A financial or capital lease is a longer term lease

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Unformatted text preview: ial 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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