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cost of the leased asset. A financial (or capital) lease is a longer-term lease than an operating lease. Financial leases are noncancelable and obligate the lessee to make payments for the use
of an asset over a predefined period of time. Financial leases are commonly used
for leasing land, buildings, and large pieces of equipment. The noncancelable feature of the financial lease makes it similar to certain types of long-term debt. The
lease payment becomes a fixed, tax-deductible expenditure that must be paid at
predefined dates. Like debt, failure to make the contractual lease payments can
result in bankruptcy for the lessee.
With a financial lease, the total payments over the lease period are greater
than the lessor’s initial cost of the leased asset. In other words, the lessor must
receive more than the asset’s purchase price to earn its required return on the
investment. Technically, under Financial Accounting Standards Board (FASB)
Standard No. 13, “Accounting for Leases,” a financial (or capital) lease is defined
as one th...
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- Fall '13