Question 1

You are comparing a lease to a purchase. The NPV associated with this analysis is referred to as the:

Accepted Answer

The Net Advantage to Leasing (NAL) is the NPV associated with comparing the cash flows of leasing versus purchasing an asset. It takes into account factors like the cost of financing, taxes, and depreciation. Therefore, the NAL is the appropriate measure to use when comparing a lease to a purchase.

Question 2

A firm that is very cyclical in nature and requires extra equipment only during its peak periods should consider leasing that equipment using a(n) _____ lease.

Accepted Answer

An operating lease is a type of lease in which the lessor (owner of the equipment) allows the lessee (firm) to use the equipment for a specified period of time in exchange for periodic payments. At the end of the lease period, the lessee can either return the equipment, extend the lease, or purchase the equipment at its fair market value. This type of lease is best for a firm that requires extra equipment only during its peak periods as it allows the firm to use the equipment for a short period of time without having to bear the full cost of owning it. Additionally, operating leases are treated as operating expenses and are therefore tax-deductible, which can help reduce the firm's tax liability.

Question 3

Heavy Equipment Rentals borrows money on a nonrecourse basis from The Financial Group to fund its purchases of construction equipment such as backhoes, graders, earth movers, etc. This equipment is then leased to contractors. The leases are classified as tax-oriented leases. Which one of the following terms best describes these lease of construction equipment?

Accepted Answer

Tax-oriented leases are typically leveraged leases, as they involve borrowing money to purchase the equipment and leasing it out to others. The leases are structured to provide tax benefits for the lessor and lessee. A sale and leaseback arrangement involves selling equipment that is already owned and leasing it back, while an operating lease does not involve borrowing money to acquire the equipment. Perpetual and straight leases are not commonly used terms in leasing transactions.

Question 4

Which of the following apply to the lessee of a sale and leaseback arrangement?
I. may have option to purchase asset at end of lease term
II. receives cash from the sale of the asset
III. maintains ownership rights
IV. uses the asset

Accepted Answer

In a sale and leaseback arrangement, the lessee (original owner) sells the asset and then leases it back. This means they receive cash from the sale (II), may have the option to purchase the asset at the end of the lease term (I), and continue to use the asset (IV). However, they do not maintain ownership rights during the lease term (III), as ownership is transferred to the buyer.

Question 5

Ron leases a car from Uptown Motors and pays $225 a month as a lease payment. Which one of the following terms applies to Ron?

Accepted Answer

Ron is the lessee, which means he is the person who is leasing the car from Uptown Motors.

Question 6

Kate is leasing some equipment from Ajax Leasing for a period of one-year. Ajax pays the maintenance, taxes, and insurance costs for this equipment. The life of the equipment is 7 years. Which type of lease does Kate have?

Accepted Answer

Kate has an operating lease, which means that Ajax Leasing retains ownership of the equipment and covers all the costs associated with it. This type of lease typically has a shorter lease term and is used for equipment that has a shorter useful life than the lease term. In this case, the equipment has a useful life of 7 years, but Kate is only leasing it for 1 year.

Question 7

If a lessor borrows money on a nonrecourse basis to purchase an asset that will be leased to another party, then:

Accepted Answer

In a nonrecourse loan, the lender has no recourse against the borrower in case of loan default. Thus, the lessor is only responsible for making loan payments as long as they are receiving lease payments. If the lessee discontinues making lease payments or terminates the lease early, the lessor can simply surrender the asset to the lender without any obligation to repay the loan from personal funds.

Question 8

In a direct lease, the lessor:
I. is the end user of the asset.
II. rents the leased asset from the manufacturer.
III. owns the asset.
IV. is generally an independent leasing company.

Accepted Answer

In a direct lease, the lessor (the party who leases the asset) owns the asset and is generally an independent leasing company. The lessor is not the end user of the asset and does not rent the leased asset from the manufacturer. Therefore, choices I and II are incorrect. Choice III is correct because the lessor in a direct lease owns the asset. Choice IV is also correct because the lessor is generally an independent leasing company.

Question 9

Alfredo has a non-cancelable, five year lease on an industrial-grade sewing machine for stitching upholstery. For accounting purposes, this is considered to be a capital lease. The life of the sewing machine is five years. Alfredo must pay all taxes and insurances related to this lease. Which type of lease does Alfredo have on this sewing machine?

