In this chapter we continue our discussion of debt, but we now turn our attention to liabilities arising in connection with leases. Leases that produce such debtor/creditor relationships are referred to as finance leases by the lessee and as either direct financing or sales type leases by the lessor. We also will see that some leases do not produce debtor/creditor relationships, but instead are accounted for as rental agreements. These are designated as operating leases.
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Accounting by the Lessor and Lessee
A lease is an agreement in which the lessor conveys the right to use property, plant, or
equipment, usually for a stated period of time, to the lessee.
Lessee = Renter
Lessor = Owner of property
Capital lease Finance lease
Direct finance lease Sales-type lease
15 - 2
Finance Leases and Installment Notes Compared
Matrix acquires equipment from Apex by paying $193,878 every six months for the next three years. The interest rate associated with the agreement is 9%. Let’s look at the arrangement as an installment note payable and as a finance lease agreement. First, let’s prepare an amortization schedule for the payments.
Date Payment Interest
Initial value . . . . . . . . . . . . . . . . . . . $ 1,000,000
1 $ 193,878 $ 2 193,878
3 193,878 4 193,878 5 193,878
45,000 $ 38,300 31,300 23,983 16,338
148,878 155,578 162,578 169,895 177,540
851,122 695,544 532,966 363,071 185,532
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Inception of theAgreement At inception January 1
Installment Note Equipment
Finance Lease Leased Equipment
15 - 4
“transfers substantially all the risks and rewards of ownership of an asset to the lessee”:
1.The agreement transfers ownership of the asset to the lessee by the end of the lease term.
2.The agreement contains a bargain purchase option.
3.The non-cancelable lease term forms a major part
of the economic life of the asset. 15 - 5
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