Leases

Operating Lease: Lessee

• An operating lease is economically similar to renting an asset
• A company that enters into an operating lease as the lessee records a lease expense on its income statement during the period it uses the asset
• No asset and liability is recorded on the balance sheet
• On the statement of cash flow, the full lease payment is shown as an operating cash outflow

Capital Lease: Lessee

• A capital lease is economically similar to borrowing money and buying an asset
• A company that enters into a finance lease as the lessee reports an asset (leased asset) and related debt (lease payable) on the balance sheet
• The initial value of both the leased asset and lease payable is the present value of future lease payments
• On the income statement, the company reports interest expense on the debt, and if the asset acquired is depreciable, the company reports depreciation expense
• Reported debt is higher and expenses are generally higher in the early years

Operating Lease: Lessor

• The lessor records any lease revenue when earned
• The lessor continues to report the leased asset on the balance sheet and the asset's associated depreciation expense on the income statement

Capital Lease: Lessor

• The lessor reports a lease receivable based on the present value of future lease payments and reduces its assets by the carrying value of the asset leased
• Two types of capital lease:

1. Direct financing lease - It results when the present value of lease payment (and thus the amount recorded as a lease receivables) equals the carrying value of the leased asset.
2. Sales-type lease - If results when the present value of lease payments (and thus the amount recorded as a lease receivable) exceeds the carrying value of the leased asset. A lessor reports revenue from the sale, cost of goods sold, profit on the sale, and interest revenue earned from financing the sale