Capital Lease / Finance Lease
A Capital Lease is a contract in which one party (the “Lessor”) gives another party (the “Lessee”) the exclusive right to use and possess its property or equipment (the “Leased Property” or “Leased Equipment”) for a specified period. Capital Leases typically have a $1 purchase option at the end of the lease.
A lease that meets any of the following criteria will be deemed to be a Capital Lease:
- The life of the lease is 75% or greater of the assets useful life;
- The lease contains a purchase agreement for less than market value;
- The lessee gains ownership at the end of the lease period; or,
- The present value of lease payments is greater than 90% of the asset’s market value.
A Capital Lease would be considered a loan for accounting purposes, whereas an Operating Lease would be treated as a True Lease or rental for accounting purposes. The choice of lease-type/classification will have an important impact on a firm’s financial statements.