Lease Of A Capital Lease

1981 Words8 Pages
Based off of the readings from our text, notwithstanding of the legal form of the agreement, a lease is accounted for as either a rental agreement or a purchase/sale supplemented by debt financing depending on the leasing prearrangement. However, the amount of professional judgment and ethical duty needed to determine the different type of leases, firms easily can hide the real interworking of their balance sheet.
When a firm is accounting for leases, an operating lease records no asset or liability on the financial statements. This means that the amount paid is expensed as it is acquired. On the opposite spectrum, a capital lease is recorded simultaneously an asset and a liability on the financial statements and normally at
…show more content…
If the terms above are not met, the lease is considered to be an operating lease. However, firms still use a lot of deliberate types of structuring lease contracts to try and elude capitalization. Because of this, we must ask the question of “Why do lessees/firm managers want to avoid putting leased assets and related liabilities on their balance sheets?” (Frecka, 2008). The answer is very simple:
…Putting the leases on the balance sheet may result in violation of loan covenants, affect the amount of compensation received by managers (e.g., if compensation is linked to the firm’s earnings), result in higher-reported earnings for growing firms and it can lower rates of return and increase debt to equity ratios. All of these reasons relate to the desire to give the appearance that the economic performance of the firm is stronger than it really is and that capital structure risk is lower (Frecka, 2008).

Therefore, the FASB is attempting to change the way that the types of leases are accounted for:
NORWALK, Conn.- The Financial Accounting Standards Board Sept. 16 tentatively agreed to reconfirm its plan to propose the right-of-use model, a principles-based approach in accounting for leases, but said its views could be influenced later by different issues that arise during continuing discussions.
The discussion was part of FASB 's nondecisionmaking review of an analysis of comments received on the discussion paper, Leases: Preliminary Views. The
Get Access