Question

If the option is reasonably certain to be exercised, how does the inclusion of a provision that gives the lessee the option to purchase the lease asset during the lease term at a specified exercise price impact that accounting for that lease? (Select all that apply.) Check All That Apply

1. The lessor must classify the lease as a sales-type lease.
2. The lessee has the option of classifying the lease as an operating lease.
3. The lease term is assumed to end on the date that the option is expected to be exercised.
4. In the present value calculations, the lessor adds the present value of the exercise price to the present value of the periodic lease payments to determine the amount recorded as the lease receivable.
5. In the present value calculations, the lessee subtracts the present value of the exercise price from the present value of the periodic lease payments to determine the amount recorded as the lease liability.

Answer 1

In lease accounting, when a lessee's purchase option is reasonably certain to be exercised, the lessor must classify the lease as a sales-type lease, and the present value of the exercise price is included in calculating the lease receivable. The lessee does not have the option to classify the lease as an operating lease and must add the exercise price's present value to the present value of the lease payments to determine the lease liability. Option number 1 and 4 is correct.

Step-by-step explanation:

When considering how the inclusion of a provision that gives the lessee the option to purchase the lease asset at a specified price impacts the accounting for that lease, and if it is reasonably certain that the option will be exercised, several aspects must be considered. First, the lessor must classify the lease as a sales-type lease, meaning option 1 is correct. This classification is because the provision typically indicates a transfer of ownership over the lease term.

Option 2 is incorrect; the lessee does not have the discretion to classify the lease as an operating lease if the purchase option is reasonably certain to be exercised. The lease is treated as a finance lease in such cases.

The assumption that the lease term ends on the date the option is expected to be exercised (option 3) is incorrect because the lease term includes non-cancellable periods together with periods covered by an option to extend if the lessee is reasonably certain to exercise that option.

For the present value calculations, when the purchase option is reasonably certain to be exercised, the lessor includes the present value of the exercise price in determining the amount recorded as the lease receivable, making option 4 correct. Option 5 is incorrect because the lessee adds the present value of the exercise price to the present value of the lease payments to determine the lease liability, not subtract.