Nace Manufacturing Company leased a piece of nonspecialized equipment for use in its operations from Righteous Leasing on January 1, 2019. The 10-year lease requires lease payments of $4,000, beginning on January 1, 2019, and at each December 31 thereafter through 2027. The equipment is estimated to have a 10-year life, is depreciated on the straight-line basis and will have no residual value at the end of the lease term. Nace's incremental borrowing rate is 11%. Initial direct costs of $1,000 are incurred by the lessee on January 1, 2019. Righteous Leasing acquired the asset just prior to the lease term at a cost of $27,000. Collection of all lease payments is reasonably assured. What is the proper classification of the lease to Nace?

Question

Quizplus · Accepted Answer

The lease is a finance lease for Nace because it transfers substantially all the risks and rewards of ownership to the lessee, as the lease term is for the major part of the economic life of the asset (10 years), and the present value of lease payments is likely to be a significant portion of the fair value of the leased asset.

Nace Manufacturing Company Leased a Piece of Nonspecialized Equipment for Use