal option by itself does not by itself establish a finance lease under old GAAP.

Under older GAAP, a lease is classified as a finance (capital) lease when the lessee effectively assumes the risks and rewards of ownership. The tests used to determine this focus on whether ownership or near-ownership benefits are transferred: if ownership transfers at the end, if there is a bargain purchase option, if the lease term is a substantial portion of the asset’s economic life, or if the present value of the minimum lease payments is substantially all of the asset’s fair value. If any one of those conditions is met, the lease is treated as a finance lease and the asset and liability are recorded on the lessee’s balance sheet, with depreciation and interest expense recognized accordingly. The other options don’t align with those criteria—a fixed 75% threshold, an intangible asset, or a long renewal option by itself does not by itself establish a finance lease under old GAAP.