Accepted Answer

A non-cancelable lease with a term equal to the asset's life is considered a capital or finance lease. In this type of lease, the lessee (Alfredo) is responsible for all taxes and insurances related to the leased asset. This is different from an operating lease (choice C), where the lessor is responsible for these costs. Choices A, B, and E do not accurately describe the terms of this lease.

Question 10

A financial lease:

Accepted Answer

A financial lease is also known as a capital lease in accounting terms. It is a type of lease where the lessee (the person leasing the asset) has the option to purchase the asset at the end of the lease term. The lessor (person leasing out the asset) is not responsible for maintaining the asset, as it is the lessee's responsibility. It is generally a fully amortized lease, meaning the payments made by the lessee cover the full cost of the asset. It is not called a single net lease, which is a type of commercial lease where the tenant pays rent plus property taxes. Cancelling a financial lease before the end of the lease term may result in penalties or fees.

Question 11

If a firm does not expect to owe taxes for a few years and needs some equipment, the firm should:

Accepted Answer

If a firm does not expect to owe taxes for a few years, it would not benefit from the tax deductions associated with depreciation. Leasing the equipment with the lessor retaining the tax ownership allows the firm to avoid the upfront cost of purchasing the equipment and lets the lessor, who can utilize the tax benefits, own the asset.

Question 12

Which one of the following statements is correct concerning the lease versus buy decision?

Accepted Answer

Lessors provide a source of financing for lessees. This means that when a firm leases an asset, it is essentially borrowing the asset from the lessor and making regular lease payments as repayment for the use of the asset. This can be advantageous for the lessee because it allows them to acquire and use the asset without making a large upfront investment, while also potentially providing some tax benefits.

Question 13

A financial lease:
I. is generally a fully amortized lease.
II. usually requires the lessee to insure the asset.
III. is generally cancelable without penalty if the lessee provides 30 days advance notice.
IV. is referred to as a capital lease by accountants.

Accepted Answer

A financial lease is typically a fully amortized lease (I) where the lessee is responsible for insuring the asset (II). It is not generally cancelable without penalty (III), making this statement incorrect. Financial leases are indeed referred to as capital leases by accountants (IV), making choices I, II, and IV correct.

Question 14

If a firm enters a sale and leaseback agreement, then:
I. the lessee will benefit from an immediate cash inflow.
II. both the lessor and the lessee may benefit if the lessor can benefit more from the tax benefits of ownership than can the lessee.
III. the lease automatically becomes a nonrecourse lease.
IV. the lessee forfeits the right to repurchase the asset at a later date.

Accepted Answer

I is correct because the sale results in an immediate cash inflow for the lessee. II is also correct because the lessor may benefit from the tax benefits of ownership and pass those savings on to the lessee, resulting in mutual benefits. III is incorrect because a leaseback agreement does not automatically make the lease a nonrecourse lease. IV is also incorrect because the lessee may still have the option to repurchase the asset at a later date, depending on the terms of the agreement.

Question 15

An operating lease:

Accepted Answer

Operating leases are off-balance sheet arrangements and are not recorded as assets or liabilities on the balance sheet. Instead, they are disclosed in the footnotes to the financial statements.

Question 16

A leveraged lease is a:

Accepted Answer

A leveraged lease is a type of lease in which the lessor borrows money (usually on a nonrecourse basis) to finance a portion of the cost of the leased asset. This allows the lessor to earn a higher return on their investment, while the lessee benefits from lower lease payments. The lessee does not typically own the asset for tax purposes in a leveraged lease.

Question 17

Brentwood Industries is selling its tool and die equipment to Upward Financial and then leasing that equipment from Upward for a period of ten years, which is the useful remaining life of the equipment. Which type of lease arrangement is this?

Accepted Answer

This is a sale and leaseback arrangement, as Brentwood Industries is selling the equipment to Upward Financial and then leasing it back.

Question 18

An operating lease has which of the following characteristics?
I. lessee has responsibility for the maintenance and insurance
II. lease payments cover the full cost of the asset
III. economic life of the asset exceeds the lease term
IV. lessee can cancel the lease prior to the expiration date

Accepted Answer

The answer of An operating lease has which of the...

Question 19

A financial lease in which the lessor is the owner for tax purposes is called a(n) _____ lease.

Accepted Answer

A tax-oriented lease is one in which the lessor retains ownership for tax purposes, allowing them to claim depreciation and other tax benefits while transferring many of the risks and responsibilities of ownership to the lessee.

Question 20

The party who owns a leased asset is called the:

Accepted Answer

The lessor owns the asset and leases it out to the lessee, who pays for the use of the asset.

Quiz 27: Leasing