Lease

Lease

1. Definition: In a lease contract, the lessor conveys to the lessee the right to use the asset. This right is granted in exchange for the lease payment that is usually paid in installment.

2. Terminology

Executory costs

Executory costs represent costs of using assets, such as maintenance, taxes and insurance. Usually, the lessee charge it to expense when paid.

Dr. Miscellaneous lease expense

Cr. Cash

Leasehold improvements

Oftentimes, the lessee will make improvements to leased property by constructing new buildings or improving existing structures. The lessee has the right to use these improvements over the term of the lease. However, these improvements will revert to the lessor at the expiration of the lease. Leasehold improvements are capitalized to Leasehold improvements by the lessee and are amortized over the shorter of the remaining lease term or the useful life of the improvement.

Dr. Leasehold improvement

Cr. Cash

Dr. Amortization expense

Cr. Leasehold improvement

Residual value

Residual value can be unguaranteed or guaranteed. Some lease contracts require lessee to guarantee residual value to lessors.

Guaranteed residual value is considered part of the “minimum lease payment”. Both lessor and lessee consider the guaranteed residual value a final lease payment. The lessee should amortize the asset down to the guaranteed residual value.

Unquaranteed residual value is the estimated residual value of the leased asset at the end of the lease (if a guaranteed residual value exists, the unguaranteed residual value is the excess of estimated value over the guaranteed residual value).

3. Under SFAS 13, leases meeting certain criteria must be treated as capital leases.

1) The lease transfers ownership of the asset to the lessee by the end of the lease term.

2) The lease contains a bargain purchase option

3) The lease term is 75% or more of the estimated economic life of the leased asset.

4) The present value of the minimum...